Do Business Plans Matter? [Startup Mind]

From the Kauffman Foundation:

Given all the attention paid to business plans as precursor to business start-ups, you would think that there would be strong evidence that such plans lead to better business outcomes. Somewhat surprisingly, the linkages aren’t quite so clear.

New research sponsored by the US Small Business Administration (SBA) finds that the formality of business plans does not seem to have a significant impact in what entrepreneurs do before and after starting a business.

[That said] plans do affect the timing of various activities if the planning occurs before a venture is started. With a plan in hand, new entrepreneurs are more likely to complete critical activities, such as market research or developing financial projections, earlier in the start-up process. (see study here)

So, do business plans matter? The answer is yes and no.

First, the process of business planning has shifted. Business planning used to be about market research and financial modeling. Now, the most interesting elements of business plans are the distribution models and customer discovery. Market research is no longer cumbersome; one can easily find relevant data online or use other advanced techniques to begin immediately testing the validity of a concept. Financial modeling was always a guessing game, but with web 2.0 and the more recent death of advertising as a viable monetization model, financial modeling is even less important. It is far better to get traffic and focus on converting a highly engaged subset to paying customers.

Second, the importance of a business plan in the funding process has greatly diminished. Investors are understandably much more interested in seeing a product than in reading about it conceptually. Thus, an entrepreneur’s efforts are better spent wire framing and building prototypes than in finding citations and editing dense paragraphs of text. There are also documented studies showing a discrepancy between what venture capitalists say they want from entrepreneurs and what venture firms actually use as evaluation criteria.

Third, the physical structure of the ‘business plan’ has changed. Even if you do get an investor who is cool to simply ‘read’ about your idea, the last thing they want is a business plan 50 pages deep. Instead, focus on boiling the idea down into a one-page executive summary and a ‘twit pitch‘ that you can personally present well. Also, be sure to create several PowerPoint decks that can be quickly updated and customized based on your audience.

Overall, the big change is how much easier it is for entrepreneurs to begin creating and testing concepts. The internet gives everyone the ability to start selling a product or a service to customers with zero cost. Whereas traditional business planning forced one to consider the feasibility of an idea among a theoretical customer base, the web allows many companies to bypass this boring (and often irrelevant) analysis and jump right into building and testing. As a result, investors have shifted their focus away from hard copy business plans and Ivy League résumés; instead, they focus on actual products tested among real-world customers, with little regard to the founder’s educational pedigree. In addition, there is finally general consensus that you just can’t predict the future. As Mark Andressen points out, initial business plans don’t matter much because they are very much subject to change. I have written several posts explaining how entrepreneurs need to focus on validation (both for themselves and their ideas) to get outside investment; business planning is only one small aspect of this process. More specifically, I agree with Dharmesh Shah of MIT who encourages entrepreneurs to write blogs, over business plans.

What has not changed, however, is the objective of traditional business plans. The real goal of any business plan process is to force entrepreneurs to put pen to paper and critically evaluate their concepts. The business plan is a framework that gives structure to unstructured thinking and helps guide an idea into actionable steps that metrics can be put against. The business plan is also a unifier around the team: a document that should emphasize the team’s ability to execute against it and not vice versa.

I will be presenting on business plans at the Johns Hopkins Entrepreneurship Conference on March 21st at the SAIS campus in downtown Washington, DC.

Tagged as: business plan, business planning, customer discovery, kauffman foundation, Small Business Administration, validation