A startup company or startup or start-up(sometimes referred as innovative SME) is an entrepreneurial venture or a new business in the form of a company, a partnership or temporary organization designed to search for a repeatable and scalable business model. These companies, generally newly created, are innovation in a process of development, validation and research for target markets. The term became popular internationally during the dot-com bubble when a great number of dot-com companies were founded. Due to this background, many consider startups to be only tech companies, but this is not always true: the essence of startups has more to do with high ambition, innovativeness, scalability and growth.
The term “startup” has been bandied around with increasing frequency over the past few years to describe scrappy young ventures, hip San Francisco apps and huge tech companies. But what is a startup, really?
“A startup is a company working to solve a problem where the solution is not obvious and success is not guaranteed,” says Neil Blumenthal, cofounder and co-CEO of Warby Parker.
Those who sip the startup Kool-Aid define it as a culture and mentality of innovating on existing ideas to solve critical pain points.
“Startup is a state of mind,” says Adora Cheung, cofounder and CEO of Homejoy, one of the Hottest U.S. Startups of 2013. “It’s when people join your company and are still making the explicit decision to forgo stability in exchange for the promise of tremendous growth and the excitement of making immediate impact.”
According to Merriam-Webster, start-up means “the act or an instance of setting in operation or motion” or “a fledgling business enterprise.” The American Heritage Dictionary suggests it is “a business or undertaking that has recently begun operation.” Therein lies the rub – to be a startup, you must have set up shop recently.
Though there are no hard and fast rules on defining a startup since revenues, profits, and employment numbers shift drastically between companies and industries, we’ve filtered out the chatter of coworking spaces and hoodie-wearing employees to start concretely defining a startup.
“A company five years old can still be a startup,” writes Y Combinator accelerator head Paul Graham via email. “Ten [years old] would start to be a stretch.”
I’ll go out on a limb and say categorically that after about three years in business, most startups cease being startups. This often coincides with other factors that indicate a graduation from startup-dom: acquisition by a larger company, more than one office, revenues greater than $20 million, more than 80 employees, over five people on the board, and founders who have personally sold shares. Somewhat ironically, when a startup becomes profitable it is likely moving away from startuphood.
One thing we can all agree on: the key attribute of a startup is its ability to grow. As Graham explains, a startup is a company designed to scale very quickly. It is this focus on growth unconstrained by geography which differentiates startups from small businesses. A restaurant in one town is not a startup, nor is a franchise a startup.
In recent years, popular lexicon has begun equating startups with tech companies, as though the two are inherently intertwined. Is Uber, the car-hailing app which has raised a whopping $307 million in total funding for a reported valuation of $3.5 billion, really still a startup? Well, no – it’s a multinational logistics company which will generate a reported $213 million in revenue this year. Certainly, startups often adapt technology to solve problems and the ubiquity of that technology – 98% of Americans have access to the Internet, while more than half have smartphones – allows the critical growth. Though it often is, a startup does not, by definition, have to be tech-oriented. And when a tech startup has grown so big it’s generating multimillion dollar profits, we should acknowledge its status as a startup graduate.
In compiling The Hottest Startups Of 2013, I noticed organizations from real estate agents to nonprofits calling themselves startups because of the lure of innovation attached. (For more on philanthropic startups, read A New Nonprofit Model: Meet The Charitable Startups.) To be a startup is to claim a freshness that suggests a finger on the pulse of the future. The label may even help companies to cash in on a “cool” factor when hiring, allowing them to snap up qualified staff on the cheap who are attracted by the promise of innovation and a ping-pong table.
Still, founders protest that a startup is a culture not delineated by metrics, and that a startup can remain so at all ages and sizes.
“It stops being a startup when people don’t feel as though what they are doing has impact,” said Russell D’Souza, co-founder of ticket search engine SeatGeek. “I don’t think the tipping point is a certain number of people, but an atmosphere that people individually and collectively can’t will the company to success.”
“But keeping that dynamic culture at a company gets much harder with every new employee and with every year that passes,” noted Matt Salzberg, CEO and cofounder of dinner set delivery service Blue Apron.
Many founders would also disagree that acquisition negates startup status. Although the terms of acquisitions differ, an acquired startup becomes part of a bigger company and necessarily a different entity. Similarly, a company contemplating an IPO or one that has already gone public is far from being a startup. And if you’re flying first class and wearing a suit to work, you’re likely no longer a startup, either.
If you are generating revenues below $20 million, have less than 80 employees, and remain resolutely in control of the company you started, you’re likely running a startup. Likewise, if you’ve just set up a tiny for-profit enterprise and are intent on it becoming big enough to take over the world – even if you’re still working from your bedroom – you’re probably a startup founder.
A startup is a young company that is just beginning to develop. Startups are usually small and initially financed and operated by a handful of founders or one individual. These companies offer a product or service that is not currently being offered elsewhere in the market, or that the founders believe is being offered in an inferior manner.
In the early stages, startup companies' expenses tend to exceed their revenues as they work on developing, testing and marketing their idea. As such, they often require financing. Startups may be funded by traditional small business loans from banks or credit unions, by government-sponsored Small Business Administration loans from local banks, or by grants from nonprofit organizations and state governments. Incubators can provide startups with both capital and advice, while friends and family may also provide loans or gifts. A startup that can prove its potential may be able to attract venture capital financing in exchange for giving up some control and a percentage of company ownership.
Because startups don't have much history and may have yet to turn a profit, investing in them is considered high risk. Here are some ways that potential lenders and investors can value a startup in the absence of revenues:
- The cost to duplicate approach looks at the expenses the company has incurred to create its product or service, such as research and development and the purchase of physical assets. However, this valuation method doesn't consider the company's future potential or intangible assets.
- The market multiple approach looks at what similar companies have recently been acquired for. The nature of a startup often means that there are no comparable companies, however. Even when there are comparable company sales, their terms may not be publicly available.
- The discounted cash flow approach looks at the company's expected future cash flow. This approach is highly subjective.
- The development stage approach assigns a higher range of potential values to companies that are further developed. For example, a company that has a clear path to profitability would have a higher valuation than one that merely has an interesting idea.
Because startups have a high failure rate, would-be investors should consider not just the idea, but the management team's experience. Potential investors should also not invest money that they cannot afford to lose in startups. Finally, investors should develop an exit strategy, because until they sell, any profits exist only on paper.