Startup or Lifestyle Business?

Is this Company a Startup or a Lifestyle Business?

This question is wildly important for investors to ask.

Why?

I’m glad you asked - let’s jump in.

The Observer Express

Don’t have time to read the entire post right now? No worries, here are the main points:

1. Definitions matter.

2. Startups and lifestyle businesses have very different goals.

3. The answer to this question shapes due diligence in 4 primary categories: market, traction, returns, and team.

Definitions Matter

Unfortunately, many terms in the venture investing world are not well defined.

I suppose that’s the beauty of language.

But it’s something investors must be cautious about.

For example, here’s a “simple” question for you: what is a startup?

A Startup is…

“…a company in the first stages of operations.” (Investopedia)

“…an organization built to search for a repeatable and scalable business model.” (Steve Blank)

“…a human institution designed to create a new product or service under conditions of extreme uncertainty.” (Eric Ries, The Lean Startup)

“…a new business formed to solve a problem for a target audience.” (Hubspot)

“…a small, early stage company designed to grow fast.” (Y Combinator)

Ok, so if I smoosh all these definitions together, I surmise that a startup is something along the lines of “a young company trying to grow/scale fast and solve problems for a specific audience in the face of uncertainty.” 

Next question: what is a lifestyle business?

A Lifestyle Business is…

“…a type of business that is designed to support the owner’s preferred lifestyle rather than solely focusing on maximizing profits or achieving high levels of growth.” (WallStreetMojo)

“…a passion-centered company that generates enough profit to allow an entrepreneur to work and live from anywhere, earning an income on their own terms.” (Shopify)

“…a business that requires minimal effort (once established) to keep running and provides a high level of freedom.” (Growth Mentor)

If we combine these definitions, we surmise that a lifestyle business is essentially “a business that prioritizes owner flexibility over growth.”

Here’s why this distinction is so important.

Goals

A startup and a lifestyle business have radically different goals.

A startup is aiming to change the world. A startup aspires to dominate a market, rapidly scale, and exit for a massive return, and prioritizes growth

A lifestyle business aims to create financial freedom for its owners. A lifestyle business aspires to carve a meaningful niche within an existing market, scale to a point that the owners are satisfied, maybe (but probably not) exit at some point, and prioritize profitability.

Startup vs Lifestyle Business

That’s not to say a startup couldn’t create financial freedom for the owners, as this is very often the case. Nor am I saying that a lifestyle business couldn’t make a tremendous impact on the world.

What I am pointing to is that the objectives of each company are radically different, and these objectives shape everything about the company.

Neither type of business is inherently better or worse than the other.

But investors need to understand what they’re putting their money behind before they invest.

4 Diligence Categories to Consider

To be honest, this question directly affects all of due diligence. But here are 4 specific diligence categories that look radically different for startups versus for lifestyle businesses.

1. Market

Market analysis for any new business is important, but for an investor considering startups aiming to scale rapidly and exit via IPO or acquisition, estimating the size of the Total Addressible Market (TAM) is essential. This “defines” the growth potential of the firm, and helps investors understand if there is sufficient room in the market to sustain the level of growth required.

In contrast, a lifestyle business is less concerned with the question “How big is the whole market” and is more concerned with the question “Is there a market?” There’s typically no drive to disrupt or transform an industry on a macro level, but rather to carve out a portion of an existing industry and support it effectively.

2. Traction

Startups generally need to show the early signs of a “hockey stick.” This suggests hypergrowth is possible, and should be a key focus area for investors. That “hockey stick” could be measured along one of several metrics, but common Key Performance Indicators (KPIs) could include things like revenue, users, customers, downloads, pilots, etc.

Conversely, lifestyle businesses are not typically expecting nor driving toward hypergrowth. Instead, growth at a consistent, measured pace over time is a positive sign and enables the owners to prioritize profitability.

3. Investment Returns

Startup investors need every investment to have the capacity to be a “winner.” I recently discussed this idea in far greater depth in my article “Is Diligence Worth it?” but the basic idea is that each investment needs to be able to generate a 10-20x+ depending on the specific investor’s strategy. Every deal needs to be able to “carry the portfolio” and generate outsized returns within a limited timeframe. Typical venture time horizons are in the 5-10-year range, so the startup “returns” analysis should focus on this time horizon and growth expectation.

Conversely, a lifestyle business might have much more tame growth objectives, with no clear “exit” in mind. Thus, the expected return from a lifestyle business investment must also (generally) be more tame and be approached from a different diligence lens.

4. Team

“Can this team handle 10x+ growth over the next 5 years?” is a very different question from “Can this team handle growth at a few percent per year for the rest of their life?” Diligence questions must therefore be curated as such.

Startup founders are something special, and quite frankly most of us are not built for it. In many cases, it’s the opposite of freedom. Check out “The Hard Thing About Hard Things” by Ben Horowitz for a peek behind the startup founder’s kimono. My favorite quote is from a conversation between the author and Marc Andreessen: “‘Do you know the best thing about startups?’ Ben: ‘What?’ Marc: ‘You only ever experience two emotions: euphoria and terror. And I find that lack of sleep enhances them both.’”

Final Thoughts

First-time entrepreneurs often mistakenly mix up terms. Well-intentioned founders who have “lifestyle business” goals occasionally set out to raise venture capital. Investors must be quick to identify this when performing due diligence to ensure that their “startup” capital allocations are truly being invested into startups.

What do you think?

How do you assess the difference between a startup and a lifestyle business?

Weekly Observations: 3 Lessons Learned

1. Founders must learn to clearly communicate a problem.🎤This week I had the opportunity to serve as the guest lecturer for an Engineering Entrepreneurship course at Texas A&M. During the class, we watched 4 demo day pitches, and the students were responsible for evaluating the strength of each founder’s problem. One thing that became abundantly clear during the discussion was that some entrepreneurs forced the audience to infer the problem, while others spent precious pitch time to clearly explain and define it for us. That prioritization of time made a huge difference in the class’s ability to connect with the need for each solution.

2. Taking a vacation is hard work + great teammates are a true gift.🛫By the time you read this, I’ll be on a plane. As most of us know, it’s always a lot of work to organize, get ahead (sort of), and prepare systems/processes to continue functioning in one’s absence. This will be my first “real” vacation since starting PitchFact, and I’ve been struck by 2 things: 1. It’s much harder to take time off as a founder than it was as an employee.2. I wouldn’t be able to do it without a great team willing to step up and help.Perhaps these takeaways are fairly obvious, but I’ve found myself particularly aware of them both this week.

3. Don’t skip the reference checks.🔍It’s tempting to skip reference checks, especially when a candidate seems like a perfect fit after multiple interviews. This week, I discovered why that step is so important. We were fortunate to have two very strong candidates, but one’s references stood in stark contrast to another’s. That distinction gave us absolute confidence in our final decision.

Weekly Links: 3 Things I Found Interesting

1. This link is why you got this email at 5 am instead of 11 am (link)⏰

2. State of Venture 2023 (TLDR: it’s kinda down) (link)📉

3. An Angel Network (Cowtown Angels) Director’s perspective on startup definitions (link)🤔

Thanks for reading, have a great week.

-Andrew

If you enjoyed this post, please share it with a friend, colleague, or anyone else who may benefit.

P.S. - I recently finished creating The Angel Network Toolkit: 90 Resources for Cultivating a Thriving Community of Pre-Series B Investors, and I’m sharing it with anyone who refers a friend.

How did I do this week?

👏😄Fantastic

🤷‍♀️😐Okay

👎😖Not great

About Me

I cultivate flourishing.

I'm also the CEO of PitchFact, where our mission is to cultivate flourishing specifically through efficient and collaborative early-stage diligence. I'm a proud husband, grateful father, and honest friend. My love languages include brisket, bourbon, and espresso.