Startups failed and will continue to fail, but how fast?

Current financial crisis starts showing growing signs of migrating to other industries and already causing anticipative layoffs and cuts in many well-established as well as small/startup businesses.

The figure on the left comes from the book by Scott Shane Illusions of Entrepreneurship: The Costly Myths that Entrepreneurs, Investors, and Policy Makers Live By. The data comes from a special tabulation by the Bureau of the Census produced for the Office of Advocacy of the US Small Business Administration. While these data look at the 1992 cohort of new single establishment businesses, the failure rate percentages are almost identical for all the cohorts that researchers have looked at. These are the averages (considerable differences across industry sectors in business failure rates).

William Bygrave, Professor Emeritus of Entrepreneurial Studies at Babson College, in his book The Portable MBA in Entrepreneurship made the following assertion in 1997:

If you intend to start a full-time, incorporated business, the odds that the business will survive at least eight years with you as the owner are better than one in four; and the odds of its surviving at least years with a new owner are another one in four. So the eight-year survival rate for incorporated startups is about 50%.

The failure rate is high due to inclusion of sole proprietorships in the statistics. Sole proprietorships push up the failure percentage due to:

  • Many startups and new business venture are sole proprietorships.
  • Sole proprietorships are very easy to form and are a typical start for small businesses.
  • Many of the owners of sole proprietorships leave the business startup for different reasons, not including bankruptcy.
  • It is sometimes difficult to find external funding for sole proprietorships (VCs and angel investors have preference for limited liability partnerships with few competent and experienced founders).

Two-thirds of new employer establishments survive at least two years, 44 percent survive at least four years, and 31 percent survive at least seven years, according to a recent study. The same research found that businesses that survive the first four years have a better chance of surviving long-term.

Small Business Growth: Searching for Stylized Facts written by Brian Headd of the Office of Advocacy and Bruce Kirchhoff in October 2007 examines small business dynamics. It notes that growing firms tend to be a constant percentage of all firms and as a general rule, new employer businesses have a 50/50 chance of surviving for five years or more. Among other things, the authors’ analysis determined that:

  • Growing single establishment small firms are generally a constant percentage of industries and the economy
  • Over time, the percent of growing firms tends to be greater than that of decliners;
  • Fast growing firms tend to grow in spurts, then revert to average growth;
  • No significant relationship exists between fast growing industries and the number of fast growing firms with in those industries; and
  • Industries with many growing firms also tend to have many decliners.

And considering recent developments in the financial markets and their subsequent repercussions on the corporate world, Jason Calacanis, the founder  of Weblogs Inc. and Mahalo assertedthat 50-80% of the venture-backed startups currently operating will shut down or go on life-support (i.e. 3-4 folks working on them) within the next 18 months.

Which one of the estimates and forecasts (mentioned or not mentioned) above will eventually prove to be accurate remains to be seen. In the meantime, what all entrepreneurs and startups have to do is to focus their energies, finances and best of their efforts on meeting market and customer needs efficiently and effectively and keeping in mind not to repeat some of commonly made mistakes because any or combination of such mistakes, perhaps not critical in past, might become become so in present and not-so-far future.