Startups versus small businesses

What is the difference between a startup and a small business?

Startups do start out as small businesses, but can every small business really be considered a “startup”?

Let’s examine what is usually meant by these terms and what the differences are.

Small businesses

A small business:

  • usually implements an existing basic business concept (e.g., a restaurant) with a tried-and-true business model
  • operates in a “mature” market (as opposed to a newly-created market) and competes against other existing businesses serving more or less the same general target customers
  • often serves a local geographic market, but could also be virtual (e.g., Internet-based, mail-order, etc.)
  • may have a physical presence like a storefront or an office, or could be home-based
  • could be a one-person operation or may employ any number of employees
  • is usually funded by bootstrapping, i.e., using the founders’ own capital; bank loans may also be used, and the company’s retained earnings will be used to grow the business
  • can have significant growth potential, for example, by expanding into multiple locations, by adding further product or service offerings, or by hiring more staff to perform service work; however, small businesses are generally not scalable structurally in the same way that a successful startup could be

Examples of small businesses that would not be considered startups include restaurants; accounting, medical, or law practices; corner stores; web design agencies; car repair shops; dog grooming services; personal assistant services; insurance brokerages; and hair salons.

Startups

A startup:

  • is, in contrast to a small business that is repeating an existing business concept and business model, usually doing something innovative or risky, by either solving a hard problem that has never been addressed before, creating an entirely new market, or by introducing a new business model, a new type of product, or a new technology to an existing market
  • has high growth potential and is scalable; the ability to service additional customers is not bound by constraints like labor capacity or capital equipment. For example, for an accounting practice to service more customer accounts, it must hire proportionally more accountants and assistants in order to handle the volume of work. A startup, on the other hand, should generally be able to sell its products or services to ten times as many customers without needing to increase the employee headcount or capital equipment by ten times. (An increase in staffing and equipment would likely be necessary but it would not be expected to be of the same magnitude.)
  • may offer products or services, but services that are offered are almost always “productized” and sold for a flat rate (rather than billing for hourly labor)
  • may attract a large amount of investment from venture capitalists or angel investors; in exchange, this means that founders must usually give up a significant share of ownership in the company
  • will typically not qualify for bank loans, as banks prefer to extend loans to lower-risk businesses with proven business models that they are familiar with
  • can be disruptive to existing competitors and industries if they are successful; they are more likely than traditional small businesses to change the world
  • is often (but need not necessarily be) a technology- or Internet-centric business

Steve Blank, author of The Four Steps to the Epiphany: Successful Strategies for Products that Win and co-author of The Startup Owner’s Manual: The Step-by-Step Guide for Building a Great Company, stresses that a startup isn’t just a small version of a big business. He argues that a startup is a “temporary organization” that is “in search of a repeatable and scalable business model”, and that this temporary organization will continue to change through pivoting, demand validation, and “customer development” until it finds a successful business model.

Small business owners are often interested in owning, managing, and growing their business over the long term. They may eventually decide to sell their business, but often the succession strategy is to pass down the business to the next generation of their family. Startup founders, on the other hand, are often interested in cashing out via some form of an “exit” — selling the company to a big corporate acquirer, or taking the company public in the hopes of an windfall through the IPO.

Know what to expect

When deciding on a business idea to pursue, it’s good to be honest about whether you see the business opportunity as a small business or as a startup. Small businesses can be less risky but also provide potentially less reward.

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