All of my prior startup experience has been with
bootstrapped startups (i.e. no VC funding). As such, I’ve had to
deal the situation where I found myself competing with rivals that were much
better funded. For purposes of
this article, I’m going to assume that the competition is another startup
(and not a large company with much better funding). The dynamics of
competing with a large company are different and I’ll save that topic for
There is no pat answer to responding to this situation (if
there were a standard answer for anything, it probably wouldn’t be
interesting enough to write about anyways). But, I do have some thoughts
on the topic based on some of my own experience – both within my own
startups and those that I’ve been involved in.
For example, my first startup, Pyramid Digital Solutions was
in a small enough niche that it had little competition in its early
years. But, later, in 1996 we broadened our product offering and pursued
a larger market (creating specialized web applications for our vertical within
the financial services industry). Eventually, we found ourselves
competing with three
startups that each raised over $25 million in VC funding. Even for that
time, $25 million was a fair amount of money. One of these startups was a
direct competitor and the other two were indirect competitors. As you
might imagine, this had us a bit worried. We were selling to large
financial institutions and were constantly dealing with the issue of a weak
balance sheet. When we were enjoying a competition-free existence, this
wasn’t a big problem (the number of alternatives was minimal, and we were
clearly the best choice). With VC-funded competitors, this changed.
Customers are rightfully comforted when dealing with startups that have venture
investors. It removes a lot of the risk from the equation that the
startup will die in the near-term. A lot of the sales we lost were not
because we had an inferior product (we didn’t), but because we were a
I’ll tell you how all this turned out for me at the
end of this article.
Competing With Venture Funded Rivals
- Resist getting distracted: When you first learn that one of your
competitors has raised VC funding, it’ll be hard to ignore.
And, you shouldn’t
ignore it. But, you shouldn’t let it distract you too the
point of inaction. It’s important remember that just because
they have fresh cash in the bank doesn’t mean that they’re
going to be able to do something with it immediately. But, you
shouldn’t dismiss this event. When a rival raises money,
it’s a big deal.
- Talk to your team: One of the biggest challenges this kind of news
has is the potential effect on your team – particularly your
management team. Though it’s possible that the competitor will
use some of their new cash to try and lure members of your team away
– this is not as likely as you might think. The bigger issue
is that your team may lose faith in your ability to compete in the face of
well-funded competition. Negative morale can become a serious
issue. I would advise having a discussion with key members of your
team and keeping them aware of what’s going on.
- Their incentives are impacted: If a startup raises VC funding
(particularly when it’s a large amount), the management team’s
equity interest dilutes. In the short-run, this will have little
impact (because the team is still basking in the glow of the new cash).
But, as time progresses, you will find that it may get harder and
harder for the team to be motivated as the chances of them making any real
money have gone down. For example, by raising $25 million, our
competitors basically raised the bar for what type of valuation they would
need to exit with in order to see significant cash at the time of a
liquidity event (acquisition or IPO). Based on the terms of the VC
deal, they may have needed to exit with valuations exceeding $50 million
for it to deliver significant cash to the founders or management
team. Once the going gets tough (and it usually always does), the team
will figure out that the likelihood of a big exit is low. This
shifts their incentives. It’s important to keep this in mind.
This is one of the best things about a bootstrapped approach. Even
if you make a modest exit, you still
make a fair amount of money. This keeps the founders motivated the
whole way through.
- Don’t compete on price: One of the things your better
funded rivals will likely do (very quickly) is focus on building market
share at the cost of revenues and profits. This manifests itself in
two forms: a decrease in price or a an increase in what is provided.
For example, if you’re selling into the enterprise market,
your competitor may give away free services, customizations or
implementation projects. These can be expensive, but they can afford
it. It’s generally a bad idea to try and match their price
and/or terms. You won’t be able to outspend them (without
raising capital yourself). You need to find a different strategy.
- Determine market validation: One potential piece of good
news when a competitor raises funding is that it may be a sign of
validation for your market. VCs are generally very smart people and
would normally not invest large sums of money unless they saw at least the
potential for a large market opportunity. This could be good
news for you (particularly if you’re looking to raise funding too).
- Check out the investors: It is always a good idea to learn as much as you
can about the investors that funded your competitor. What other
companies are in their portfolio? Who’s the partner that is
sitting on the board? What is her background? One of the
biggest impacts a VC can have on a startup (outside of the cash) is the
network and contacts that they bring to the table. If the VC is well
connected within your industry, you may see your rival closing some deals
that you’ve had a hard time getting done.
- Be cautious of partnerships: It’s possible that
you’ll consider forging partnerships as a way to respond to the new
market threat. In fact, you may even enter discussions of partnering
up with one of your rivals that just received funding. Though you
should always look objectively at such opportunities and judge their
potential value to you, I will share one thought. In my 12+ years of
experience in startup-land, I have found that crafting a partnership that
actually delivers value is very, very difficult. Usually they end up
being grossly asymmetric (one party needs/wants the partnership much more
than the other) and as a result ends up not creating the outcome that was
originally planned. Not sure why that is, but it’s just been
my experience. Your mileage will vary.
This is obviously a difficult and complex topic (so
it’s hard to provide any real definitive tips or guidelines). Hope
the above has helped.
As for my own story, I am pleased to announce that it had a
happy ending (for us, not our competitors). One startup shut-down
completely. One of the others scaled back considerably and ultimately
shifted back into a consulting company. The final one was put up for sale
by the VCs that funded it. I ended up being the winning bidder and
acquiring the technology assets as part of the auction (and ended up paying
considerably less than the capital they had spent to build their product). Net
result: We essentially won that battle. Not due to brilliant
strategy or execution on my part, but I’ll take the win anyways.
I’d rather be naïve and win, than brilliant and lose (most of the time).
Moral of the story:
Just because you’re running a
bootstrapped startup doesn’t mean that you can’t compete
effectively with better funded rivals. The key is to think through the
implications and not get too distracted. Chances are, even a smart
competitor won’t use the cash as wisely as you fear. Your goal is
to survive the short-term because life usually gets harder for them in the