As a panelist today at an entrepreneurial forum I was asked a very interesting question by a member of the audience, “how do you know when it is the right time to pull the plug?” Not only a timely question given the current market conditions, but a great question that any entrepreneur should consider fairly early on in the development of a new company.
The obvious answer is when you run out of money and in many cases that is a reality, but many companies should have enough data and market insight to wind down a company well in advance of depleting their bank accounts.
Relationships with investors (regardless of family, friend, angel or VC) should be considered long term opportunities. One of the panelists presented a great story about an entrepreneur friend who was able to return about 70% on the dollar back to the group of investors once the entrepreneur realized that the business was not going to succeed. Although I am sure all parties would have preferred a more positive outcome, the entrepreneur was able to establish trust and credibility with the investors. This trust allowed the entrepreneur to raise funds from the same group of investors a few years later for a new venture because they understood this entrepreneur was a good steward of their money.
The story also highlights another important concept; most entrepreneurs are serial entrepreneurs and will have many ideas through the course of their life. The greatest success an entrepreneur can have with their first venture is that they learn to be a successful entrepreneur. There will be many opportunities to make money so the primary focus in not money but understanding how to develop an idea into a successful company.
Getting back to the issue at hand, pulling the plug is a decision that should take into consideration: (1) What is both the short term and long term impact to the entrepreneur/investor relationship – will the entrepreneur be viewed as a good or poor steward of investor’s money. (2) If a strategic change of direction is possible, is it one that will provide a return on capital equal to or greater than the terms of the original deal? (3) Is there adequate capital to turn the direction of the company or is it better to start over and return what funds are left? (4) Are these changes something that my current investors will support? (5) Am I (the entrepreneur) being honest with myself about what lies ahead?
With no doubt winding down a company is one of the most painful and important decisions an entrepreneur must make, but it is one that can produce a positive outcome with some planning, discipline and honesty.