Why Start-ups Like Uber Stumble When They Scale
You're reading Entrepreneur South Africa, an international franchise of Entrepreneur Media.
The news last year that Uber’s CEO was stepping down was probably not a surprise to those who had been following the company in the headlines.
In our work at Bain & Co over many years, we have learnt enough to know that you have to be on the inside of any company to have the full picture of what went wrong and how.
But we do know from our research that rapidly growing companies — especially unicorns like Uber — face a high risk of stumbling.
As a business term, ‘unicorn’ was coined to describe a rarity: In 2011 there were just 28 early-stage companies, still privately owned, with investment valuations of $1 billion or more.
Today there are more than 200 unicorns, with a total value estimated by CB Insights at almost $700 billion. Uber is one of them: Its valuation rose to a record-setting $68 billion just seven years after its founding, despite reporting losses of more than $700 million in the first quarter of 2017.
But when we tracked those 28 unicorns (along with 11 similar companies with valuations of $600 million or more) over the period from 2011 to the present, we found that 33% failed to grow at all and another 28% grew less than expected. Nearly two in three died or stumbled.
Unicorns and near-unicorns actually are much more prone to self-induced internal breakdowns than they are vulnerable to adverse events in the marketplace. And they’re not alone.
One of the hardest acts in business is scaling a business rapidly and profitably.
Bain’s research concludes that of all new businesses registered in the US, only about one in 500 will reach a size of $100 million — and a mere one in 17 000 will attain $500 million in size and also sustain a decade of profitable growth.
WHY INTERNAL THREATS ARE REAL
More often, they trip over themselves. Research for our book, The Founder’s Mentality found that 85% of the time, the barriers to growth cited by executives at rapidly growing companies are internal — as opposed to, say, external threats such as unreceptive customers, a misread business opportunity or the moves of a dangerous competitor.
The title of the book celebrates the internal energy and sense of insurgency that propels rapidly growing companies, but the book also warns of four predictable internal growth barriers that all too often trip up these companies during their pursuit of scale.
One of these is what we called the unscalable founder. We believe the founder’s mentality is a strategic asset. Nurtured correctly, it can help a company achieve scale insurgency — a company with the benefits of both size and agility.
But many individual founders aren’t scalable. Individual founders can become a barrier to growth if they are unable to let go of the details and micromanage, fail to build a cohesive team around them, or allow hubris to get in their way.
We found that 37% of executives at growing companies describe the unscalable founder as a major barrier to their success. Scaling a business requires enormous determination — it’s like catching lightning in a bottle.
Typically, founders discover a repeatable model of success that is extraordinary and are rewarded for ignoring distractions and focusing ruthlessly on that single insurgent mission and the repeatable model that delivers it. But over time the market changes and the company needs to change its model.
The same founder who was rewarded for ignoring distractions previously is often the last person to adapt. The skills that help founders get their company to take off are often the opposite of those needed to sustain new growth.
Founders focus on speed, ignore good process and relish breaking the rules of the industry they are trying to disrupt. They cut corners, ignore detractors, and avoid naysayers.
Their Herculean efforts are responsible for the firm’s creation, but also its chaos. Once the company reaches cruising altitude, its leaders need to listen more to competing voices and invest more time in emerging stakeholders.
Founders are also often responsible for driving their teams to stretch and accomplish far more than ever seemed possible, sometimes at enormous personal sacrifice. Yet this can make it impossible for them to replace or supplement these foundational team members with new professionals who can take the organisation to the next level.
The founder remains too loyal to the original team. Founders who both create and successfully scale their company are like lightning striking twice — the miracle of creation and the miracle of sustainable growth in the same person. That is rare.
INTERNAL BREAKDOWNS IN ACTION
The other three barriers described in our book underscore the challenge. Some 55% of executives cite the problem of revenue growing faster than talent: The company grows so quickly that it has trouble attracting the quality and amount of talent that it needs.
And as growth creates complexity, complexity becomes a silent killer of growth: 22% of executives cite a lack of accountability as the company expands and the rules become unclear. At its worst, this can breed a toxic culture.
Perhaps most perplexing, 25% of executives cite loss of the voices at the front line as the growing company becomes preoccupied with internal matters, numbing it to customer feedback that can improve the business model or to the concerns of frontline employees.
In our study of unicorns, we took a closer look at ten that stumbled the hardest, companies like Groupon, Zenefits, Jawbone, GoPro, and Zynga — a group that experienced a peak-to-trough valuation decline of about 75% on average.
We concluded that about half encountered major external market challenges that clearly contributed to the decline; we found that these external factors always impeded the progress of the company in combination with a well-documented internal breakdown.
For instance, GoPro discovered that to really fulfil its growth potential it was going to have to not just become a manufacturer of small camera devices — a difficult business to defend against the large consumer electronics companies like Sony — but also create an ecosystem of services (uploading to the Cloud) and products (drones with cameras) that would differentiate it in the future.
This is what founder Nick Woodman described as becoming a sort of ‘mini Apple’, a much harder strategy to successfully execute. That challenge was reflected in a near 50% revenue shortfall in 2016 from what analysts had expected, ultimately triggering a decline in the company’s valuation down to $1 billion from its onetime high of $12 billion.
In contrast to the moderate frequency of external breakdowns, literally every one of the fallen unicorns we studied encountered well-documented internal issues that contributed to or actually caused the stumble. Consider Zenefits, a provider of efficient online employee benefits services for small and medium-size companies.
In early 2015 Zenefits announced that its revenues were going to increase by a factor of ten that year, to $100 million, causing investors to flood it with money at a valuation of over $4 billion. The core idea for the company had been well proven, the market was certainly large and untapped, and Zenefits was clearly in the lead.
Yet according to the company itself, Zenefits stumbled because it wasn’t prepared internally for scaling up. When its valuation collapsed by 55%, and its CEO-founder was replaced, the new CEO wrote an email to staff noting, “It is no secret that Zenefits grew too fast, stretching both our culture and our controls.’’
For instance, the company’s ‘frat-like’ culture became too dysfunctional to run a tight operation in a highly regulated industry, and some of the measures taken to certify new employees in health insurance law became severely compromised.
ASSESSING YOUR ABILITY TO SCALE
If these are the rock stars of business — surrounded by the best investors, boards and advisers — what about the rest?
To dig deeper into the challenges facing high-growth companies, we held more than 25 workshops across the world, assembling a group we called the Founder’s Mentality 100: Companies that attained early success and scale, and showed further promise and desire to grow by five or even ten times over the coming years.
When we surveyed executives in these private discussion sessions, we found a consistent story:
Only 15% of the time did these leaders feel that the primary threat to achieving their plans was external (a superior competitor, a new business model, government regulation, market shifts or saturation). The majority were internal factors — factors they should be able to control.
When monitoring our health, doctors use a set of proven questions and tests. With so many company growth stories coming undone because of internal causes that their leaders could have controlled, what is the equivalent protocol to diagnose growing companies?
We suggest asking these five questions to assess the general health of a business and its ability to grow to large scale:
- Is your founder scaling the team at a pace to address the opportunities and challenges of a scale insurgent?
- Do we have a talent plan to match our growth plan? If not, how do we close the gap?
- Is the voice of the customer and the front line as strong as it used to be? How do we know?
- Is our insurgent mission, so inspirational in the early days, still strong, or is it getting diluted?
- Do people still feel an owner’s mindset that drives accountability and immediate problem solving?
If you are part of an organisation with bold growth ambitions, make sure you are asking these five questions early and often.