When the eyes are bigger than the business potential

Wayfair announced their 3rd or 4th big round of recent layoffs last week. The CEO's email explained how they are trying to "right size" the organization in the face of a tough economic situation. Simply put, their online furniture retail business isn't panning out to be as large of an opportunity as they were hoping it to be and they are now painfully rolling back. They aren’t alone - there have been over 300,000 layoffs in tech since last year. Many startups have dropped to a fraction of their previous values or shut down completely. 

2015 to 2021 was a hype cycle of irrational exuberance in tech. We had seen huge successes from the previous wave of internet and mobile startups, like Facebook. Every startup and founder imagined they could also 10 or 100x their business. VCs and their LPs were willing to invest millions at extraordinary valuations, blinded by FOMO and free money. There’s smart risk and there’s stupid greed. Startups could sell $10 bills for $9, and say “Yeah we aren’t profitable yet but look at our insane growth!” to attract investors and employees. There are numerous examples - a niche but hot email startup raised funding at nearly $1B in valuation with less than $10M in revenue; a weight loss company raised a whopping $550M at a multi-billion dollar valuation, despite being a high CAC and high churn business, and multiple 15-min delivery companies raised millions with no realistic path to profitability. 

Raising lots of money at high valuations sounds great for a startup or founder. Mo money, mo fun, right? No, not really. Money always comes with strings. Investors expect big returns. Startups are under pressure to deploy their newly acquired gunpowder to deliver on the growth expectations, often quickly and unsustainably hiring more people or spending on marketing and discounts. The newer employees are also promised handsome returns on their equity, so more expectations build up. 

However, converting money into sustainable business growth is far from simple and hardly guaranteed. Every business has its limits that cannot be exceeded with more capital or people. If you are a weight loss company, there are only so many weight loss programs you can sell. More capital cannot magically fix low margins, high churn, and undifferentiated business models and products. You also cannot simply count on expanding successfully into new categories or markets because finding a new P-M Fit is hard, and even more so at larger companies. Your new employees may be good, but not alchemists who can turn shit into gold. 

When the expected growth doesn't pan out, the companies end up in a worse place than before. They carry the baggage of failure against expectations, unsustainable business practices and investments, high expenses, and large and unwieldy teams. They bleed money and gain problems, but it's harder to raise more capital or attract employees. Nearly every stakeholder ends up unhappy - investors are disappointed, employees endure traumatic layoffs, and customers are often short-changed. Even founders and exec teams no longer enjoy the business they started, but many smartly cash out a personal fortune before the ship sinks for the rest. 

The CEOs of companies like Wayfair made a double-or-nothing bet, and they lost. Hopefully, this serves as a good (but painful lesson) for founders, investors, and employees. Get back to the basics.