Founders Issue #64: The Shutting Down Taboo

Jason Kirby
Mar 12, 2024

What's Below in Issue #64:

📰 - A look into shutting down a failed startup

📊 - Data behind the number and intensity of down rounds in 2023

🎙️- Podcast Ep. 32 w/ Jeremy Vaughan Cyber Security

💵- Premium startup resources

🆓- Free startup resources

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The Shutting Down Taboo

There are three ways for a company to exit: IPO, M&A, and shutting down. The first two are the founders' dreams and what gives them energy during the all-night working sessions. However, the third option is almost completely ignored - even by founders who need it.

About 90% of startups fail. That means they shut down, closed their doors, fired everyone, and liquidated. Those words sound very uncomfortable to founders. Usually, founders will use a myriad of other phrases to imply shutting down without saying it, such as “hard pivot,” “rebrand,” or “restarting.” Yet, founders need to know what is required in the unfortunate (yet, likely) instance their startup does not work. 

When a company starts to fail, founders can make two options: 

  1. Turn into a zombie startup. This means that the company is neither growing nor failing. However, it won’t give the investors any return, nor will the founder receive much benefit either. This is an easy option since it requires very few difficult decisions. Usually, zombies end up closing down a few years later.

  2. Shut down. This is hard. It requires an active decision that may disappoint people. However, it saves the founder years spent on a zombie company that will inevitably close. 

When Should I Shut Down?

There is no good answer since even “when you run out of money” is incorrect.

  • ALMOST out of money. What most people forget about is that it costs money to shut down. There are legal fees, and it takes time. If you see that your startup is going to run out of money and there is no more room for change, then it is a good idea to make the decision when you still have a budget for the shutdown. 
    • It is important to know the difference between a bump and a roadblock. Almost every successful startup had a point where they nearly ran out of money. The question you should ask yourself is if you think there is still potential for growth by trying another strategy. 

  • Zombie. As we mentioned above, it is easy to let this happen, however, it is generally a waste of time for the founder. Time on Earth is precious and wasting it on a failed company is not what most people look back on doing. 

  • Burn Out. This is a personal choice and usually does not lead to shutting down the startup, but a change in leadership. It is important to take care of yourself and your mental health. If you can no longer manage the startup and there are no other people able to take over, then shutting down can be considered. 

Communication

The #1 most important thing for a founder to do is to communicate frequently and transparently to everyone involved with the startup. Everyone involved already knows that startups frequently fail and while still heartbreaking, the news should be expected. People are most upset when information is covered up or misrepresented. It is much better to explain the company situation far in advance so that investors and employees can see the progression and provide any advice they have for turning the startup around.

  • DO NOT PUSH OFF THE INVESTOR MEMO! It is sooooo tempting to push off an investor memo by a week, and then another week, and then another in the hopes that good news will hit. Don’t do that! Be open about the journey and the difficulties you are facing. 

  • Investors care less than you think. Startup investors know that most of their investments will fail. They will be much less upset if they see it coming than if it happens suddenly. If you communicate openly they will appreciate your ability to lead and are more likely to invest in your next idea. 

  • Good communication will open doors. If you close your company with great communication, the investors and employees will be grateful and have respect for you. Most will likely want to work with you again.

The Final Board Meeting

It is not the founder’s decision to close the startup, but the board’s. If you feel there is no other option but to close, then it is time for you to call an emergency board meeting with one single objective: deciding the future of your company. If you’ve been communicating regularly and openly, then the rest of the board members should be aware of what is happening and understand the situation. Make sure that you vote on a clear formal resolution that you can act on.

At this point, you should tell your shareholders about the board vote and that you will continue your regular memos to update them on the steps you are taking to close down. 

Hire a Lawyer

In the same way, you should have a lawyer to start your company, you should have one to close it down. They will help you distribute the remaining capital and money generated from liquidation in a way that will protect you from being personally liable to creditors or shareholders. The C-Corp structure is meant to protect you, but it can only do that if you follow the rules.

We will not spell out all the legal steps of closing your company here - your lawyer will help you with that.

It is also important to know that it is your responsibility to stick with the company to the end. No matter how burnt out you are, making sure you close down properly is your top priority.

Your Employees

Letting go of the people who you worked so hard to recruit is very difficult. You convinced them to gamble on your idea, and now you failed them. They worked for a small pay with the hope that those shares and options would increase in value, but now they are worthless. It's harsh, but it's true, and it's ok.

Again, the best approach is to be fully transparent early on about the troubles the company is having. A founder that communicates openly builds lots of trust and respect with their employees and it is more than likely they will want to work for you again when you launch your next idea. 

If you want to go above and beyond, spend a few hours and send their resume to your contacts to see if they have a role for your employees to fill. 

Get a Mentor

Find another founder who has been through the process of closing a startup. It is easy to feel like a failure and that nothing you build can succeed. Feeling down and failing is common amongst almost every founder whose startup failed. Several founders, we have spoken to told us that it took close to 18 months before they recovered from the hurt feelings of closing their business.

Having a mentor to talk to about your emotions and feelings will help you recover and grow from your failures. Mentors help put the disappointment into perspective and can help you navigate how disappointed other stakeholders are. 

Recover for the Next Idea

Serial founders are a unique breed of humans in that they always want to start companies. Just as tempting as it is to “rebound launch” as a new startup. It is wise to wait a few months to recover from the process and bring yourself back into focus.

Having a failed startup is a badge of honor, even when it doesn’t feel that way. Knowing what the feeling of failure is will only push you much further in your next venture. Don’t be afraid of closing, just make sure to do it with class.

The most important part of a good shutdown is open and honest communication.

Relevant Articles for Shutting Down a Startup

  • Shutting down a startup: How to protect yourself and your investors from liability- 👉 SVB
  • How to shut down your startup when you’re out of runway - 👉 Tech in Asia
  • Failure Is An Option: How To Unwind An Unsuccessful Startup The Right Way - 👉 Crunchbase

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2023 Downrounds

The number and intensity of the down rounds in 2023 were much higher than in 2022. 2024 has been following a similar pattern. Overvaluing your startup is one of the main culprits for failed startups since it becomes much more difficult to raise a new round when it will be a down round. Don't just look for who is offering the best terms, but which terms will allow you to raise another round later. 

-------------------------------------------------------------------------------------------------------------------------------------------------------------Fundraising Demystified Episode #32 is Live!

Fundraising Demystified Youtube Thumbnail-1

In this episode, Jeremy Vaughan, a cybersecurity innovator and founder of Start Left Security tells us how he secured a $3 million seed round after 4 years of building his company and passing $1M ARR. He offers invaluable strategies and tips for fellow founders when it comes to raising from angels and participating in multiple accelerators. 

His approach, from the initial grind through strategic partnerships to revenue focus, offers a blueprint for running a sales process for fundraising and business growth invaluable to founders at any stage.

Here's what you're in for:

03:04 - Challenges of scaling an EdTech company

05:37 - Fundraising strategy into raising $12 million in venture capital

17: 10 - Lessons learned in funding options

20:39 - Selling ClassTag

26:55 - Vlada's advice for new founders

Listen Here

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