You’ve Done Customer Discovery. Why Can’t You Get Funded?

SpaceX is not exactly a hidden gem in startup lore. Nor is Elon Musk exactly the prototypical struggling founder. But the story hides valuable lessons every founder can use.

In 2002, Elon Musk founded SpaceX. Over the next several years, he would put roughly $100 million of his PayPal proceeds into the company, which helped fund hardware, hiring and building facilities. But SpaceX still had no revenue, or even a viable product.

Falcon 1 failed on its first launch in 2006.

It failed again in 2007.

It failed a third time in 2008, on a flight that included memorial remains including those of Mercury astronaut Gordon Cooper.

This wasn’t exactly an inspiring start.

But in August 2006, well before Falcon 1 had ever reached orbit, NASA selected SpaceX for a milestone-based $278 million Commercial Orbital Transportation Services agreement to develop and demonstrate commercial cargo transportation to the International Space Station.

With the Space Shuttle approaching retirement, NASA was under pressure to find new ways to move cargo to the ISS, giving it the willingness and ability to fund the proof that no commercial buyer would.

You’re not Elon Musk and may not have $100 million lying around in your drawer. Nor is there likely to be a NASA with $278 million ready to be wired to your bank account.

But you’re facing the same existential problem: Where is your first customer going to come from, what will they pay for, and how does that relate to your ability to prove traction and grow?

This week: Why customer demand is not enough, and how to pick a first market you can actually afford to prove.

Many founders faithfully do customer discovery. They talk to dozens of potential customers in their market. The lucky ones may even find customers ready to write them checks for their proposed product.

Armed with this validation, they start looking for funding to build out the product.

And run into a wall.

The mistake they make is thinking that their best market is their first one.

You have to get two things right for your initial market.

First, do you have real customers with a current budget who will buy your product? Most founders focus on this.

But the second is equally important: Is there a credible funder who can fund your journey to the next solid evidence that this market exists?

Locking in your answer to the first without considering the second could delay or even derail your startup. Many markets come with built in funding commitments you can’t really change. Medical devices need trials and FDA approvals. Industrial parts require years of testing before manufacturers will risk buying.

That proof will decide who you have realistically available to pay for it, because every source of funding is designed to pay for very specific kinds of proof:

• VC’s fund evidence that your startup can become a large company quickly.

• Grants typically fund evidence that technology works at scale or in real world conditions.

• Strategic partners fund evidence that your technology folds into their core product.

• Customers fund evidence that your product fits in their workflow and provides operational or financial benefits

If you aren’t clear about which proof you are trying to create, you don’t yet have a path to fund your next step.

That’s why just “establishing customer demand” isn’t enough to ensure that you’ll get funding.

When you don’t check the cost of proving your chosen market, you risk:

• Wasting time pursuing funders who won’t or can’t fund that proof, e.g. seeking funding from a $50 million fund for an FDA clinical trial that costs $20 million

• Not sequencing the most important proof first, for example, not positioning a health device for FDA approval early enough, and losing years and hefty amounts of equity as a result (See Charu Ramanathan’s story for a real life example)

• Not selecting a market that lines up with actual available funding. For example, picking an FDA-trial path where a non-FDA approval market would have provided better odds of funding, and sooner.

There’s a kicker, though: this rule doesn’t always play out the same way in every market. It works well where there are clear, binary gates: for example, regulatory approval, safety clearance, or meeting a clear third party standard, like medical devices or industrial equipment.

But in markets where proof is fuzzier, like software and lots of hardware as well, your challenge is to pick the easier market, with the cost of proof and capital requirements in mind.

The principle still holds: consider what definitive proof is the next step, what it will cost you, and who you have available to fund it before locking down your market.

The Unlock

Your real test isn’t whether people need what you’re building. It’s whether you can afford to prove it, with money you can realistically get, whether that’s VC, a strategic partner, or a customer paying for a pilot.

If proving your market costs more than you can raise, takes longer than your runway, or means chasing checks from people who were never going to write you one, you’ve picked a market that your startup can’t afford.

Say you’ve built a small wearable patch that measures how well a patient is recovering after knee surgery.

You could pick hospitals as your first market because the need is urgent and the market is massive. But entering this market requires FDA approval, which could run into millions of dollars.

But you could also go after physical therapy clinics. That’s a much smaller market, with a lower per-unit cost and lower margins. But it’s a simpler claim because the product only needs to track change in range of motion.

Selling to this market doesn’t need FDA approval, and you could be in business with just a few paid pilots, and showing credible proof of performance. You could easily get there with a few hundred thousands of dollars: it’s much easier and faster to fund.

The therapy market is much more affordable, and if you don’t have investors lining up at your door, it may be the only viable path to making a go of your product.

From The Capital Playbook

FIGURE OUT THE PROOF BEFORE YOU PICK THE MARKET.

For every market you are seriously weighing, you should be able to clearly identify the cheapest specific proof that market requires before someone can make the next real commitment. If you don’t have falsifiable or quantifiable proof, such as FDA clearance, 20% lower cost, 30% better performance, six months of field data, or a paid pilot to convert to an annual contract, then you don’t have a market yet.

LOOK FOR A CREDIBLE SOURCE, NOT JUST AN INVESTOR.

Don’t mindlessly default to VC or angels for funding your next step. See whether the source you’re targeting is built to pay for the proof you need next. That could well be a grant funder, university translational fund, strategic partner, government program, or customer willing to fund a pilot. Instead of asking “Who funds startups like mine?”, ask “Who wants to pay to reduce or remove this risk, and why?”

SEQUENCE INTO THE BIG MARKET, DON’T START THERE.

Your customer discovery work will bias you to default to the biggest market. But that may be the wrong next step for your startup. Instead, look for the market that gives you a path to a cheap, credible, fundable proof point that also raises the value of the company, and make that your next stop. It will give you a fighting chance to enter the bigger market tomorrow.

CHANGE THE MARKET, CHANGE THE PROOF, OR CHANGE THE CAPITAL PLAN.

If the market you’ve currently chosen requires proof you can’t reasonably fund, don’t keep burning time and call it fundraising. Choose a market you can prove more cheaply, downsize the next milestone to make it more fundable, or find a different funder than VC to fund it.

The One Thing

Take the market you are building toward right now, or the one you are most seriously considering next, and answer these in order:

1. What proof does this market require before a buyer, partner, regulator, or investor can make the next real commitment?

2. What will that proof cost you in money and time?

3. Who realistically pays for that kind of proof: a fund, a grant, a strategic partner, a customer, or you?

4. How will that proof make the company more valuable beyond this one market?

5. If you can’t answer that, what cheaper nearby market could give you a real result faster and help you earn your way into the bigger one?

What new insight did you gain? What one thing can you do to improve your product-market-capital fit?

Build wisely!