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The blog post by Paul Graham discusses how startup founders can identify themselves as either default dead or alive.
When I talk to startups operating for more than 8 or 9 months, the first thing I want to know is almost always the same. Assuming their expenses remain constant and their revenue growth is what it has been over the last several months, do they make it to profitability on the money they have left? Or, to put it more dramatically, do they live or die by default?
The startling thing is how often the founders themselves don't know. Half the founders I talk to need to find out whether they are default alive or default dead.
If you're among that number, Trevor Blackwell has made a handy calculator you can use to find out.
I want to know first whether a startup is default alive or default dead because the rest of the conversation depends on the answer. If the company is default alive, we can talk about ambitious new things it could do. If it's default dead, we need to talk about how to save it. We know the current trajectory ends badly. How can they get off that trajectory?
Why do so few founders know whether they are default alive or default dead? Mostly because they're not used to asking that. It's not a question that makes sense to ask early on, any more than it makes sense to ask a three-year-old how he plans to support himself. But as the company grows older, the question switches from meaningless to critical. That kind of switch often takes people by surprise.
I propose the following solution: instead of asking too late, whether you are default alive or default dead, start asking too early. It's hard to say precisely when the question switches polarity. But it's probably not that dangerous to begin worrying too early that you are default dead, whereas it's perilous to start worrying too late.
The reason is a phenomenon I wrote about earlier: the fatal pinch. The fatal fraction is default dead + slow growth + not enough time to fix it. And the way founders end up in it is by not realizing that's where they're headed.
There is another reason founders don't ask themselves whether they are default alive or default dead: they assume it will be easy to raise more money. But that assumption is often false, and worse still, the more you depend on it, the false it becomes.
It may help to separate facts from hopes. Instead of thinking of the future with vague optimism, separate the components. Say, "We are default dead, but we're counting on investors to save us." As you say, it will set off the same alarms in your head that it does in mine, and if you set off the alarms sufficiently early, you may be able to avoid the fatal pinch.
It would be safe to be default dead if you could count on investors saving you. As a rule, their interest is a function of growth. If you have steep revenue growth, say over 5x a year, you can start to count on investors being interested even if you're not profitable. But investors are so fickle that you can only begin to rely on them. Sometimes something about your business will spook investors, even if your growth is excellent. So no matter how good your development is, you can never safely treat fundraising as more than a plan A. You should always have a plan B as well: you should know (as in write down) precisely what you'll need to do to survive if you can't raise more money and exactly when you'll have to switch to plan B if plan A isn't working.
In any case, growing fast versus operating cheaply is far from the sharp dichotomy many founders assume it to be. In practice, there needs to be more connection between how much a startup spends and how fast it grows. When a startup grows fast, it's usually because the product hits a nerve, hitting some significant need straight on. When a startup spends a lot, it's usually because the product is expensive to develop or sell or simply because they're wasteful.
If you're paying attention, you'll be asking at this point not just how to avoid the fatal pinch but how to prevent being default dead. That one is easy: hire slowly. Hiring too fast is the biggest killer of startups that raise money.
Founders tell themselves they need to hire to grow. But most err on overestimating rather than underestimating it, and it's because there's so much work to do. Naive founders think that if they can hire enough people, it will all get done because successful startups have many employees, so that's what one does to be successful. The large staffs of successful startups are more the effect of growth than the cause. And partly because when founders have slow growth, they want to avoid facing what is usually the real reason: the product needs to be more appealing.
Plus, founders who've just raised money are often encouraged to overhire by the VCs who funded them. Kill-or-cure strategies are optimal for VCs because the portfolio effect protects them. VCs want to blow you up, in one sense of the phrase or the other. But as a founder, your incentives are different. You want, above all, to survive.
Here are some common ways startups die. They make something moderately appealing and have decent initial growth. They raise their first round reasonably quickly because the founders seem intelligent, and the idea sounds plausible. But because the product is only moderately appealing, growth is ok but could be better. The founders convince themselves that hiring a bunch of people is the way to boost growth. Their investors agree. But (because the product is only moderately appealing) the change never comes. Now they're rapidly running out of runway. They hope the further investment will save them. But because they have high expenses and slow growth, they're now unappealing to investors. They're unable to raise more, and the company dies.
The company should have addressed the fundamental problem: that the product is only moderately appealing. Hiring people is rarely the way to fix that. More often than not, it makes it more challenging. At this early stage, the product needs to evolve more than to be "built out," and that's usually easier with fewer people.
Asking whether you're default alive or default dead may save you from this. The alarm bells it sets off will counteract the forces pushing you to overhire. Instead, you'll be compelled to seek growth in other ways, for example, by doing things that don't scale or redesigning the product in the way only founders can. And for many, if not most, startups, these paths to growth will be the ones that work.
Airbnb waited four months after raising money at the end of Y Combinator before they hired their first employee. In the meantime, the founders were overworked. But they were overworked evolving Airbnb into the astonishingly successful organism it is now.