Growth strategies among startups
A popular statistic that dates back to 2015 states that on average there are about three small businesses launched every second in the world (Guibourg, 2015). This is an incredible growth rate and the interesting part is that this number might be higher in present days. For example, Bloomberg U.S. Startups Barometer shows that in 2018 it is has been an increase of almost 55% of new startups compared to the previous year. One may think that this incredible boom of new small businesses must be attributed to high success rates. However, this can not be further from the truth. According to the US Bureau of Labor of Statistics about 51,4 percent of small businesses in 2015 failed in the first four years (Entrepreneurship and the U.S. Economy, 2016). The leading causes of failure can be attributed to incompetence and lack of managerial experience (Mansfield, 2018). Since the success-failure rate of a startup is pretty much equal to flipping a coin, an entrepreneur might ask what is the best growth strategy for a startup?
Porter (1996) defines strategy as a unique and valuable position rooted in systems of activities of a company that is much difficult to match by competitors. This is not to be confused with operational effectiveness, which although necessary for superior performance, is not sufficient, because its techniques are easy to imitate by other companies (Porter, 1996). Therefore, a strategy is unique for a company and it is difficult to replicate for other commercial actors. A growth strategy should maintain this characteristic and, in addition, it should have a clear plan to increase sales and profitability. Business Dictionary defines growth strategy as “strategy aimed at winning a larger market share, even at the expense of short-term earnings”. This paper analyzes growth strategies among tech startups. To this extent, a startup is defined as a tech company in the introduction stage of growth that is determined to expand quickly (Wilhelm, 2014). Additionally, Arcurs (2016) identifies six signs that a company has completed the startup phase. If a startup has a combination of these characteristics that it is likely that the company is not a startup anymore: acquiring other startups, having more than 30 employees, being able to afford to pay good salaries, having a rock solid mission, having surpassed the cold calling stage, and achieving a strong brand. Startups have a flexible nature and some small enterprises might still be defined as startups even though they do not meet all of the characteristics above. The present paper will refer to a startup conform the definition and characteristics provided above.
There are two types of strategies that a startup can predominantly follow: internal growth or external growth. Internal growth strategy, also known as organic growth, is defined as the growth rate a company can achieve by generating sales internally and it involves developing new products and/or taking existing products to new markets (Bahadir et al., 2009). The internal growth represents efforts taken within the startup itself and it includes market penetration, market development, product development and diversification (Ansoff, 1957). The external growth, or non-organic growth, occurs when a business venture increases its sales and profits by buying or forming new relationships with other companies rather than from its own operations (Cambridge Dictionary). The external growth is often categorized as mergers, acquisitions, strategic alliances, joint ventures, licensing, and franchising. Organic growth and non-organic growth are common strategies among tech startups. While it is possible to follow both growth strategies at the same time, usually there is only one strategy that is predominantly employed by a startup.
In the following chapters, organic growth and non-organic growth will be analyzed. Further, each strategy will be broken down into subcategories that will be defined. A pro-con list of arguments will be presented of the applicability of each strategy for tech startups.
Ansoff matrix (1957) represents a structured framework of the organic growth strategies (Graph. 1). To achieve sustainable growth a startup can rely on internal innovation by pursuing one or a combination of these organic growth strategies.
Market penetration
Market penetration is defined as increasing marketing efforts with current products or services in the market that they are already operating in. This approach is commonly performed by startups and early-stage businesses as the first step towards business growth. White (2016) identifies five marketing penetration strategies: price adjustment, increased promotion, extended distribution channels, improving products, and increased usage. Successful tech startups are predominantly better at these strategies because they manage to leverage the technology of digital tools to acquire and maintain their customers. Nir Eyal in his book “Hooked” identifies a four-step model that is present in all major tech companies to “hook” their clients and increase app engagement (Eyal, 2014). The four-step model involves an external trigger, action, variable reward and investment (p.6). Following this model is an effective way to achieve intensified market penetration by permanently engaging with present and potential customers.
One of the advantages of market penetration growth strategy is that it can help a business achieve predictable growth. Offering better prices than the market average attracts new clients and guarantees customer base growth. For example, Uber, the peer-to-peer ride-sharing company, has quickly expanded its customer base by offering transportation at a cheaper and more convenient price. In fact, from 2014 to 2015 the company has more than tripled its market share from nine percent to 29 percent (Dogtiev, 2018). Despite numerous tech startups success stories the strategy has its pitfalls. The disadvantages of market penetration strategy include unmet production costs, missed profits, and poor brand image (particularly for top-tier brands). This strategy may not always be easy to employ for a startup especially when a company enters a mature industry where prices are already set at a low level. Therefore, this organic growth strategy requires a thorough analysis of the market and the internal company strategy and characteristics before being employed.
Market development
Market development is defined as expanding into a new market using current products or services. This approach is often embedded in the DNA of a startup. The advantage of the majority of tech companies is that they are born-global. Knight (2015) states that born-globals are companies that undertake international business at or near their founding and are characterized by limited tangible and financial resources. Despite this perceived disadvantage, these firms are often more adaptable, more innovative, and have quicker response times for implementing new ideas and meeting customer needs (Crick, 2009). For example, companies such as Skype, the telecommunication application software, or Spotify, the digital music service, have quickly expanded their services into multiple markets from inception. The online telephone company, Skype, has quickly become a major player in the long distance calls and is currently operating in over 40 countries (Skype Support). Similarly, Spotify has expanded to over 60 countries (Where is Spotify available?). Lu (2016) notes that Spotify has acknowledged that the music industry is global and have, thus, created a global vision where “people from every country in the world can exchange music with each other”. Although being a born-global company, Spotify understands the importance of the local-touch approach and it adapts its product using current market trends and user behavior.
The advantages of market development organic growth strategy are gaining new customers, increased revenue, and global expansion. This strategy can lead to a competitive advantage by achieving economies of scale. The drawback of this strategy is that is generally considered to be high risk and high cost. Entering new markets may require extensive research of the political, economic, social and legal aspects. A startup may not always have the necessary resources to expand into new markets. Again, a thorough analysis of the market and the internal company strategy and characteristics must be conducted before moving ahead with this strategy.
Product development
Product development is characterized by adding a new feature or service to the current offerings in the existing markets. To develop their initial product offering startups can engage in three different approaches: the waterfall process, prototype process and agile process (Habermann, 2017). The great majority of startups prefer the agile planning process for product development as it is composed of three perpetual steps: learning, measuring and building. The strategy of developing new products is predominant in startups because they tend to focus on their main product line that is a necessary step in the introduction and the early growth stage for the future growth and survival of the company. For example, Google, the multinational tech company, was founded in 1998. In its inception stage, the company focused on developing the newly-born search engine by introducing Adwords in 2000 and image search in 2001. The introduction of these product enhancement features was in line with Google’s mission to “Organize the world’s information and make it universally accessible and useful” (Our company | Google). The introduction of these product developments was a high-risk move for Google considering that in 2000 the company had a net loss of $14,690 (Income Statement Google Inc Form S-1.).
According to Lynch (et al., 2006) product development growth strategy has the advantages of exploiting new technologies, using excess production capacity and protecting market share. For a startup, this strategy helps to capture new customers in existing markets, customers that may have not been captured otherwise. As proved in the example of Google, this strategy may be vital for the future survival of the startup. However, this strategy is associated with high costs including the financial and human capital. Additionally, product development growth strategy requires careful research of the market and its rate of success is not always guaranteed and may lead to bankruptcy.
Diversification
Diversification is defined as entering a new market with a new product or service. Ansoff (1957) states that this strategy calls for a simultaneous departure from the present product line and the present market structure. Further, he states that diversification requires “new skills, new techniques, and new facilities”, and as a result is preceded by “physical and organizational changes in the structure of the business”. The strategy of diversification is not predominantly utilized in startups because in the early growths take the companies tend to focus on their main product line to assure the future growth and survival of the business. As a startup grows and enters the maturity stage it is more likely to diversify but at that stage, the company, by definition, is not a startup anymore (Arcus, 2016). Looking again at the example of Google, it can be seen that the company enters the diversification strategy after its IPO in 2004. The company takes part in a series of partnerships and acquisitions including Youtube, Doubleclick, and Yahoo (Kollewe, 2008). Ten years after the company’s inception, Google clearly enters new markets with new products by launching Chrome and releasing Android OS in 2008. By diversifying its products and markets the company manages to expand its market share and profitability.
The great advantage of the diversification strategy is that it helps companies combat saturated markets and diminishing rates of return (Rodrigo, 2015). Successful diversification strategies assist companies to enlarge their customer base and assure continuous company growth. Although this organic growth strategy may offer great dominance, it may be lethal for a startup to pursue. Diversification is considered to be a high-risk strategy due to the fact that it requires organizations to enter into new territory where the parameters are unknown (Rodrigo, 2015). Therefore it is quite obvious why the great majority of startups prefer to avoid diversification strategy in the early stage of growth.
There are many advantages that non-organic growth can bring for a tech startup. First, the company may add new product lines through white-labeling. This encourages the addition of new streams of revenue. Second, non-organic growth provides a new customer base. Teaming up with another company can add not only new geographical territories but also new customer segments. Third, external growth can help achieve economies of scale. Zwilling (2013) writes that business opportunities with competitors (coopetition) will open up new marketing channels, and will provide the cost advantages of scale that can be applied to marketing, distribution, and sales departments.
Non-organic growth, despite its promises of high speed and scale of growth, it is considered a high-risk strategy. Compared with the organic growth strategy, non-organic growth does not require real innovation and sustained effort to create long-term competitive advantage through differentiation and efficiency (Zwilling, 2013). It also needs alignment across all business actors to assure compatibility and strategic fit. Apart from that, external growth strategies may lead to operational problems, increased business complexity, loss of organizational flexibility and control of the firm. Therefore, startups that chose to pursue this strategy must be confident that the new partnerships and acquisitions are aligned with the company mission and long-term goals.
There are six types of non-organic growth strategies that a startup can consider. These are mergers, acquisitions, strategic alliances, joint ventures, licensing, and franchising. Further, these strategies will be described and analyzed.
Mergers and Acquisitions
Mergers and acquisitions (M&As) are an important strategic option for organizations to remain competitive in the global market (Bommaraju et al., 2018). Although the term M&A is often paired, there are some underlying differences between a merger and an acquisition. A merger is the voluntary fusion of two or more companies to form a new company, and its aim is to decrease competition and increase operational efficiency (Surbhi, 2015). On another side, an acquisition is defined as a process of one entity purchasing the business of another entity. The purpose of an acquisition can be friendly or hostile and its aim is instantaneous growth (Surbhi, 2015). The game of M&A is highly controversial due to its ethical practices (i.e poison pills, White Knights, Pac-man) and its high failure rates. There is considerable evidence that M&A activities are unsuccessful. Estimated failure rates among M&As are between 60% to 80% (Marks et al., 2001). An article in The Economist (1999) even goes as far as stating that acquisitions are like “second marriages, a triumph of hope over experience…with even higher failure rates than the liaisons of Hollywood stars”. Despite this pessimistic views of M&As, companies of all sizes engage in this tedious process. The motives behind mergers and acquisitions are numerous. Various studies have found that the primary motives of M&A are the purchase of advanced technologies and the exploration of new business outside firms primary business (Lee & Lieberman, 2010; Stettner & Lavie, 2014). Besides this, successful mergers and acquisitions enjoy higher long-term stock returns (Sorescu et al,, 2007), cost savings of marketing integration (Homburg et al., 2015), and higher R&D input and innovation performance (Tseng, 2008). Other studies show the impact on the sales force of an organization. For example, Bommaraju (2018) shows that merging with a better firm-image can enhance sales performance. Therefore, many startups may choose the path of mergers and acquisitions to achieve the above-mentioned benefits and enjoy a quick boost in growth.
For a successful startup acquisition, a number of the requirement must be met. In recent times, the most acquired SMBs are creative and entrepreneurial startups (Zacks et al., 2018). It is really important for these firms to adopt a flexible approach for strategic and operational needs. The internal culture should be characterized by entrepreneurship, innovation, high-motivation, tech-orientation, improvisation, and an aggressive market outlook (Zacks et al., 2018). Additionally, it is critical for startups to invest in long-term strategic thinking. Most of the startup founders are young and often overestimate their technology capabilities and focus too little on management skills. However, many angel investors and venture capital firms (VC) highlight the assessment of the core marketing team in making investment decisions (Zacks et al., 2018). Therefore, a startup that strives to look attractive for potential investors or M&A purposes should not only have a powerful product but also a potent demand-generation team.
Strategic alliances
In the era of globalization, the formation of strategic alliances has dramatically increased worldwide. This recent formation of alliances is one of the most effective means of combining competition and collaboration (Kim, 2015). A strategic alliance is defined as the purposive relationship between firms that share compatible goals and strive for mutual benefits (Alberts et al., 2016). They represent a complex organizational phenomenon and require advanced levels of commitment and investment from partners. Kim (2015) identifies to primary reasons for the formation of alliances: resource-based reasons and knowledge-based reasons. The resource-based reasons can be further divided into two categories: tangible assets and intangible assets. Tangible assets are represented by a specific product or technology, while intangible assets consist of assets such as brand reputation and patents. On the other side, knowledge-based reasons strive to access new knowledge and practices of other firms. Therefore, startups can benefit from strategic alliances by accessing both type of assets of more experienced companies. Further, strategic alliances can be classified into various types: purely R&D alliances (Apple Inc and Cisco Systems), international alliances (Apple Pay and Mastercard) or buyer-supplier alliances (Apple Inc and FoxConn).
Strategic alliances can be particularly valuable for startups. Chang (2004) writes that the higher number of alliances a startup has the more money the startup raised. One additional alliance partner increased the IPO rate by 1.17 times. Aside from the financial return, a startup can benefit from strategic alliances by acquiring new resources and increasing its legitimacy as a business. Other studies have shown that alliance partners can positively impact the firm productivity (Kim, 2015). Despite the aforementioned positive impacts, strategic alliances incur high coordination and monitoring costs. Startups may suffer from lack of control, unequal benefits, common liability. For example, if one of the alliance partners goes bankrupt or suffers from a stained brand image this can negatively impact the growth strategy of the startup. Therefore, startups have to be prudent when pursuing this external growth strategy.
Joint ventures
A Joint Venture (JV) occurs when two or more companies stock a portion of their resources within a common legal organization (Kogut, 1988). A growing number of SMEs have adopted this mode in their growth strategy (Lu et al., 2006). Joint ventures can be seen primarily as a device to obtain access to resources in other organizations and as a way of acquiring local management expertise to facilitate fast entry into new markets (Kirby et al., 2003). Similarly, other studies showed that joint ventures can be an effective way to achieve fast internationalization. For example, a study of high-performing UK high-tech SMEs states that internationalization through joint ventures commenced within three years of a startup as a planned activity (Crick et al., 2005). This often happens because firms are serving niche markets where there is scarce local demand for their products and services that forces the business ventures to expand.
Joint ventures can be a successful external growth strategy, particularly for SMEs. A study of 9 UK and 12 German SMEs that have joint ventures in China states that JVs were particularly helpful to gain local expertise and connections (Kirby et al., 2003). Other highly ranked motivations of joint ventures were “cheap labor” and “establishment of strategic position”. Additionally, Lu (2006) writes that having a local partner has positive impacts on the profitability of the SME. However, the most common pitfalls of having a joint venture include divergences in the concept of quality, repatriation of profits, recruiting personnel and personal motivations (Kirby et al., 2003).
Licensing
Licensing represents the economic activity where one company provides another company authorization to utilize its product or service for a specific payment. Most commonly companies license product patents trademark, copyrights, designs, and other intellectual property to business ventures. For example, it is common for research universities to license their products and knowledge to startups. Powers et al., (2005) writes that “universities have traditionally sought to license their technologies to established private and public firms, usually in exchange for the reimbursement of patent costs, an up-front licensing fee, and a percentage of product sales”. Although the risk of licensing to newly form startups is high, universities may benefit from such activity and might even take equity in these newly form ventures. Startup companies that have limited financial resources or are in a high-risk situation may enter into a license agreement with a mature business. This entitles the startup to regular income streams from the license fee or the royalty without having completely lost all the rights in the company (Cieri, 1999). For a licensing agreement to be successful it requires that both the licensee and the licensor remain in business for a long term.
From a startup perspective, licensing can help the company thrive. Bautista (2015) writes that licensing is not only for big brands and that there is the demand to invest in a startup even though the risk is higher. He further writes that licensing can help a startup create a strong brand awareness that is a critical aspect in the early stages of any business. Another aspect is that startups can provide more flexible terms and conditions, react faster, and be more adaptable which represent great winning points for the licensee. Licensing, although not very common among startups, can be a great external growth strategy. However, the founder has to trade ownership of the startup and its profits with the licensee.
Franchising
Franchising represents a stricter form of licensing, where a company provides ongoing training and support for the entrepreneur. Franchising is a proven business model that lasts for the entire duration of the franchisee. Castrogiovanni (2004) writes that the primary reason why firms begin franchising is growth. Successful franchising companies share a number of similar characteristics Huszagh et al., (1992) states that “firms with longer operating experience are more likely to expand internationally” and that “experience is still a powerful tool in dealing with […] franchising”. Since startups have a limited operating experience this method of external growth is rarely utilized.
Organic growth strategies appear to be more suitable for tech startups due to higher internal control and less external risk for the founder. Additionally, the great majority of startups lack internal resources or brand image to follow external growth strategies such as joint ventures, licensing and franchising. A successful startup must prepare and look for partnership opportunities in its beginning phase to achieve fast growth and overcome its initial growth stage which is considered the toughest part of the growth journey.
There are certain limitations to these findings. The paper does not analyze the importance of the management team, marketing variables and innovation rate of a startup which are considered to be the critical metric for the growth of a company. Further research in this area is to be conducted for additional insights.
Porter (1996) defines strategy as a unique and valuable position rooted in systems of activities of a company that is much difficult to match by competitors. This is not to be confused with operational effectiveness, which although necessary for superior performance, is not sufficient, because its techniques are easy to imitate by other companies (Porter, 1996). Therefore, a strategy is unique for a company and it is difficult to replicate for other commercial actors. A growth strategy should maintain this characteristic and, in addition, it should have a clear plan to increase sales and profitability. Business Dictionary defines growth strategy as “strategy aimed at winning a larger market share, even at the expense of short-term earnings”. This paper analyzes growth strategies among tech startups. To this extent, a startup is defined as a tech company in the introduction stage of growth that is determined to expand quickly (Wilhelm, 2014). Additionally, Arcurs (2016) identifies six signs that a company has completed the startup phase. If a startup has a combination of these characteristics that it is likely that the company is not a startup anymore: acquiring other startups, having more than 30 employees, being able to afford to pay good salaries, having a rock solid mission, having surpassed the cold calling stage, and achieving a strong brand. Startups have a flexible nature and some small enterprises might still be defined as startups even though they do not meet all of the characteristics above. The present paper will refer to a startup conform the definition and characteristics provided above.
There are two types of strategies that a startup can predominantly follow: internal growth or external growth. Internal growth strategy, also known as organic growth, is defined as the growth rate a company can achieve by generating sales internally and it involves developing new products and/or taking existing products to new markets (Bahadir et al., 2009). The internal growth represents efforts taken within the startup itself and it includes market penetration, market development, product development and diversification (Ansoff, 1957). The external growth, or non-organic growth, occurs when a business venture increases its sales and profits by buying or forming new relationships with other companies rather than from its own operations (Cambridge Dictionary). The external growth is often categorized as mergers, acquisitions, strategic alliances, joint ventures, licensing, and franchising. Organic growth and non-organic growth are common strategies among tech startups. While it is possible to follow both growth strategies at the same time, usually there is only one strategy that is predominantly employed by a startup.
In the following chapters, organic growth and non-organic growth will be analyzed. Further, each strategy will be broken down into subcategories that will be defined. A pro-con list of arguments will be presented of the applicability of each strategy for tech startups.
Organic Growth
Organic growth could not be more important to the survival of small enterprises. A report by McKinsey states that at comparable growth level, companies with more organic growth outperform those with more growth from acquisitions (Goedhart et al., 2017). However, companies often pass up organic-growth opportunities because they take longer to boost earnings than acquisitions do. Despite this fact, organic growth offers higher control and reliability over the growth of a startup and it encourages new job creation (Pasanen, 2007). It is well-known that startups are not smaller versions of enterprise companies and, therefore, may lack the internal resources to acquire new business.Ansoff matrix (1957) represents a structured framework of the organic growth strategies (Graph. 1). To achieve sustainable growth a startup can rely on internal innovation by pursuing one or a combination of these organic growth strategies.
Market penetration
Market penetration is defined as increasing marketing efforts with current products or services in the market that they are already operating in. This approach is commonly performed by startups and early-stage businesses as the first step towards business growth. White (2016) identifies five marketing penetration strategies: price adjustment, increased promotion, extended distribution channels, improving products, and increased usage. Successful tech startups are predominantly better at these strategies because they manage to leverage the technology of digital tools to acquire and maintain their customers. Nir Eyal in his book “Hooked” identifies a four-step model that is present in all major tech companies to “hook” their clients and increase app engagement (Eyal, 2014). The four-step model involves an external trigger, action, variable reward and investment (p.6). Following this model is an effective way to achieve intensified market penetration by permanently engaging with present and potential customers.
One of the advantages of market penetration growth strategy is that it can help a business achieve predictable growth. Offering better prices than the market average attracts new clients and guarantees customer base growth. For example, Uber, the peer-to-peer ride-sharing company, has quickly expanded its customer base by offering transportation at a cheaper and more convenient price. In fact, from 2014 to 2015 the company has more than tripled its market share from nine percent to 29 percent (Dogtiev, 2018). Despite numerous tech startups success stories the strategy has its pitfalls. The disadvantages of market penetration strategy include unmet production costs, missed profits, and poor brand image (particularly for top-tier brands). This strategy may not always be easy to employ for a startup especially when a company enters a mature industry where prices are already set at a low level. Therefore, this organic growth strategy requires a thorough analysis of the market and the internal company strategy and characteristics before being employed.
Market development
Market development is defined as expanding into a new market using current products or services. This approach is often embedded in the DNA of a startup. The advantage of the majority of tech companies is that they are born-global. Knight (2015) states that born-globals are companies that undertake international business at or near their founding and are characterized by limited tangible and financial resources. Despite this perceived disadvantage, these firms are often more adaptable, more innovative, and have quicker response times for implementing new ideas and meeting customer needs (Crick, 2009). For example, companies such as Skype, the telecommunication application software, or Spotify, the digital music service, have quickly expanded their services into multiple markets from inception. The online telephone company, Skype, has quickly become a major player in the long distance calls and is currently operating in over 40 countries (Skype Support). Similarly, Spotify has expanded to over 60 countries (Where is Spotify available?). Lu (2016) notes that Spotify has acknowledged that the music industry is global and have, thus, created a global vision where “people from every country in the world can exchange music with each other”. Although being a born-global company, Spotify understands the importance of the local-touch approach and it adapts its product using current market trends and user behavior.
The advantages of market development organic growth strategy are gaining new customers, increased revenue, and global expansion. This strategy can lead to a competitive advantage by achieving economies of scale. The drawback of this strategy is that is generally considered to be high risk and high cost. Entering new markets may require extensive research of the political, economic, social and legal aspects. A startup may not always have the necessary resources to expand into new markets. Again, a thorough analysis of the market and the internal company strategy and characteristics must be conducted before moving ahead with this strategy.
Product development
Product development is characterized by adding a new feature or service to the current offerings in the existing markets. To develop their initial product offering startups can engage in three different approaches: the waterfall process, prototype process and agile process (Habermann, 2017). The great majority of startups prefer the agile planning process for product development as it is composed of three perpetual steps: learning, measuring and building. The strategy of developing new products is predominant in startups because they tend to focus on their main product line that is a necessary step in the introduction and the early growth stage for the future growth and survival of the company. For example, Google, the multinational tech company, was founded in 1998. In its inception stage, the company focused on developing the newly-born search engine by introducing Adwords in 2000 and image search in 2001. The introduction of these product enhancement features was in line with Google’s mission to “Organize the world’s information and make it universally accessible and useful” (Our company | Google). The introduction of these product developments was a high-risk move for Google considering that in 2000 the company had a net loss of $14,690 (Income Statement Google Inc Form S-1.).
According to Lynch (et al., 2006) product development growth strategy has the advantages of exploiting new technologies, using excess production capacity and protecting market share. For a startup, this strategy helps to capture new customers in existing markets, customers that may have not been captured otherwise. As proved in the example of Google, this strategy may be vital for the future survival of the startup. However, this strategy is associated with high costs including the financial and human capital. Additionally, product development growth strategy requires careful research of the market and its rate of success is not always guaranteed and may lead to bankruptcy.
Diversification
Diversification is defined as entering a new market with a new product or service. Ansoff (1957) states that this strategy calls for a simultaneous departure from the present product line and the present market structure. Further, he states that diversification requires “new skills, new techniques, and new facilities”, and as a result is preceded by “physical and organizational changes in the structure of the business”. The strategy of diversification is not predominantly utilized in startups because in the early growths take the companies tend to focus on their main product line to assure the future growth and survival of the business. As a startup grows and enters the maturity stage it is more likely to diversify but at that stage, the company, by definition, is not a startup anymore (Arcus, 2016). Looking again at the example of Google, it can be seen that the company enters the diversification strategy after its IPO in 2004. The company takes part in a series of partnerships and acquisitions including Youtube, Doubleclick, and Yahoo (Kollewe, 2008). Ten years after the company’s inception, Google clearly enters new markets with new products by launching Chrome and releasing Android OS in 2008. By diversifying its products and markets the company manages to expand its market share and profitability.
The great advantage of the diversification strategy is that it helps companies combat saturated markets and diminishing rates of return (Rodrigo, 2015). Successful diversification strategies assist companies to enlarge their customer base and assure continuous company growth. Although this organic growth strategy may offer great dominance, it may be lethal for a startup to pursue. Diversification is considered to be a high-risk strategy due to the fact that it requires organizations to enter into new territory where the parameters are unknown (Rodrigo, 2015). Therefore it is quite obvious why the great majority of startups prefer to avoid diversification strategy in the early stage of growth.
Non-organic Growth
Even though companies are usually focused on employing organic growth strategies, non-organic growth can better leverage the limited resources of a startup. Non-organic growth, or external growth, involves finding strategic partnerships or acquisitions as a method of increasing revenue and market share. Tech startups can achieve high growth in a short period of time by focusing on strategic partnerships with Original Equipment Manufacturers (OEMs), Independent Software Vendors (ISVs), Retailers, Value Added Distributors (VAD), System Integrators or Alliance Partners. A great example of a startup which used non-organic growth in its inception stage is Microsoft. The company focused on adding thousands of small partners for applications, and major partners like IBM, Intel, and other hardware manufacturers (Zwilling, 2013). Having a large network of partners constituted the base for the company’s future speed and scale of growth.There are many advantages that non-organic growth can bring for a tech startup. First, the company may add new product lines through white-labeling. This encourages the addition of new streams of revenue. Second, non-organic growth provides a new customer base. Teaming up with another company can add not only new geographical territories but also new customer segments. Third, external growth can help achieve economies of scale. Zwilling (2013) writes that business opportunities with competitors (coopetition) will open up new marketing channels, and will provide the cost advantages of scale that can be applied to marketing, distribution, and sales departments.
Non-organic growth, despite its promises of high speed and scale of growth, it is considered a high-risk strategy. Compared with the organic growth strategy, non-organic growth does not require real innovation and sustained effort to create long-term competitive advantage through differentiation and efficiency (Zwilling, 2013). It also needs alignment across all business actors to assure compatibility and strategic fit. Apart from that, external growth strategies may lead to operational problems, increased business complexity, loss of organizational flexibility and control of the firm. Therefore, startups that chose to pursue this strategy must be confident that the new partnerships and acquisitions are aligned with the company mission and long-term goals.
There are six types of non-organic growth strategies that a startup can consider. These are mergers, acquisitions, strategic alliances, joint ventures, licensing, and franchising. Further, these strategies will be described and analyzed.
Mergers and Acquisitions
Mergers and acquisitions (M&As) are an important strategic option for organizations to remain competitive in the global market (Bommaraju et al., 2018). Although the term M&A is often paired, there are some underlying differences between a merger and an acquisition. A merger is the voluntary fusion of two or more companies to form a new company, and its aim is to decrease competition and increase operational efficiency (Surbhi, 2015). On another side, an acquisition is defined as a process of one entity purchasing the business of another entity. The purpose of an acquisition can be friendly or hostile and its aim is instantaneous growth (Surbhi, 2015). The game of M&A is highly controversial due to its ethical practices (i.e poison pills, White Knights, Pac-man) and its high failure rates. There is considerable evidence that M&A activities are unsuccessful. Estimated failure rates among M&As are between 60% to 80% (Marks et al., 2001). An article in The Economist (1999) even goes as far as stating that acquisitions are like “second marriages, a triumph of hope over experience…with even higher failure rates than the liaisons of Hollywood stars”. Despite this pessimistic views of M&As, companies of all sizes engage in this tedious process. The motives behind mergers and acquisitions are numerous. Various studies have found that the primary motives of M&A are the purchase of advanced technologies and the exploration of new business outside firms primary business (Lee & Lieberman, 2010; Stettner & Lavie, 2014). Besides this, successful mergers and acquisitions enjoy higher long-term stock returns (Sorescu et al,, 2007), cost savings of marketing integration (Homburg et al., 2015), and higher R&D input and innovation performance (Tseng, 2008). Other studies show the impact on the sales force of an organization. For example, Bommaraju (2018) shows that merging with a better firm-image can enhance sales performance. Therefore, many startups may choose the path of mergers and acquisitions to achieve the above-mentioned benefits and enjoy a quick boost in growth.
For a successful startup acquisition, a number of the requirement must be met. In recent times, the most acquired SMBs are creative and entrepreneurial startups (Zacks et al., 2018). It is really important for these firms to adopt a flexible approach for strategic and operational needs. The internal culture should be characterized by entrepreneurship, innovation, high-motivation, tech-orientation, improvisation, and an aggressive market outlook (Zacks et al., 2018). Additionally, it is critical for startups to invest in long-term strategic thinking. Most of the startup founders are young and often overestimate their technology capabilities and focus too little on management skills. However, many angel investors and venture capital firms (VC) highlight the assessment of the core marketing team in making investment decisions (Zacks et al., 2018). Therefore, a startup that strives to look attractive for potential investors or M&A purposes should not only have a powerful product but also a potent demand-generation team.
Strategic alliances
In the era of globalization, the formation of strategic alliances has dramatically increased worldwide. This recent formation of alliances is one of the most effective means of combining competition and collaboration (Kim, 2015). A strategic alliance is defined as the purposive relationship between firms that share compatible goals and strive for mutual benefits (Alberts et al., 2016). They represent a complex organizational phenomenon and require advanced levels of commitment and investment from partners. Kim (2015) identifies to primary reasons for the formation of alliances: resource-based reasons and knowledge-based reasons. The resource-based reasons can be further divided into two categories: tangible assets and intangible assets. Tangible assets are represented by a specific product or technology, while intangible assets consist of assets such as brand reputation and patents. On the other side, knowledge-based reasons strive to access new knowledge and practices of other firms. Therefore, startups can benefit from strategic alliances by accessing both type of assets of more experienced companies. Further, strategic alliances can be classified into various types: purely R&D alliances (Apple Inc and Cisco Systems), international alliances (Apple Pay and Mastercard) or buyer-supplier alliances (Apple Inc and FoxConn).
Strategic alliances can be particularly valuable for startups. Chang (2004) writes that the higher number of alliances a startup has the more money the startup raised. One additional alliance partner increased the IPO rate by 1.17 times. Aside from the financial return, a startup can benefit from strategic alliances by acquiring new resources and increasing its legitimacy as a business. Other studies have shown that alliance partners can positively impact the firm productivity (Kim, 2015). Despite the aforementioned positive impacts, strategic alliances incur high coordination and monitoring costs. Startups may suffer from lack of control, unequal benefits, common liability. For example, if one of the alliance partners goes bankrupt or suffers from a stained brand image this can negatively impact the growth strategy of the startup. Therefore, startups have to be prudent when pursuing this external growth strategy.
Joint ventures
A Joint Venture (JV) occurs when two or more companies stock a portion of their resources within a common legal organization (Kogut, 1988). A growing number of SMEs have adopted this mode in their growth strategy (Lu et al., 2006). Joint ventures can be seen primarily as a device to obtain access to resources in other organizations and as a way of acquiring local management expertise to facilitate fast entry into new markets (Kirby et al., 2003). Similarly, other studies showed that joint ventures can be an effective way to achieve fast internationalization. For example, a study of high-performing UK high-tech SMEs states that internationalization through joint ventures commenced within three years of a startup as a planned activity (Crick et al., 2005). This often happens because firms are serving niche markets where there is scarce local demand for their products and services that forces the business ventures to expand.
Joint ventures can be a successful external growth strategy, particularly for SMEs. A study of 9 UK and 12 German SMEs that have joint ventures in China states that JVs were particularly helpful to gain local expertise and connections (Kirby et al., 2003). Other highly ranked motivations of joint ventures were “cheap labor” and “establishment of strategic position”. Additionally, Lu (2006) writes that having a local partner has positive impacts on the profitability of the SME. However, the most common pitfalls of having a joint venture include divergences in the concept of quality, repatriation of profits, recruiting personnel and personal motivations (Kirby et al., 2003).
Licensing
Licensing represents the economic activity where one company provides another company authorization to utilize its product or service for a specific payment. Most commonly companies license product patents trademark, copyrights, designs, and other intellectual property to business ventures. For example, it is common for research universities to license their products and knowledge to startups. Powers et al., (2005) writes that “universities have traditionally sought to license their technologies to established private and public firms, usually in exchange for the reimbursement of patent costs, an up-front licensing fee, and a percentage of product sales”. Although the risk of licensing to newly form startups is high, universities may benefit from such activity and might even take equity in these newly form ventures. Startup companies that have limited financial resources or are in a high-risk situation may enter into a license agreement with a mature business. This entitles the startup to regular income streams from the license fee or the royalty without having completely lost all the rights in the company (Cieri, 1999). For a licensing agreement to be successful it requires that both the licensee and the licensor remain in business for a long term.
From a startup perspective, licensing can help the company thrive. Bautista (2015) writes that licensing is not only for big brands and that there is the demand to invest in a startup even though the risk is higher. He further writes that licensing can help a startup create a strong brand awareness that is a critical aspect in the early stages of any business. Another aspect is that startups can provide more flexible terms and conditions, react faster, and be more adaptable which represent great winning points for the licensee. Licensing, although not very common among startups, can be a great external growth strategy. However, the founder has to trade ownership of the startup and its profits with the licensee.
Franchising
Franchising represents a stricter form of licensing, where a company provides ongoing training and support for the entrepreneur. Franchising is a proven business model that lasts for the entire duration of the franchisee. Castrogiovanni (2004) writes that the primary reason why firms begin franchising is growth. Successful franchising companies share a number of similar characteristics Huszagh et al., (1992) states that “firms with longer operating experience are more likely to expand internationally” and that “experience is still a powerful tool in dealing with […] franchising”. Since startups have a limited operating experience this method of external growth is rarely utilized.
Final Remarks
This paper analyzed and compared the organic and non-organic growth strategies among startups. The organic growth of startups was analyzed according to Ansoff four growth strategies: market penetration, market development, product development, and diversification. For tech startups, the most applicable growth strategy is market penetration and the least utilized strategy is diversification. Depending on the nature and the development stage of a startup, the company can pursue one or a combination of the aforementioned organic growth strategies. The non-organic growth of startups involves acquiring new businesses or strategic assets rather than building these assets internally. These can be categorized into six categories: mergers, acquisitions, strategic alliances, joint ventures, licensing, and franchising. While there are examples of successful startups that followed non-organic growth strategies (i.e. Microsoft), this path of non-organic growth is normally riskier and more expensive to implement. Justifying the risk, startups that enter strategic alliances correlated positively with higher investment opportunities and increased IPO rate.Organic growth strategies appear to be more suitable for tech startups due to higher internal control and less external risk for the founder. Additionally, the great majority of startups lack internal resources or brand image to follow external growth strategies such as joint ventures, licensing and franchising. A successful startup must prepare and look for partnership opportunities in its beginning phase to achieve fast growth and overcome its initial growth stage which is considered the toughest part of the growth journey.
There are certain limitations to these findings. The paper does not analyze the importance of the management team, marketing variables and innovation rate of a startup which are considered to be the critical metric for the growth of a company. Further research in this area is to be conducted for additional insights.
Comments
Post a Comment