Startups

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STARTUPS

"Startups," in popular parlance, are generally understood to be companies conceived and developed as Internet-based enterprises, and they were all the rage in the economic world as well as in the popular imagination of the late 1990s. Startups were characterized by novel business models and a heavy reliance on venture capital, although that picture was changing in the early 2000s. The 2000 dot-com crash, followed by an economic slowdown, proved that despite much New Economy rhetoric the rules of business hadn't qualitatively changed with the development of information technology and the Internet business. While no analysts were proclaiming the end of Internet startups, it was clear that the era of easy money and public acclaim was at an end, and with established brick-and-mortar companies setting up their online storefronts and IT infrastructure, dot-com startups would have to work harder to succeed in the 2000s.

Most dot-com startups began with an idea, usually involving some novel concept of how to use the Internet in a way that would get people's attention. Once the idea was established, the startup set out to procure funding to bring that idea to life. For the typical startup, the development process involved a series of funding stages through which the business moved until it reached a seeming maturity that made it attractive to the public and to investors.

Angel investors are those wealthy individuals and organizations devoted to providing fledgling entrepreneurs with early-stage seed money to get an idea to its initial steps of development; in other words, to put a company on its feet so as to attract the next stage of venture capital funding. Angels throw their own money behind these startups in the hope of generating substantial returns when the company moves on to the venture financing stage or to an initial public offering (IPO). E-commerce "incubators" provide more comprehensive support to Internet startups than either angel investors or venture-capital firms. Like angel investors, incubators prop up startups that have yet to mature to the venture-capital stage. Unlike angels, however, incubators are actual businesses with expenses and revenues, not to mention physical resources such as ample office space and technical personnel employed to help the startup develop its business plan, products and services, and infrastructure. The goal—very much in keeping with the dotcom craze of the late 1990s—was to speed firms to market by accelerating the development process. In exchange for the incubator's resources and guidance, a startup will typically provide the incubator with equity in the new company.

Venture capital (VC) firms provide seed money to firms in the later pre-initial public offering (IPO) stages of development. VC companies pool the funds of institutions or wealthy individuals, which are then invested in companies in a manner determined by the VC managers. These companies tend to be less risky and aggressive in their investment behavior than angels or incubators, but usually guide their firms right up to the IPO stage. A startup may use the proceeds of the IPO to cash out the VC firm, or the firm may choose to stay on board and even forge a place in the company's management.

Each of these financing stages is likely to result in some degree of lost control over the management and development process, as angels, incubators, and VC firms attempt to protect their investments by maintaining a hand in the startup's early growth. Some financiers are more hands-on than others. One strategy for providers of seed funding was to simply throw money at as many firms as possible in the hope that one success would pay for the failures, thus limiting the resources they could devote to each firm. While this kind of funding is most likely to keep outside management at arm's length, it also failed to provide much of the added value offered in the guidance by more involved financial benefactors.

In the mid-to late 1990s, thanks in large part to the soaring stock market and the hype surrounding the dot-com business model, securing funding was a relatively easy task for Internet startups. Indeed, money was thrown behind dot-coms at a staggering rate during this period, as investors rushed to cash in on what many felt was the financial windfall of an Internet revolution. Unfortunately for dot-com startups, such good times were not to last. Once the dot-com boom turned to bust in 2000, the well of venture capital dried up in a hurry as venture capitalists of all stripes reexamined their portfolios and investment strategies. In the 2000s, according to most analysts, startups were expected to have much more coherent and practical business models and strategies before seed providers would get behind them. Startups needed to readjust their strategies to achieve a greater balance between raising capital and generating revenue. In other words, the market for dot-com startups was maturing, and competitive pressures were likely to occur earlier in the development process than in the relatively indiscriminate late-1990s.

Another novel aspect of the dot-com startup was the relation between the company and its employees. More than in most businesses, employees at dot-com startups tended to have a direct financial stake—in the form of stock options or other incentives—in the company's performance. This trend was particularly pronounced in the late 1990s, when the soaring stock market made such arrangements a particularly effective strategy for winning skilled talent to these risky new ventures. This tended to give such companies a more collaborative, but potentially more combative, atmosphere, which startup managers had to negotiate if the company were to develop as smoothly as its capital providers wished.

According to Forbes, startups were much more convoluted and dispersed enterprises than businesses of old. With such a premium placed on getting to market quickly with large sums of cash, the slow process of building skills and capabilities in-house was more often forsaken in favor of large-scale outsourcing of core business practices. There was no shortage of firms available to fulfill all manner of startups' needs, from designing an e-commerce-ready Web site to assembling a marketing team. In such an environment, the business was centered largely on an idea, a relatively small handful of core personnel, and access to cash, while the work was largely performed elsewhere.

Internet startups faced additional challenges in establishing their firms as viable competitors, including the building of logistics operations and distribution expertise, designing user-friendly and secure Web sites, generating customer awareness and trust, implementing effective customer-relations management, and devising efficient order-fulfillment and payment-procurement practices. Since startups generally lacked the economies of scale of their more established competitors, the allocation of resources toward these ends needed to be that much more efficient and successful, and those practices that not only fulfilled these purposes but also added value were most likely to gain a competitive edge.