Stop Playing the Entrepreneurial Lottery: Less Than 1% of Entrepreneurs are Funded by Anyone Other Than Mom

I recently read that only about two hundredths of one percent of small businesses are funded by venture capital firms. It’s such a small number, I can’t even fathom how miniscule it is.  With all of the energy focused on pitching, elevator speeches, and the rock-star-status entrepreneurs bestow upon VCs, it’s hard to imagine that 99% of startups will never be funded.  Yet, an enormous number of the entrepreneurs our lawyers speak with each day are focused on structuring their businesses in a manner that would be appealing to a (mythological) VC firm.

There are countless blogs, hundreds of articles, and dozens of gurus with gigantic Twitter followings devoted to explaining the funding “timeline” for a startup with expectations of success: the bootstrapping stage, the stage where entrepreneurs use (and exhaust) personal resources, the ask your family for a loan stage, the cajole your friends stage, the “angel” investor stage, and the VC stage.  Of course, this all apparently leads to an IPO.

The reality is that the substantial majority of startups never progress beyond bootstrapping and growing with their personal resources.  Most of those that do have only a single investor – Mom.

The Facts

The Kauffman Foundation has crunched the numbers and found that only 10% of all small businesses had any sort of external funding, and of those few businesses that did, parents made up the lion share.  Here’s the breakdown:

There are more than 25 million small businesses in this country, and more than half a million startups launch every single year.  Despite the fact that parents are the most likely source of capital beyond your own personal resources, there are no meet-ups designed to teach us how to wine and dine our moms.  Instead, most entrepreneurs are focused on honing their elevator speech and jumping through hoops to attract the least likely source of funding – VCs.

The venture capital success stories (e.g., Apple Computer, Google) are impressive, but as pointed out by another Kauffman study, there is no evidence that these companies could not have achieved similar results with other sources of capital.  The disbelievers might discount the Kauffman research data, because they believe their own businesses are special, high growth technology companies that fall into a special class of startup.  Nope.  Sorry.  Only about 16% of all Inc. 500 companies (arguably the fastest growing companies among all startups) received VC money.  In other words, more than 80% of the fastest growing startups required no VC money to make it onto the list (see, http://www.kauffman.org/uploadedFiles/USVentCap061009r1.pdf).

Advice for 99% of All Startups

Here’s some advice for the 99% of small businesses that will never attract an equity investment:

1.         Keep the structure as simple as possible.  If you keep your initial structure simple, it’s very easy to restructure it later to accommodate the requirements of an investor.  Structure your business for your personal and tax needs right now, not based on what might happen down the road.

2.         Most Successful Businesses Never Had Equity Investors. Not only do the majority of businesses never make it past the stage where businesses are funded by an entrepreneur’s own resources, the reality is that they don’t need to either.  Remember that 99% of all businesses and more than 80% of the fastest growing businesses in this country have no equity investors.

3.         Don’t Even Plan to Seek out Funding unless there is a Good Reason for Funding.  I love the saying “If you give a consultant your watch, he’ll tell you what time it is.”  Keep in mind that starting a business is a lot of trial and error, no matter how experienced you are.  Mike Tyson says, “Everyone has a plan until you get punched in the face.”  I don’t care how experienced your mentor is, if you are starting a business, get ready to be punched in the face – a lot. Most of the sage advice you will receive will be wrong.  There is no substitute for persevering through the mistakes you will make, and you will make them regardless of who is riding shotgun.

4.         Don’t Get Stuck at the Starting Gate.  It’s so simple to start a business in this country.  Don’t get stuck at the starting gate, contemplating a laundry list of things that absolutely don’t matter.  The frozen entrepreneur wastes time on how to structure a new venture in the best way to satisfy the mythical VC.  Rather than just starting the business, the frozen entrepreneur is stuck on Cliff Vesting, Series A and B shares, and 83(b) elections.  What’s really going on here?  Entrepreneurs face enormous obstacles, and it’s scary.  There are a million reasons why the average person does not start a business, and for many would-be entrepreneurs it’s fear.  By focusing on issues that don’t matter, many entrepreneurs are just delaying the entrepreneurial leap.  Jump.  What’s the worst that could happen?

5.         Anything worth doing is worth doing slowly and methodically.   Given enough time, you can accomplish almost anything.  Based on watching startups for nearly twenty years, time and patience is nearly equal to the value of a small investment an angel might make in your company.  If you think you need to “scale up” and be first at something, think again.  There are so many examples of businesses that are first fail, and those that follow are the success stories.

6.         Dealing with Investors is Awful.  There are so many benefits of having no investors.  If you don’t have an investor, you rarely spend money on legal fees.  It’s that simple.  You don’t spend money on fancy business structures, and you never spend money dealing with internal disputes.  Rarely does an investor have the same vision, the same time frame, the same perspective, and the same belief system as the founder.  Oh, unless that investor is your mom.  She loves you.  Pitch her.  She’ll believe in you no matter what.

There’s no question that the mentoring, coddling, resources, and capital of some seed incubators are of great value for the first-time founder. If you are one of the lucky few that win the entrepreneurial lottery and get accepted into these programs, good for you!  However, if you are playing the odds, you are far better off remembering your mom on her birthday and Mother’s day.

Maybe I should start a meet-up focused on how to woo your mom.