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In the software industry, and probably in other industries as well, there are two types of startups: the scale-first type and the monetize-first type (sometimes called lifestyle business). Any organization needs to eventually do both, but in the beginning, a startup needs to decide to focus on scale or monetization. Seesmic and Balsamiq are great 2008 examples of each type of startup .

For those who do not know yet, Seesmic is a typical Web 2.0 Silicon Valley startup, with a famous founder, a vision to revolutionize something on the Internet (in this case video conversation), a $12 million dollar investment, and a primary (or exclusive) focus on growing the community (i.e. no revenue plan yet). The service successfully established itself as a leader in its own space (video conversation) and seems to drive some interest from traditional media companies (e.g., BBC).  

While Balsamiq addresses a different but equally promising space (i.e. the designer-developer workflow), the company has taken a completely different approach. Balsamiq is a self-funded entity, mostly a one-man show (coder and marketer) with a clear and simple revenue plan from the start (already generated $160K in 2008), and it even managed to get some great marketing buzz thanks to the founder’s marketing ingenuity in sharing what other entrepreneurs do not want to share (e.g., revenue, customers, and detailed strategy).

Which one is better? Which one is most likely to succeed? Well, both have pros and cons, and mostly depending on the entrepreneur.

Some entrepreneurs care more about creating the next Internet phenomenon while others care more about creating a self-sustainable organization. The good news is that the software industry has (or at least had) room for both types.

Scale-first pros & cons

“Scale-first” startups such as Seesmic definitely have the potential for a higher return on investment, which often explains their significant cash infusions. They often focus on creating a phenomenon, which can be very invigorating for the founders, investors, employees, and even the community. This energy can fuel some great innovation and even dedication from the community. The other significant advantage is that “scale-first” startups are often seen as the visionary ones, and their founders can use their celebrity status cleverly to maximize their marketing activities. Loic Lemeur is definitely a master of this art.

The catch, and there always is one, is that “scale-first” startups are inherently riskier and can sometime solve a need that does not have a market (I am calling this a “market false positive”). The biggest risk probably comes from the exhilarating nature of the business, which can drive entrepreneurs and even investors to lose sight of the real business opportunity, resulting in a great waste of time, money, and personal life for all parties involved. Last but not least, there is also a lot of narcissism (often an unavoidable side effect of frame) in this community, which can bring lot of confusion regarding what the real market opportunities are.

Monetize-first pros & cons

On the other hand, “monetize-first” startups tend to be more down to earth and usually only bite off what they can chew (as Peldi so sophisticatedlyput it on his Balsamiq company Web page). While still risky, the risks are much lower, as the whole strategy is to invest in proportion with the market demand. I also think that lifestyle startups provide a higher personal satisfaction, as the entrepreneurs feel more in control of the execution (100% vs. 30% or so). Also, the low-key nature of the business usually attracts more practical and humble parties to the table, which can optimize the company operations quite a bit.

However, even the humble route has some catches. First, investors are harder to find. While the current market conditions might help a little, software venture capitalists are shooting for bigger investments ($4+M) with high multipliers on exit (x10 to x15), and given that buyout has become the only realistic exit strategy for most investments, making revenue the first priority will implicitly base the value on it and consequently limit the possible outcome (x3 to x6 of revenue depending on the business). Comparatively, in the dot-com and even in the Web 2.0 era, exit strategy has usually involved around $7 to $30 per user, which is obviously a much bigger and faster return opportunity. Recruitment can also be an issue, as second-level talents tend to gravitate more to bigger ideas than to small or local ones.

While it might be easy to be sarcastic about one type or the other, each has its share of pros and cons. At the end of the day, it is about the entrepreneur’s style more than anything else. The worst move for an entrepreneur is to try to avoid following his or her own style. I learned this the hard way when I started Sportner (a social network for people who play sports). I started a “scale-first” business though I am fundamentally a “monetize-first” entrepreneur.

So the only advice of this article is that the right style is your own style!

Personally, while not a customer, I am a big Balsamiq fan. Peldi is really one of the great examples of a successful “monetize-first” entrepreneur. Just check out the Balsamiq Company Blog (especially the 2008 flash back).

I also like to describe Seesmic as a great example of the first category. I think Seesmic investors eventually will make a relatively successful exit for around $25M to $50M to a media company that wants to get its feet into Web 2.0 or to a Facebook or Google based on the new Seesmic social-desktop strategy (which could become Seesmic new main strategy).