Startup Failure: Five Avoidable Challenges

Yes, avoidable!

Introduction

Many articles describe the challenges that entrepreneurs face as they launch new enterprises. The statistics certainly validate how difficult starting a new business can be for even experienced entrepreneurs. However, it is challenging to provide current statistics on startup failure rates, as these rates can vary depending on various factors, such as the industry, location, and startup stage. Additionally, the definition of "failure" can vary, as some startups may consider closing their doors or going bankrupt a failure. In contrast, others may define it as not achieving certain milestones or profitability targets.

According to data from the U.S. Census Bureau, the survival rate for businesses generally is around 50% after five years and approximately 30% after ten years. Additionally, it is very challenging to launch a successful new product in the marketplace. According to the late Harvard professor Clayton Christensen, over 30,000 unique products enter the market every year and 95 percent fail.

However, these statistics may not necessarily represent startup failure rates, as startups tend to have higher risk and failure rates than established businesses. No matter how you view the data, over half of the new companies starting in a specific year have not survived the past five years. Let's look at five key challenges entrepreneurs face when developing a new venture idea. 

The Five Key Challenges

Challenge One: Limited Knowledge of the Market. From working with hundreds of entrepreneurs over the years, the most common reason for not launching a new business or startup, but closing within the first year, is a limited understanding of the targeted market. When an entrepreneur has limited knowledge and experience of a specific market, they have not: 

• First, clearly define the problem that the customer wants to solve.

• Identified the target customer; who are the people in most need of a solution and are most likely to pay for it?

• Segmented the target customer into categories based on potential differences in how they experience the problem that the product or service may solve

• Researched the number of target customers potentially interested in purchasing the product or service

• Focused their limited resources on a target customer segment where early success is achievable

While this situation is avoidable, the truth is that many aspiring entrepreneurs charge ahead without the proper understanding of the needs and desires of the customer, resulting in creating a business model and potentially a product when there is no market for it. Instead, a startup needs to offer a product or service that meets a real need and is in demand in the market. 

Starts must thoroughly research their target market and understand their customers' needs and pain points. Failing to do sufficient market research can lead to a product or service that doesn't meet the market's needs, leading to poor sales and, ultimately, failure.

Challenge Two: Inadequate Testing of Product-Market Fit. A second reason for startup failure is the entrepreneur's lack of effort to test and validate whether the product they have conceived solves a problem in a way that the customer values. Both criteria are necessary to have what we call problem-solution fit or product-market fit. In order words, does the entrepreneur understand how the customer experiences the problem when confronted with a task or job where the problem arises? When unpacking the customer experience, are the customer's pain points identified? How severe are the pain points? To what degree does the customer value a solution that minimizes or eliminates these pain points?

A startup needs to offer a product or service that meets a real need and is in demand in the market. Conversely, the startup may struggle to find and retain customers if the product or service is not appealing to customers or fails to solve a problem. Throughout the venture discovery process, you will have opportunities to test your assumptions about the customer's experience with issues and solutions. Having a clear understanding of this experience will go a long way to helping you create a product that the customer needs and values.

Founders must spend much time and effort engaging customers in early customer discovery and iterative product development and testing cycles. It is common knowledge that most successful innovations occur when the customer is part of the development process upfront. When a customer co-creates the solution with the enterprise, you can build a product that better meets the customer's needs. Additionally, you foster long-term advocates for your brand,

Challenge Three. Limited Understanding of Competition. A third challenge that entrepreneurs face is not comprehensively understanding their competitors. In many cases, a startup may enter a market saturated with similar products or services, making it difficult to differentiate and compete. You cannot imagine how many new entrepreneurs tell us they have a new venture idea so innovative that no one has thought of it before. Competition? There is none! 

Of course, there is always competition, whether it is direct or indirect, from established entities or emerging entrants. Studying your competition is a lifelong pursuit in the business context. It is not something you do sporadically. Founders need to investigate existing and emerging solutions in the marketplace. Most importantly, you want to understand who the customer sees as the competition. As discussed in an earlier post on product positioning, you must probe the customer to determine which external products they compare your offering with when considering a purchase.

Throughout your venture journey, you must look for emerging competitors and monitor existing product and service offerings from more established competitors. You must identify their strengths and weaknesses and consider how they will react to your strategic moves. What some call competitive intelligence will be an ongoing process for you as an entrepreneur and business owner. Rivals will enter the market, and you must prepare for many competitive scenarios, from price cutting to new innovative features. 

Challenge Four: Lack of Required Experience by Founders and Team. A fourth reason startups struggle to survive is a lack of required experience by their founders and team members. Startups often have inexperienced founders who may lack the skills and knowledge to manage and grow the business effectively. Poor decision-making, lack of leadership, and inadequate resources can all contribute to a startup's failure. In addition, many entrepreneurs identify an opportunity. This problem requires a new solution, with little or no expertise or competency in critical technical or knowledge areas needed to develop the proposed solution. We like to break down the required experience and skill sets into three areas, technical, marketing, and managerial. Of course, starting and operating a new business involves several skills and much hard work.

Mistakes are inevitable if a startup lacks these vital areas of knowledge and experience. An inexperienced team can quickly focus on the wrong priorities, using limited resources in the wrong places. For example, many entrepreneurs focus on product development with less emphasis on customer engagement. Or they may focus on metrics that are out of sync with the current development stage. For example, obsessing over customer acquisition too early rather than customer engagement.

A startup needs to focus on a specific target market and tailor its product or service to meet the needs of that market. However, if a startup tries to be everything to everyone, it may spread itself too thin and struggle to find its footing. The most significant challenge for entrepreneurs is managing a new business with ever-changing conditions, demand focus, and flexibility.

One final area of expertise involves a strong understanding of the economics of the venture's business model. The financial ramifications of the business model and associated decisions must be deeply considered. Limited financial knowledge can lead to several problems, including poor resource allocation decisions, inadequate pricing strategies, and insufficient funding. For example, many startups struggle to secure the financing they need to sustain and grow their businesses. While this can happen for several reasons, underestimating how much you need and the time it takes to secure capital can easily lead to negative cash positions. Without sufficient funding, a startup may be unable to develop and market its product or service effectively or may run out of money before it becomes profitable.

Challenge Five: Not Thinking Through the Whole Business Model. The fifth reason for startup failure occurs when the team does not focus on all the components required for the venture to create a repeatable and scalable business model. Unfortunately, many entrepreneurs focus on product development to the exclusion of all the other elements it takes to provide value to the customer. 

However you choose to structure your business model, you must consider the business as a transaction between you and your customer. Offering a product that meets your target customer's needs is critical but insufficient. Founders need to design a model that supports the customer transaction, from customer engagement activities to the operational infrastructure that works beyond the view of the customer. 

The entrepreneurs' main concern must be identifying a repeatable and scalable business model. Founders must define each element of their business model and all the decisions and actions required to establish a venture that can launch successfully and grow within an appropriate timeframe. Additionally, startups must focus on execution and continually assess and adjust their approach as needed to ensure they are making progress toward their goals. As a startup grows, the business model can change, creating the business to unravel if founders don't consider changes. 

Many startups struggle to secure the funding they need to sustain and grow their businesses. Without sufficient funding, a startup may be unable to develop and market its product or service effectively or may run out of money before it becomes profitable. 

Each of these challenge areas alone can often lead to failure. For example, many startup experts identify running out of funds to be one of the major causes of a business closure. But I believe it is more of an outcome due to not attending to the issues mentioned earlier.

---

Sidebar: The Role of Cognitive Biases in Startup Failure

Startups operate in highly uncertain environments with limited resources and small teams. In such a high-pressure context, startup founders are prone to cognitive biases that can impair effective decision-making. These mental shortcuts allow founders to process information quickly but often lead to poor judgments and assumptions. Given startups' incredibly high failure rate, with over 90% failing to achieve significant growth, recognizing and mitigating bias is critical. However, founders often overlook how ingrained biases contribute to failure by influencing their strategies, projections, and resource allocation.

Research shows cognitive biases play a crucial role in startup failure. These mental shortcuts enable quick information processing but often lead founders astray through poor judgments and assumptions. A Kauffman Foundation (1) analysis found over 70% of venture capitalists believe confirmation bias, overconfidence, and lack of focus undermine startup success. This section examines such high-risk tendencies and how to counteract them. Additionally, I will highlight fundamental cognitive biases that impact startups and provides examples of how they can lead founders astray.

Anchoring bias: Putting too much emphasis on the first piece of information when making decisions. A startup founder estimates the market size for their product is $100 million based on early assumptions and projections. The TAM is closer to $20 million as they gather more data. However, the founder anchors to that initial estimate and uses it to raise funding, hire a team, and scale aggressively rather than pivoting strategies based on the new data. These actions can lead to over-hiring and excessive burn rate if not adjusted. To avoid anchoring bias, founders can seek frequent objective data-based validations rather than relying on initial assumptions.

Confirmation bias: Seeking and interpreting information to align with preexisting beliefs. A founder has a vision for a mobile app helping people find nearby events and activities. They informally ask friends and family who say they would use an app like that. Believing this validates the need for the app, the founder dedicates resources to building it rather than running surveys, focus groups, etc., with the target demographics to truly test demand. This judgment risks building features users won't want. Founders should test assumptions directly with a broad customer base rather than seek to validate insiders' feedback.

Optimism bias: Overestimate the likelihood of positive outcomes and underestimate potential adverse consequences. A startup founder overestimates the demand for their product and the speed at which they can acquire customers based on an overly optimistic view of the market. Despite contradictory data, the founder persists with unrealistic forecasts. Founders can mitigate optimism bias by consciously questioning their assumptions and projections, seeking objective data and external perspectives that provide a realistic counterbalance.

Overconfidence bias: Overestimating one's abilities or likelihood of success. A technical founder with some coding skills underestimates how long it will take to build an MVP for their complex peer-to-peer marketplace app. Though lacking backend development experience, the founder sticks to unrealistic timelines for the build, delaying the launch significantly. Consulting experts provide reality checks to counteract overconfidence in founders' abilities and plans.

Groupthink: Prioritizing group consensus over independent critical evaluation. Despite low customer conversion rates, the founding team continues investing in user acquisition, believing it will achieve hockey stick growth soon. No one challenges this assumption to avoid hurting team morale, even as cash reserves dwindle. Despite negative user feedback, a founding team ignores warning signs to maintain confidence. Dissenting voices on a team often detect real threats, so founders should encourage open debate and critical evaluation.

Loss aversion bias: Strongly prefer avoiding possible losses rather than acquiring gains. A founder launches an AI writing assistant app that gains little traction. Though data shows users don't find it helpful, the founder continues iterating on it for over a year, refusing to accept the failure due to the effort already invested. To counter loss aversion, founders must objectively evaluate when persisting with a failing strategy makes little economic sense.

These examples demonstrate how cognitive biases lead to poor judgments, unrealistic assumptions, and ill-informed decisions. Entrepreneurs may persist with ineffective strategies, dismiss negative feedback, underestimate risks and challenges, and more. By identifying biases and engaging in constructive practices - from seeking diverse opinions to analyzing data - founders can counteract them. Awareness, feedback, and intelligent organizational design enable startups to leverage human strengths while minimizing innate blindspots.

Mitigating Cognitive Biases

Startup founders can take proactive steps to minimize the impacts of cognitive biases on their decision-making. Seeking diversity is a crucial strategy. Building a founding team with members of different backgrounds and functional expertise introduces varied perspectives that can counteract individual biases. Advisors and board members with little overlap with company insiders also provide valuable outside viewpoints.

Additionally, founders should institutionalize structured decision-making frameworks that force objective analysis. Techniques like properly framing the issue, examining alternatives, and evaluating data help remove emotion and assumption-based thinking. Bringing in analytical team members proficient with market research, financial modeling, and data analytics enables evidence-based evaluation.

Finally, directly testing assumptions with customers and users helps formulate reality-based strategies. Customer discovery interviews, focus groups, prototype tests, and advisory panels give real-world feedback on product assumptions and business models. These actions help correct biased notions founders may hold. Monitoring metrics on an ongoing basis further grounds decisions in actual customer behaviors versus projections.

While innate cognitive biases persist, self-awareness, diverse input, and rigorous testing enable startups to counteract biases and maintain focus on real customer needs. Adopting organizational best practices minimizes the outsized impacts biases might otherwise exert on business strategy and operations.

(1)  Mitchell, L.A. (2011). Overcoming “You Can’t Teach Vision”: An Exploration of Teaching Entrepreneurial Orientation. Ewing Marion Kauffman Foundation.

---

Startup Success Factors

Considering the reasons for so many failures, it takes much thought, research, and hard work to succeed in venture creation. As a starting point, engaging potential customers early in the process is essential. Early discussions should revolve around understanding the problem the customer is trying to solve and how much they value solutions. While conducting these early customer conversations, you should also look into what solutions already exist and identify current and future competitors in the market.

Secondly, you need to define who your target customer is and what demographics and characteristics they may have in common. Once you understand how customers are segmented, you can focus on the segment where you can succeed early. Then, as the business generates early traction, founders can expand their focus to other target markets. 

Thirdly, as you understand your business's core activities and operations, you can identify potential team members with appropriate skills and domain expertise. It is never too early to begin a list of the knowledge areas and skills required to run your business successfully. Once defined, you can create some job descriptions and start networking. Building a solid team and ensuring that you have the necessary resources to execute your business plan is critical to the success of a startup.

Finally, it is essential to remember that running a successful business requires more than just a great product that customers want. There are many business activities to consider when developing a new venture. Even the best business plans can fail if not executed effectively. Therefore, startups must focus on execution and continually assess and adjust their approach as needed to ensure they are making progress toward their goals.

In general, it's essential to recognize that starting a business is a risky venture, and it's not uncommon for startups to fail. However, it's also important to note that many successful companies started as startups and were able to overcome the challenges they faced and achieve success.

Summary

Entrepreneurs face many challenges when launching new businesses, including limited knowledge of the market, inadequate testing of product-market fit, poor financial planning, lack of sufficient resources, and weak leadership. To overcome these challenges, entrepreneurs must conduct thorough market research, validate their product or service through customer testing, create a realistic financial plan, allocate resources wisely, and develop strong leadership skills. Yet, despite these challenges, many entrepreneurs can launch and grow their businesses through hard work, dedication, and perseverance.

Innovate & Thrive is a reader-supported publication. To receive new posts and support my work, consider becoming a free or paid subscriber.