Ask HN: A startup runs at a loss for 6+ years, gets acquired. Was it a success?

https://news.ycombinator.com/item?id=9563418

by nstart • 11 years ago

54 46 11 years ago

news.ycombinator.com

I've mulled over this question for some time now. I've kept watching startups (both funded, and bootstrapped) that never generate a profit (not even close), don't get much traction, and then get acquired by some bigger name company. The founders celebrate the success of their venture and add it to their successful entrepreneurial resume.

But does it really count as a success? Is there something about economics that I'm missing? Is it only about how much money you get back into your (or your investors) pockets? Does the term acquisition actually mean more than "rescued from drowning"?

I don't want this to come off sounding negative. I just want to understand what I'm not getting. Thanks in advance.

Varkiil• 11 years ago

In the end, the goal of a startup is to either generate profit or be sold. Your startup got aquired by a company ? great job ! Your startup is a success.

adventured• 11 years ago

Here's the only thing you're not getting: success is a subjective term. It begs the question: by whose standard?

It's really that simple.

Some people would count selling into an acquihire outcome a success. Maybe because building the product was a fun adventure and they managed to actually ship it. They got a little bit of money, and now have nice jobs with Google. So to those people, based on their subjective view, it was a success.

Other people would take the opposite view, that it was a capitulation into the acquihire outcome and a failure. It's all strictly based on an individual's standard of what success means (which can also vary dramatically based on context).

amirmc3• 11 years ago

Indeed. Just consider all those "Our incredible journey" posts that used to come with news of an acquihire. Would those early customers consider it a 'success'?

ndesaulniers• 11 years ago

Unrelated, but you don't list contact info in your profile:

I love this quote of yours: https://news.ycombinator.com/item?id=9339307

I've added it to this page (a github project about awesome comments from HN): https://github.com/thomshutt/infinite-monkeys/pull/5

I also gave it to a reporter recently who asked why I hadn't started a business yet: http://www.democratandchronicle.com/story/money/business/201...

mukundmr• 11 years ago

There should be some perceived value for acquisition to happen. As long as the start up was able to build that value and hence get acquired, it was definitely a success.

gizmo• 11 years ago

A large corporation doesn't have the agility or culture to experiment with risky projects. Nor do they want to, because when a bigcorp project publicly fails the PR hit will shave billions off their market cap.

A startup on the other hand can take these risks freely. Startups are expected to fail, so the fallout can be managed easily. Recognizing this advantage, entrepreneurs start businesses with the express purpose to be sold to a large company. That's the goal from day #1. So the product is really the company itself: the people, the IP, the early-adopter customer base, the proof-of-concept tech.

The large business has money and infrastructure necessary to turn something small into something big. The startup can experiment freely and be risky and irresponsible. It's a win-win. The large business doesn't care if the startup makes $1M or -1$M, because both numbers round to zero.

Startups that focus on profitability at the expense of growth tend to turn into lifestyle companies.

When companies without traction get acquired, it's typically a talent acquisition. The tech gets discarded. Not much money is involved, but the entrepreneurs get to claim a successful exit. This makes it much easier for them to raise money for their next venture. When companies are forced to sell because they've run out of money that's not a success, but a graceful failure.

bsbechtel• 11 years ago

>A large corporation doesn't have the agility or culture to experiment with risky projects. Nor do they want to, because when a bigcorp project publicly fails the PR hit will shave billions off their market cap.

In general I agree with you, but Apple, Google, and Amazon all have very risky, very high profile internal projects in their portfolios. These are also the main companies playing the acquisition game in SV.

austenallred2• 11 years ago

Regardless of how risk-tolerant a company is, no company would ever pretend to have a monopoly on successful innovation. The only scenario in which there would be zero acquisitions would be if the company could create everything that would be of value to it within the company. Of course, that will never happen.

onion2k• 11 years ago

In general I agree with you, but Apple, Google, and Amazon all have very risky, very high profile internal projects in their portfolios.

When you're that big a failure tends to be written up as "They tried and couldn't do it, so it must be impossible. But weren't they brilliant for trying!" Failure is marketed as success.

wernercd• 11 years ago

So they have some R&D... but how much can each company really do at any given moment? For every research project Apple or Microsoft does, how many projects are under work at $random_startup? For ever good thought Apple or MS has, how many ideas does someone come up with that otherwise would have never been considered?

qq66• 11 years ago

Their high risk internal projects are billion-dollar gambles like virtual reality and self-driving cars that need their scale and resources. They don't typically experiment with anonymous chat apps, photo apps that change the image to make it look like it's from the '70s, etc.

volaski• 11 years ago

Exactly like you said, Apple had Ping. Google had Google plus, Wave, Google Glass, and countless other projects that failed horribly. And you can't say these failures didn't affect them at all. These PR hits DO shave billions off their market cap, not to mention their confidence to take more risks.

codingdave• 11 years ago

You say "lifestyle companies" as if that is a bad thing.

I enjoy working for a small company where we are paid well, stable, profitable, have been for years, and everyone still leads a very fulfilling life outside of work.

And even so, our growth rates are well above average... just not the hyper growth expected of a startup.

vinceguidry• 11 years ago

The defensiveness is unwarranted. He wasn't saying it like it was a bad thing, it's just a different mindset, that's all.

It's good that there are different reasons and mindsets to entrepreneurship and there's no reason for anyone to get territorial about their preferred method. Plenty of room for everyone.

amirmc3• 11 years ago

"... entrepreneurs start businesses with the express purpose to be sold to a large company. That's the goal from day #1."

This is a rather narrow view and is not necessarily true. Plenty of people start companies to solve (or even explore) problems. Liquidity events (M&A, IPO, etc) are not always the end-game.

mod• 11 years ago

I think it's just missing a word--I didn't read it the way you did.

entrepreneurs often start businesses with the express purpose to be sold to a large company

S4M• 11 years ago

When companies without traction get acquired, it's typically a talent acquisition. The tech gets discarded.

Why would a big company want the "talent" that couldn't produce any useful tech even given the freedom working in a startup provides?

danieltillett2• 11 years ago

I may be a romantic, but success is more than financial. I would rather have built a company that built something worthwhile and helped people and sold for $1 than one that produced nothing of value and sold for $50 million.

rl32• 11 years ago

I agree, but think about how many people you could help with your share of the $50 million, though (assuming of course that you didn't get screwed and your share amounted to significantly more than $0).

danieltillett2• 11 years ago

I was of course assuming here that I would get none of the $50 million :)

More seriously I have given up in the past on substantial financial rewards because I felt it was not a path I was wanted to pursue. It is rare you will ever get to choose between $50 million and $1, but you will be faced with smaller versions of this every day. While you may die poorer, my belief is that you should always choose integrity and substance over money and hype.

vdaniuk• 11 years ago

I share your values but I don't consider myself to be a romantic. On the contrary, to my current knowledge building a sustainable non-profit org or social enterprise that has a chance to benefit a large number of people is more rewarding and meaningful than building a profitable startup. After a certain threshold happiness doesn't increase with income, so treating success as something multi-dimensional is perfectly aligned with self interest.

However, startups are optimized for high returns for investors(higher priority) and founders(lower priority). While some startup business models do have positive externalities it is usually a instrument for financial success, not a goal in itself.

Sucess or failure of a startup should be judged by its goals: profits for the stakeholders. The value generated by the startup should be assessed by the same criteria. Thus it's technically incorrect to say that a startup sold for $50 million produced nothing of value.

dylanjermiah• 11 years ago

You can not sell something of no value for $50mm. It may not be worth a specific price to you, but it was to someone else. That makes it valuable.

mgmtconsultant• 11 years ago

From a financial standpoint, there is a simple way to look at this. Did the acquisition price:

(a) Return the investors money? (b) Compensate the founders for the opportunity cost of their time?

If so, then the acquiring company valued the startup as being worth more than the resources that went into it, so the startup created value.

With most acquihires, I think the answer to both (a) and (b) is "no", so it's not fair to call the startup a success.

There are other considerations - the value the startup created for customers, the enjoyment of the founders, the treatment of the startup employees, and so forth. But if you burnt investor money and / or didn't make back the cost of your time, it's hard to call it a success.

robocat• 11 years ago

Risk needs to be included.

If the chances of total failure ($0 return) are 9/10, then anything less than a 10x return is a failure in my opinion.

Also as an individual, there is a cost to "volatility" so the payoff needs to be even higher to account for that too.

neltnerb• 11 years ago

I don't think this is the right way to look at it after you exit. At that point there is no more risk, so that should be compared directly to the opportunity cost (if you're the entrepreneur at least). If you're the VC, making exactly the expectation value (risk*reward) isn't a success, but it's hardly a failure as long as it's beating market rates...

nstart• 11 years ago

Thanks a lot for all the comments so far people. I try to keep myself open to change and I've already changed how I look at acquisitions and success. gizmo's and adventured's answers really helped. Thanks!

As a by the by, I used to look at acquisitions with a lot of awe. But a lot of conversations with my father (who's run his own software biz for 29 years) made me look at the other side of a bunch of companies burning money. I didn't have an answer for how the economics could possibly work. So my awe was just from a perspective of "wow this sounds cool on Tech Crunch". I'll have a better base to discuss during my next chat with dad :).

sgc• 11 years ago

I think what you are looking for is MIRR: Modified internal rate of return.

What were the initial and later cash investments? What was the opportunity cost to the founders? When was that money and time spent? When were they payed and how much? Compare this to what they could have done otherwise with the same investment money and time used otherwise and deployed during the same period, and you have your answer. In this case that time is valued on one's capacities, so it is a qualitative and highly subjective answer once you are comparing to anything more than "industry standard pay".

Because of business structure, a success to a founder may not be as successful for an initial investor, etc. The key in all this is to factor in when things are done and when rewards are received, along with viable alternatives. 5 million 5 years later is not worth anywhere near as much as 5 million in the first year.

See https://en.wikipedia.org/wiki/Modified_internal_rate_of_retu...

somberi• 11 years ago

If I learnt, only moderately, that moderation is the key to success, did I succeed?

geldedus• 11 years ago

Yes, it is definitely a success (if the acquisition price exceeds the total expenses)

amolgupta• 11 years ago

Japaneese firms plan for north of 100 years strategy. Some of the oldest companies are japaneese[1] and that is success in itself. A 6+ years of loss is for capturing the market and getting a userbase which would raise the entry barrier for compititors. Considering initial 1 year is spent on validating the idea and coming up with a MVP, 6 years is a decent time span. That said many companies these days are running after high valuations and not actual revenue. The world runs on debt.

[1]http://www.theatlantic.com/business/archive/2015/02/japans-o...

oldmanjay• 11 years ago

is planning for 100 years of business a virtue? or even feasible? all I can imagine you mean by that is they try to be fiscally responsible and keep money for the future, and Japan has no monopoly on that practice.

austenallred2• 11 years ago

Not all acquisitions are created equal. It's really very situational.

To answer the larger question you seem to be asking, a company or technology needn't generate a profit to be valuable. This seems counter-intuitive, but it's true.

To a certain extent large companies outsource risk-taking and innovation to startups. That kind of thing is just incredibly difficult to produce within a large corporation. If a company solves a problem a big company has it may be acquired; regardless of its revenue the founders have created something of value in this scenario. The acquiring company will pay a premium for something that's successful, because that means they don't have to spend time and effort constantly building things that fail. Think of it as anti-portfolio theory. VCs invest in 10 companies knowing that the majority will fail, because one or two successes will make up for all of the failures. Big companies buy the one or two successes because that means they can avoid the eight or nine failed projects.

It's entirely possible that the companies being acquired never generated any revenue, but are very valuable to BigCo, and BigCo pays a corresponding price. That is a success.

However, acquisitions aren't all good (nor are they binary). There's a spectrum. On the low end is a terrible acquihire, in which the acquiring company basically buys the startup as a hiring bonus for the people it wants. When this happens, the numbers aren't great; usually investors will lose money or make little enough that it's negligible. Remember that VCs really need huge returns on a few companies (ideally one company returns the whole fund), so even a company that returns what the investors put in plus or minus 100k basically go into the same "failure" bucket in the mind of a VC. The founders become employees with a biggish signing bonus (selling the company), and the acquiring company basically calls the acquisition price recruiter fees. That, in my opinion, is a failure with a soft landing.

On the other end of the spectrum is an Instagram-type acquisition in which the company is extremely valuable but it makes more sense to team up. Of course, this doesn't have to be a consumer product, but Instagram is a great example. Instagram never made a dollar, but in retrospect it looks like $1B was a great price, because Facebook will be able to generate way more than that utilizing Instagram's users and platform.

There's an entire spectrum between these two. Without knowing the details of each deal it's difficult to say, and everyone will pretend like it was a huge success regardless of what's happening. So to answer the question: Yes, a startup can run at a loss, be acquired and be a success. It can also run at a loss, be acquired, and be a failure.

seahorse• 11 years ago

It's not about economics. It's about foresight.

If you are working on something that will grow big 10 years in the future (like AI), and it takes you only 6 to get there, why can't that be a success?

gorbachev• 11 years ago

That depends on which dimension of success you look at it.

As an investment, it probably wasn't successful.

As a 6-year education program in entrepreneurship, it was probably very successful. If the people running that company take those learnings and apply it in their next venture, or within the company that acquired them, it could lead to great outcomes later.

If the company paid salaries to employees, then it employed people for six years. That is success.

If the company contributed to open source or otherwise gave back to the community in whatever form they could, that's positive. Depending on how their contributions were used by others, it could've been very successful.

I'm sure there are other dimensions you could consider.

ksherlock• 11 years ago

It's a failure, but let the baby have his bottle.

cyberpanther• 11 years ago

Its all about the future. If the startup has great potential it doesn't matter how much money or traction it made. The acquiring company only has to want something about that startup that it thinks will help in the future.

Also pretty sure Amazon went 6+ years at a loss. That was a no brainer for investing in them even though they weren't making a profit.

logfromblammo• 11 years ago

That depends in large part on what happens post-acquisition. If the purchasing company makes the concept profitable by applying economies of scale and cross-brand marketing, the startup was a success.

If the acquired employees are laid off, and the purchased company shelved, it was a failure.

The founders are but a handful of people in the company they started, so if they are the only ones that get a happy ending, then they are personally successful even if the company they created was a failure.

gwbas1c• 11 years ago

Depends on the context. I joined a startup, and then a year later, we were acquired even though we weren't profitable.

It was the best thing that happened to us! The credibility allowed us to target larger deals; the HR department improved our hiring; our founders didn't need to go office shopping because there were offices for us to move into.

Granted, every situation is different.

wpietri• 11 years ago

I think it depends on whose perspective.

For VCs, the answer is easy: it's calculated in terms of how it looks for their fund. If the acquisition price tag was high enough, it's victory. If not, meh. Lower than what they put in: definite failure.

For founders, I think it depends on what they set out to do. Some people build to flip. Others look to be the next Zuckerberg.

For employees, it depends even more. If the payday's solid, many people call it a success regardless. Others, there for the work, care much more about what happens to the product after.

For me, I'd say the loss is a red herring. As gizmo explains, startups are expected to run at a loss; any potential profit should be pumped back into growth. It's only once they've captured a fair bit of territory that they should use the money for something else.

Personally, what catches my I here is the "not much traction" bit. The societal purpose of business is to create value for others. Low traction is a sign of failing to do that. The question for me is whether the acquisition changes that. Sometimes the acquirer's resources are the key to making great progress. I'd happily call that a success. More often, either nothing changes or the acquirer makes a hash of it, in which case I would call it a failure.

But yes, in the current game, people will happily claim that last sort of failure as a success. I'm sure some of them believe it, and some are just putting a brave face on it. I think you're correct to see that as somewhat false.

mpermar• 11 years ago

I think there is awesome explanations here, but put in very simple terms there is many startups that experiment, create some nice product but can't really market it. They might have good numbers but they don't have the muscle to raise fast enough.

e.g. a startup that converts an outstanding 10% of their user base into paid customers might look excellent on paper but if only has 1000 users and only grows 10% yearly it is dammed to failure. But that same startup for a corporation that has 10000000 similar users will definitely look like an amazing investment.

ericb• 11 years ago

The game is to chase growth. If you are "profitable" you by-definition have money that you left sitting and didn't use for acquiring more customers.

Once a company is on a vc-funded path, they need to target hyper-growth, or the next round of funding won't be close-able. And when that's your goal, you spend it all trying to get the growth you'll need--so there's no "profit" and you NEED that next round of funding.

Additionally, it may be difficult to transition from a fast-growth orientation to a profitability orientation because the board has been weighted with investors whose interests lie solely in this company maximizing it's chances of becoming a unicorn--anything else to a VC is essentially irrelevant. The company has a duty to those investors.

For the entrepreneur playing this game, if they want to continue playing The Game of Unicorns in their future startups, success is largely about keeping investors happy by approaching "success" with the same definition the investors use (unicorn or bust). If they prove they can do this, they have a shot at getting their next startup funded.

The net result is that startups rarely "make a profit" and the acquisitions are soft-landings for the entrepreneur and VC.

gesman• 11 years ago

In lots of these cases public won't see the whole picture. There likely hidden connections, dependencies and relationships that often drive these deals above publicly available profit/loss numbers.

solve• 11 years ago

You have it completely backward. Market value / Valuation / Acquisition price == approximately, a prediction of total cumulative FUTURE profits, NOT PAST profits.

Past profits, directly speaking are totally irrelevant, as hard as that is to believe. In fact, taking profits can in some cases mean that the startup was extracting value that could have been saved for the future. That means that increasing revenue can actually directly drop the company's value!

Dumb example, imagine that instead of users, the startup possessed literal bars of gold. Now imagine they start selling those at 1% of what gold is worth. The startup is increasing their revenue, they must be worth more! Nope. Their revenue now is preventing the future acquirer from selling those bars at near 100% gold value later post acquisition.

More revenue == lower company value, as you can see, in some cases.

Ask HN: A startup runs at a loss for 6+ years, gets acquired. Was it a success?

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