McKinsey released a study of high growth software companies entitled Grow Fast or Die Slow. One salient conclusion:
If a software company grows at 20% annually, it has a 92 percent chance of ceasing to exist within a few years.
In other words, software companies must grow quickly to survive. Slow growing businesses suffer from the lack of oxygen that fuels growth. Raising money is more expensive. Hiring becomes challenging. Without the capacity to invest capital in growth or the ability to compete for top talent, the slow growth cycle reinforces itself.
The McKinsey study breaks down rapid growth into two parts. In part one, the authors identify five key factors of success in the early stages. Large market; logical revenue model; rapid-adoption; stealth/secrecy; proper compensation of the leadership team.
This list will surprise no one, except perhaps for stealth. Is secrecy and stealth a prerequisite to success for every massive software company? For most bottoms-up businesses, stealth isn’t a competitive advantage, but awareness is.
Part two is more interesting. The defining characteristic of enduring software businesses is they “master the transition from one act to the next.” Fast-growth startups must metamorphose constantly because the market demands it of them.
One founder described the transition this way:
First, I was one of a few founders. As we grew, I became a manager of people. Then a manager of managers. And now I’m a manager of managers of managers.
Another founder, Tien Tzuo, talks about the breaking points of management that occur at 8 employees, 57 employees, and 400 employees.
Regardless of how these changes are described, a startup has to navigate these changes well because it’s critical to sustaining the value of the business.
Companies whose growth rate fell off and then recovered created less than a quarter of the value of the companies that maintained growth…Bankers call this the “humpty dumpty” problem: once growth is broken, it is impossible to put back together again.
Though there is some truth to the assertion, the Humpty Dumpty characterization is overly broad. To cite one critical counterexample, Concur’s rapid revenue growth in 2006 and 2007 occurred after nearly a decade of tepid expansion. Second winds aren’t uncommon. One third of the software companies analyzed by McKinsey returned to their previous growth rates.
Startups must sustain annual growth rates of greater than 20% annually to survive. The faster a company grows and the better the management team anticipates, prepares for, and manages the transitions from seedling to sapling to enduring business, the more valuable the business will be.