December 2014Many startups go through a point a few months before they die wherealthough they have a significant amount of money in the bank, they'realso losing a lot each month, and revenue growth is either nonexistentor mediocre. The company has, say, 6 months of runway. Or to putit more brutally, 6 months before they're out of business. Theyexpect to avoid that by raising more from investors.[1]That last sentence is the fatal one.There may be nothing founders are so prone to delude themselvesabout as how interested investors will be in giving them additionalfunding. It's hard to convince investors the first time too, butfounders expect that. What bites them the second time is a confluenceof three forces: The company is spending more now than it did the first time it raised money. Investors have much higher standards for companies that have already raised money. The company is now starting to read as a failure. The first time it raised money, it was neither a success nor a failure; it was too early to ask. Now it's possible to ask that question, and the default answer is failure, because at this point that is the default outcome.I'm going to call the situation I described in the first paragraph "the fatal pinch." I try to resistcoining phrases, but making up a name for this situation may snapfounders into realizing when they're in it.One of the things that makes the fatal pinch so dangerous isthat it's self-reinforcing. Founders overestimate their chancesof raising more money, and so are slack about reachingprofitability, which further decreases their chances of raisingmoney.Now that you know about the fatal pinch, how do you avoid it? Y Combinator tellsfounders who raise money to act as if it's the last they'll everget. Because the self-reinforcing nature of this situation worksthe other way too: the less you need further investment, the easierit is to get.What do you do if you're already in the fatal pinch? Thefirst step is to re-evaluate the probability of raising more money.I will now, by an amazing feat of clairvoyance, do this for you:the probability is zero. [2]Three options remain: you can shut down the company, you can increasehow much you make, and you can decrease how much you spend.You should shut down the company if you're certain it willfail no matter what you do. Then at least you can give back themoney you have left, and save yourself however many months you wouldhave spent riding it down.Companies rarely have to fail though. What I'm really doinghere is giving you the option of admitting you've already given up.If you don't want to shut down the company, that leaves increasingrevenues and decreasing expenses. In most startups, expenses =people, and decreasing expenses = firing people.[3]Deciding tofire people is usually hard, but there's one case in which itshouldn't be: when there are people you already know you shouldfire but you're in denial about it. If so, now's the time.If that makes you profitable, or will enable you to make it toprofitability on the money you have left, you've avoided the immediatedanger.Otherwise you have three options: you either have to fire goodpeople, get some or all of the employees to take less salary for awhile, or increase revenues.Getting people to take less salary is a weak solution that willonly work when the problem isn't too bad. If your current trajectorywon't quite get you to profitability but you can get over the thresholdby cutting salaries a little,you might be able to make the case to everyone for doing it.Otherwise you're probably just postponing the problem, and thatwill be obvious to the people whose salaries you're proposing tocut.[4]Which leaves two options, firing good people and making more money.While trying to balance them, keep in mind the eventual goal: to bea successful product company in the sense of having a single thinglots of people use.You should lean more toward firing people if the source of yourtrouble is overhiring. If you went out and hired 15 people beforeyou even knew what you were building, you've created a brokencompany. You need to figure out what you're building, and it willprobably be easier to do that with a handful of people than 15.Plus those 15 people might not even be the ones you need for whateveryou end up building. So the solution may be to shrink and thenfigure out what direction to grow in. After all, you're not doingthose 15 people any favors if you fly the company into ground withthem aboard. They'll all lose their jobs eventually, along withall the time they expended on this doomed company.Whereas if you only have a handful of people, it may be better tofocus on trying to make more money. It may seem facile to suggesta startup make more money, as if that could be done for the asking.Usually a startup is already trying as hard as it can to sellwhatever it sells. What I'm suggesting here is not so much to tryharder to make money but to try to make money in a different way.For example, if you have only one person selling while the rest arewriting code, consider having everyone work on selling. What goodwill more code do you when you're out of business? If you have to write code to close a certain deal, go ahead;that follows from everyone working on selling. But only work onwhatever will get you the most revenue the soonest.Another way to make money differently is to sell different things,and in particular to do more consultingish work. I say consultingishbecause there is a long slippery slope from making products to pureconsulting, and you don't have to go far down it before you startto offer something really attractive to customers. Although yourproduct may not be very appealing yet, if you're a startup yourprogrammers will often be way better than the ones your customershave. Or you may have expertise in some new field theydon't understand. So if you change your sales conversationsjust a little from "do you want to buy our product?" to "what doyou need that you'd pay a lot for?" you may find it's suddenly alot easier to extract money from customers.Be ruthlessly mercenary when you start doing this, though. You'retrying to save your company from death here, so make customers paya lot, quickly. And to the extent you can, try to avoid theworst pitfalls of consulting. The ideal thing might be if you builta precisely defined derivative version of your product for thecustomer, and it was otherwise a straight product sale. You keepthe IP and no billing by the hour.In the best case, this consultingish work may not be just somethingyou do to survive, but may turn out to be the thing-that-doesn't-scale that defines yourcompany. Don't expect it to be, but as you dive into individualusers' needs, keep your eyes open for narrow openings that havewide vistas beyond.There is usually so much demand for custom work that unless you'rereally incompetent there has to be some point down the slope ofconsulting at which you can survive. But I didn't use the termslippery slope by accident; customers' insatiable demand for customwork will always be pushing you toward the bottom. So while you'llprobably survive, the problem now becomes to survive with the leastdamage and distraction.The good news is, plenty of successful startups have passed throughnear-death experiences and gone on to flourish. You just have torealize in time that you're near death. And if you're in the fatal pinch,you are.Notes[1]There are a handful of companies that can't reasonably expectto make money for the first year or two, because what they'rebuilding takes so long. For these companies substitute "progress"for "revenue growth." You're not one of these companies unlessyour initial investors agreed in advance that you were. And franklyeven these companies wish they weren't, because the illiquidity of"progress" puts them at the mercy of investors.[2]There's a variant of the fatal pinch where your existinginvestors help you along by promising to invest more. Or rather,where you read them as promising to invest more, while they thinkthey're just mentioning the possibility. The way to solve thisproblem, if you have 8 months of runway or less, is to try to getthe money right now. Then you'll either get the money, in whichcase (immediate) problem solved, or at least prevent your investorsfrom helping you to remain in denial about your fundraising prospects.[3]Obviously, if you have significant expenses other than salariesthat you can eliminate, do it now.[4]Unless of course the source of the problem is that you're payingyourselves high salaries. If by cutting the founders' salaries tothe minimum you need, you can make it to profitability, you should.But it's a bad sign if you needed to read this to realize that.Thanks to Sam Altman, Paul Buchheit, Jessica Livingston, andGeoff Ralston for reading drafts of this.
