Choosing Sustainable Growth over Scalability: A New Approach to Startups
Sustainable growth must be valued over scaleability by venture capitalists in order to produce stronger companies and more stable returns, write Adun Okupe, Yasmin Osaghae, and Natalie Beinisch.
One of the greatest ambitions of the Sustainable Development Goals is to mobilize private sector finance to meet its seventeen social and environmental targets. The theory is that it is only through the private sector that the quantum of investment is available to create scalable solutions to address global social and environmental challenges.
Indeed, scale is a fundamental pillar across the investment chain. For venture capital investors, scale in terms of the capacity to multiply revenues is a reward for taking a risk on young and uncertain enterprises. For institutional investors, scale in terms of ticket size is the most efficient way to deploy capital. Businesses that are designed with the capacity to scale are therefore better suited to create opportunities for investors and efficiencies in the market.
Investment aside, businesses that scale add value to the economy and society for other important reasons. For example, business scale improves the potential for partnerships because it provides a platform to develop and test new ideas that can deliver value to customers in novel ways. Industry giants are the darlings of university research centers not only because of their potential as generous patrons but also because they can provide distribution channels to commercialize experimental solutions.
The digital revolution has furthermore demonstrated how scale improves the diffusion of knowledge and access to technical solutions. Emerging industries such as ed-tech, telemedicine, and de-centralized manufacturing are transforming how people access information and develop their technical skills. It is only through scale that these technologies can be more accessible to communities.
Scale cannot be an independent optic.
However, irrespective of the fundamental benefits of business scalability, it is not appropriate and even dangerous to use this optic alone to evaluate the potential of emerging businesses, especially those which are aiming to deliver value in a way that is compatible with the sustainable development goals.
On its own, scalability is a poor criterion for assessing the quality and potential of start-ups that are building “sustainable” and “circular” businesses, that is businesses that seek to create value while also delivering on the sustainable development goals. There are three key reasons for this.
Firstly, the focus on scale obscures the need to focus on sustainable growth and development of capacity of emerging businesses. These skills are foundational to scaling but are often overlooked. Even in tech, where scale through users is an important factor determining the viability of a business model, there are many examples of corporate failure due to the structural weakness, lack of controls, and lack of management development of young entrepreneurs. The collapse of FTX and other cryptocurrency operators is a recent and memorable example that has led to the destruction of billions of dollars of value, almost overnight.
In an African context, specifically that of Nigeria, administrative and managerial capacity is even more fundamental than business scalability compared to other contexts because talent development is a substantial issue. For example, a skills-gap assessment carried out by UNIDO in 2016, found that the productivity of the Nigerian workforce trailed that of South Africa by a factor of five. These findings are corroborated by an Equinix survey of the IT sector that found 58% of employers feel that a lack of skilled personnel is a threat to their business. Without relevant skills development, companies are not in a position to scale in a way that can be sustained, no matter how shiny and promising their business model might be.
Secondly, the focus on scale at the early stages of product and business development distracts from producing products that are genuinely adding value to customers. From a circular economy perspective, consumerism has produced negative consequences, with climate change related events being the most threatening. While it is true that we require large-scale game-changing solutions to address these challenges, in many cases the game must be changed in the other direction. In this respect, scaling for scaling’s sake does not necessarily produce the types of value that lead to better social and economic outcomes. For example, Candy Crush can scale but we must reflect genuinely on its value to society.
Finally, many business models cannot scale even though they produce value. In the context of circular economy business models, many, such as industry symbiosis, are by definition more closed. Sustainable tourism is another example – especially because for tourism to be sustainable, visitor traffic must not compromise nature or society. These are examples of important areas of investment that deliver value and potential growth but would not pass through scalability hurdles.
Investors must integrate value and consider talent development in their assessment models.
It is urgent that sustainable start-ups, particularly those that are working to produce value in ways that reduce resources, receive funding to develop – but that scalability should not be a priority when considering whether an emerging enterprise is ready for funding. While scalability is important, it is essential to also evaluate whether founders are open and willing to develop themselves and others and that they are oriented towards creating value for customers and stakeholders. Furthermore, investment approaches that recognize that linear and long-term growth for some business models should be encouraged. This focus will produce stronger companies and more stable returns for investors in the long run. The key is for investors to have the confidence with new approaches.
This article was first published on IE Insights