Startup and small business: 6 differences
One of the articles by Steve Blank, the founding father of Silicon Valley, begins like this: “Everyone knows what a startup is for – don't they?” Nonetheless, practice shows otherwise. Small businesses often call themselves startups without understanding what it means.
Definition and characteristics
According to Blank, a startup is an organization created to find a scalable business model. In order for the business to live, the founder only needs to constantly check if the model is working. Most startups change it once a year or even more often.
Essentially, a startup is an alpha version of a future corporation. It will go through all the options and opportunities, looking for a way to disrupt the market as quickly as possible. For example, the Twitch streaming platform was originally a website where its creator was constantly broadcasting his day-to-day life online. When such streams became possible for his subscribers, the project acquired not only wild popularity but also a new business idea with a totally new level of monetization.
Speaking about small businesses, we must remember that this is primarily a form, not an organization. Its owner does not seek to prove anything since their main goal is to generate income, preferably from the first day of operation. Most often, they open cafes, hairdressers, and private shops. In other words, a small business is anything that can have a standard business model and fit the definition of a joint company, corporation, or sole proprietorship.
In the realities of Russian legislation, a small business has clear attributes: there are certain restrictions on staff and revenue. The laws of many European and Eastern countries adhere to the same rules. In the USA, for example, there is no strict division between small and medium-sized businesses at all.
Figuratively speaking, if these two concepts were to be depicted graphically, a small business would resemble a spiral, whereas a startup would look like a chaotically jumping broken line.
An owner of a small business is not an inventor. Their job is to choose the right niche and then just make some money.
Startup founders might follow certain patterns too, but they choose an idea that will make big money at least two to three times faster than other players in the industry. A good example is Dollar Shave Club. This startup entered the market that has long been occupied by larger companies and offered customers something more than just good shavers: a subscription on razors. No more wasting time in the store!
Therefore, a startup is built around two things: a product idea and an innovative approach. Forbes magazine describes them as pillars of a startup’s corporate culture. Further actions come out of it. Opening an art studio in your own area is starting a small business. But launching an online project where novice artists can upload their work, get donations and pay commissions to project founders is a startup.
Business growth rate
Small business has a certain framework. In Russia and some European countries, such a company can hire no more than 100 employees while having restrictions on revenue amounts. Nevertheless, a small business may well grow and scale, for example, opening more stores or coffee shops, hiring new employees, and gradually moving to the next stage of development.
Startups, on the other hand, grow in leaps and bounds and sometimes even pivot along the way. In the long term, their development is unstable and depends on several factors: the state of the market, the prevailing circumstances, the consumer’s reaction to the product, etc. According to statistics, the average lifespan of a new company in Russia does not exceed three years while 70% of foreign startups die out even faster. Therefore, the startup founder must not only choose the right business model but also be able to amend it.
According to Paul Graham, startups are simply doomed to a short life as it’s their secret of accelerated growth. Why is that? Let’s recall the model of a company life cycle created by the American business consultant Ichak Adizes. He believes that any stability is followed by death.
When a small business owner is asked what they want to see in the future, the answer will probably be financial stability. After all, a bird in the hand is worth two in the bush. But startup founders think otherwise. They want more birds in the bush. And they will get them all.
Business always comes with risk and commitment. Small business owners tend to choose a more comfortable existence with a clear business plan, government support, or a loan as their seed money. That’s why the franchise schemes are so die-hard. Everything here is simple and linear: you bought a coffee stall, you sold more, you earned more. In this case, there’s an extremely low risk of failing to reach self-sufficiency, and it mostly depends on the managerial skills of the businessman.
Startups are a completely different matter. Especially the ones that choose a slightly more aggressive behavior and strive to become a monopolist in their field. Creating a small business requires relatively small investments which can be covered by family savings or a loan. Whereas for startups, getting a bank loan might be quite useless because the project will spend money on testing hypotheses instead of building a structure that has been debugged decades ago.
To avoid failure at any stage, the startup model must be fluid and flexible. After all, even successful business copies are prone to mistakes, as confirmed by Google Glass or the Quibi streaming video service.
As a result, small businesses and startups have different long-term strategies. In the first case, it’s developing the enterprise and transferring it to one’s offsprings by inheritance or selling it. In the second case, if the startup model has been successfully adjusted, it can enter the stock market, sell its shares (IPO), or also be sold to a major player.
It turns out that every startup has two main points on its chaotic lifeline: explosive growth and being sold (or going public). If your business is consistently profitable and earns more than it spends, consider whether it needs to be treated as a startup at all.
Focus on new technologies
This is the hardest criterion of distinguishing between startups and small businesses. Theorist and founder of Y Combinator Paul Graham believes that using a unique technology isn’t crucial. Since Airbnb clone companies are quite successful around the world, it might prove his point.
On the other hand, the pioneer of interactive entrepreneurship Eric Ries believes there is nothing else that can be the “engine” of a startup better than innovations.
However, modern history remembers several major business failures where the emphasis was on innovation. The legendary medical startup Theranos went from disruptive technology of blood sampling to fraud trials, while Scale Factor was passing off the calculations of ordinary accountants for artificial intelligence.
The difference is that small businesses use ready-made and proven technological solutions. This is rational and profitable, especially when the entrepreneur is not trying to bring an extremely innovative product to the market.
Financing and profit
Small businesses are conservative about choosing sources of financing. To open a flower shop, you can sometimes do without seed capital and/or avoid sponsoring it from your own reserves. Instead, get a bank loan or use any suitable government program. The risks are relatively small and the numbers are clear. Even an account on a marketplace like Wildberries can break even after a few months.
Startups also have their “places of power” — accelerators, studios, and incubators. They can be supported by a university, a technology park, or a grant as in Skolkovo or Silicon Valley. However, Paul Graham notes that each startup’s financing is distinct in its general investment procedure.
1) Seed stage. At the very beginning, money can be gathered from relatives, friends, or third-party stakeholders, such as crowdfunding platforms. This option is known as the method of three Fs (friends, family, and fools).
Bootstrapping is another, much tougher version often applicable for MVPs. In this case, the founders use exclusively their own funds. It may well cover the development of a prototype and first production costs without spending time and effort on attracting investments. And in the event of a sharp scaling, the founders’ share in the general fund will not be diluted.
2) The stage of angel investments. This is where interested private investors come into play.
3) Attracting a venture fund. It comes with one or more rounds of funding and expansion of the startup structure. But there’s one thing: a venture fund will always look for a project with billion-dollar potential. For a VC, this is the only safe way to return at least a third of the funds invested into a company.
Another thing that makes small businesses and startups different is the approach to understanding profit. A common entrepreneur aims to earn money from the first days of the enterprise. But a founder’s focus is on testing hypotheses, finding a product that will lead to massive cashinflows — the sooner the better.
Choosing the type of business
To avoid becoming zombie companies, startups need rapid development. Usually, they grow in sudden jerks. A prime example is EverBlock Systems, a giant building block company. During the first wave of COVID-19, its products were used to build temporary hospitals throughout North America, which tripled the company’s revenue compared to 2019. But the massive pandemic will end sooner or later, and the demand will fall. The company will have to outsmart its competitors, and you never know what will happen next.
Being a small business, on the other hand, is convenient and understandable. It also has growth potential. This is clearly shown by tiny pizzerias that grow into city chains or regional franchises.
However, this doesn’t mean that a startup is bound for loss, so it’s better to have a bird in the hand, i.e. a common small bakery or a coffee shop. To each their own. However, remember that without taking risks Elon Musk could still be inventing computer games, rocketry would stop at the level of the 20th century, and millions of people would settle on cars with internal combustion engines.
So what do you need to understand when assessing what type of business you run? Just answer these questions:
- Is your idea innovative for the industry?
- Is there a realistic way to increase the customer base by tens or even hundreds of times?
- What audience will be interested in your product? Is it local, or it might as well go global?
At least two out of three positive answers will help you understand what your current business is.