Weekly Briefing Note for Founders 8/2/24

7th February 2024

This week on the startup to scaleup journey:

  • How to increase your chances of scaleup success

How to increase your chances of scaleup success

In the early stages of the startup, founders focus on finding product/market fit and identifying the beachhead market. But once 'the chasm' has been crossed and the mainstream market beckons, priorities radically change.

Now it's about executing the growth strategy.

Successful founders plant the seeds of growth at the earliest stages. They don't wait until growth is upon them to lay the strategy. The transition from startup to scaleup, which is still fraught with risk, then becomes more likely.

The 'billion-dollar question' for founders has always been what characteristics, behaviours, and decisions significantly increase the chance of scaling success. The more cognisant we are of them, the earlier we can employ them.

Startup Genome’s recent Scaleup Report provides unparalleled data-driven answers to this critical question. This is the first-ever longitudinal study that zeros in on the unique characteristics that differentiate startups that succeed in scaling from those that falter.

This groundbreaking research reveals that the top three scaling factors are, 'global connectedness', the 'number of senior advisors' supporting the startup, and 'offering stock options to all employees'.

Why are these factors so crucial and what specific impact do they have on scaling success?

First, what is a scaleup?

Startup Genome's definition of a scaleup is a company that has reached a valuation of $50 million or more. It is a simpler and more practical definition than many that have gone before and aligns well with traditional funding points: In mainstream venture markets this level of valuation is typically associated with a Series B funding round, or sometimes a large Series A.

By this point, the startup is ready to scale through and even beyond the initial beachhead. It has a repeatable sales model and needs further investment to expand quickly as it eyes category leadership.

Success Factors

From an earlier Startup Genome survey, undertaken between 2015 to 2019, 7,000 startups provided sufficiently detailed information such that 4 years later a further in-depth analysis could be undertaken.

From this initial cohort, 4.6% had become 'scaleups', achieving a $50M+ valuation by 2023.

Unlike most research undertaken into startups, this was not an analysis of individual markets, nor of the related, stage-specific actions required to traverse from Pre-Seed => Seed => Series A => Series B. Instead, this project focused on 60 primary metrics relating to underlying founder behaviour and decision-making.

Inevitably, geography has an important bearing on scaleup success, and impacted many of the factors and metrics. For example, the maturity of the tech ecosystem within which the startup is based strongly influences access to expertise, funding, and customers.

But aside from the overarching influence of geography, the biggest factors that influence scaleup success are all within the founder's control.

The 3 biggest factors from this study are:

1. Global Connectedness

Scaleup success rate clearly increases with the degree of 'global connectedness'. Connectedness measures the number of quality, international connections with customers, investors and other founders.

Founders that have an international outlook are better placed to access markets that are big enough to support scaling and seize global category leadership.

Our own research confirms that experienced founders are networking at an international level from the earliest stages. They travel extensively and meet people face to face. They evangelise their story and build demand, but their real priority is to learn.

The impact is dramatic. Early-stage startups that go global (more than 50% of foreign customers) are on a revenue growth curve that is 2x faster than those that do not. Their high level of connectedness has particular impact in understanding how to develop a globally-leading business model.

Bottom line: Startups that develop a high level of 'global connectedness' have a 3.25x higher chance of scaling up than those with a low level.

2. Senior Advisors

Having access to talent not only means hiring employees but also securing the regular input of senior advisors. This includes other successful founders, senior executives, and industry specialists that are relevant to that particular phase of company development. The highest impact is provided by advisors that commit themselves over sustained periods and are incentivised via equity.

Bottom line: The startup’s chance of successfully scaling is 2x higher when going from no advisors to one or two, and increasing again by more than 50% by securing three or four advisors. North America leads all regions with the number of scaleups engaging 3 to 4 senior advisors.

Despite this remarkable impact, almost half (45.9%) of all startups have zero senior advisors. Many founders are either not aware of their potential impact or never quite make the leap to bring this kind of expertise 'on board'.

Some of this reticence is cultural. From other leading research we know that nearly half of entrepreneurs feel there is a 'stigma' attached to seeking professional support from outsiders.

As highlighted in the recent Startup Snapshot study, this stigma is significantly greater in male founders (55%) versus women founders (29%); in young founders - under 35 - (59%) versus older founders (47%); and in European founders (63%) versus US founders (43%).

US founders are far more likely to build a coterie of formal and informal advisors into their support network from the very earliest stages.

3. Employee Stock Options (ESOP)

Founders that give employee stock options (ESOP) to all of their employees — not only senior but mid-level and low-level employees — dramatically increase their chances of scaling. Offering stock options increases the motivation of employees, increases retention, and builds team spirit and commitment.

Bottom line: Startups that offer ESOPs to ALL employees have a 2.2x higher chance of successfully scaling than startups that don't.

A critical enabler is the prevailing tax regime. In some countries, stock options are taxed at vesting, rather than allowing employees to elect to be taxed on the option value at issuance, and later be taxed at the liquidity event, as in the U.S. This prevents startups from issuing stock options because employees cannot afford the tax liability one, two, and three years later as the startup’s valuation increases.

UK startups are very well positioned. There are a number of Government approved employee option schemes that are tax-efficient. For example, options granted through the most popular EMI scheme won't be taxed at exercise but CGT is payable upon sale.

Experience also counts

This study also shows that serial entrepreneurs succeed in building scaleups at a more than 10% higher rate than first-timers. The most significant differentiating factor here is that serial founders have much higher levels of 'local connectedness' within their immediate startup ecosystem. They have developed more extensive networks amongst other founders, investors, and experts that are supporting them - either formally or informally.

From our own research, we have also shown that serial founders, in contrast to first-timers, possess a much stronger vision of the economic outcome they are seeking. This correlates with the Startup Genome finding that scaleup rates are highest for founders who stated their primary motivation was to "get rich" (5.7% of the total startup pool that became scaleups). This reason surpasses those that claim their motivation is to "change the world" (4.4%) or "make a great product" (3.6%).

In summary

These 3 most important factors for scaleup success all relate in some way to 'people'. Either through an accumulation of network relationships, the ability to leverage senior talent, or to provide employee motivation.

In this light, founders seeking scaleup success should ensure they have more than 5 global connections to top ecosystems, have at least 3 advisors for their startup, and offer stock options to all employees.

All other things being equal, the impact is clear. From the huge cohort analysed in this study, the global scaleup rate was 4.6%. But for those offering stock options to all employees this rate increased to 8.3%. For those having 5+ founder connections in top ecosystems the rate increased to 11.1%. And for those having at least 3 trusted advisors, the rate shot up to 18.4%.

While many fledgling startups set out on the journey to becoming a scaleup, few make it. But by adopting a number of key practices from the outset, the chances of success can be dramatically improved.

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