Planning to fail: Three fatal capitalization mistakes for startups

When it comes to startups 99% need capital to get started. Businesses need money to get started. Offices need to be leased, products need to be bought, employees need to be paid. And usually all this has to happen BEFORE the first dollar of revenue hits the bank. Capitalization is so important, but it's usually given the least amount of attention. Not surprisingly this is what causes most to fail. When it comes to capitalization avoid these three mistakes.

1. Making decisions before you've got capitalization figured out. What's the number one thing most business founders do first, before they even think about anything else? They lease an office. Some will start manufacturing product or ordering inventory, but most will go out and sign a lease. This immediately paints the owner into a corner, and commits them to the single largest fixed cost they'll face during their first year in business. Soon, other decisions are being made based on this commitment. Insurance is obtained, furniture and warehouse racks are bought, renovations may be made. Pretty soon you're building a business around a lease (or an inventory purchase, or a manufacturing relationship). Here's the thing. Businesses must be built around customers. That means the business must be planned top to bottom to address customer needs. This type of planning takes time and effort, but until you do it you won't know where your dollars need to be spent.
   
   
   
   


2. Taking the wrong kind of money. When it comes to capitalizing a business there are many choices. Founders can use their own money; they can borrow money and lend it to the business; they can have the business borrow money from banks; they can find investors, private lenders or some combination of the two... The possibilities are numerous, but each carries with it a unique implication for how the business will be operated. Before you cash your brother-in-law's check make sure you know what kind of "investment" he thinks he's making. What you perceive as a loan may turn out to be your new 50/50 partner's capital contribution.
   
   
   
   


3. Substituting capital for revenue. Fred DeLuca, founder of Subway, has a great book all aspiring business owners should read. In Start Small Finish Big he devotes the first chapter to "Earn a Few Pennies." Startups need to figure out how to start making money from customers as quickly as possible. Sometimes the availability of deep pockets makes business founders sloppy. By far one of the biggest problems we see is UNDER capitalized startups, but OVER capitalization can be just as big a problem. The tendency to build infrastructure, retool products, tweak marketing, hire talent and spend, spend, spend derails many businesses who forget that if the customer doesn't like what you're selling all the money in the world won't matter. Get to market fast, test your idea, and make a few pennies before you start spending dollars.