Kurt Rathmann inspired confidence in big-name investors, convincing them that he had developed groundbreaking artificial intelligence to do the books for small businesses.
He raised $100 million-plus before shutting the firm down and blaming it on covid-19.
One of Austin’s fastest rising startups, ScaleFactor promised AI-powered tools that could take care of bookkeeping, bills and taxes for a fraction of the cost of an accountant.
In reality, humans did most of the work, Forbes reported. Instead of financial statements produced by software, most of the work was done manually from ScaleFactor’s Austin headquarters or outsourced to an office in the Philippines, according to former employees. Some customers said their books came back full of mistakes and they had to re-hire accountants or clean up the mess themselves.
ScaleFactor received $103 million in funding since its 2014 founding on the promise of accounting and finance software that automated bookkeeping with proactive alerts and other features.
Of that $103 million, $90 million was raised in 2019. That included a $60 million Series-C led by New York-based Coatue Management in August 2019 and a $30-million Series-B led by San Francisco-based Bessemer Venture Partners in January 2019, according to Crunchbase. Menlo Park-based Canaan Partners led a $10 million Series-A in July 2018.
ScaleFactor had a post-money valuation in the range of $100 million to $500 million as of Aug. 8, 2019 according to PrivCo. All that with $7 million in annual recurring revenue.
CEO Rathmann blamed covid-19 for “almost halving ScaleFactor’s $7 million in annual recurring revenue as demand from small businesses crumbled,” Forbes reported. About 100 people would be laid off and cash returned to investors, Rathmann said.
“Covid-19 is just a convenient scapegoat,” ScaleFactor customer Lindsey Reinders posted online after seeing the news. “If you’re one of the investors that gave these clowns $100 million…You should know they’ve flushed it down the toilet with poor product and poor service.”
Scale Factor may be guilty of faking it without making it.
“‘Fake it ’til you make it” is an entirely legitimate approach, widely used and a harmless way to ease market resistance, wrote Hans Peter Bech, an author who writes about how IT companies become global market leaders.
However, Beck doesn’t recommend faking it ’til you make it.
“Startups, based on new technology that the world hasn’t seen before, are associated with significant risk,” Beck wrote. In a CBI Insights survey of why startups fail, some of the most common reasons are that there is no market for the product, running out of money, being unable to compete and the product is bad.
“There are some fundamental values and virtues that you need to nurture when you do not have much else to show off,” Beck wrote. “Lying is contagious, and soon you do not know who and what to trust. It makes investors, employees and customers uncertain. And if you first said an untruth, you often get tempted to build on top of it instead of defusing it.
Elizabeth Holmes and Theranos are an excellent example of how wrong things can go when you try to fake it ’til you make it, according to Beck. “If you refrain from entering this alley, you have actually eliminated a risk.”
Theranos was considered a breakthrough health tech company that claimed it had developed blood tests that only needed very small amounts of blood. The claim was false and now founder Holmes is set to go on trial to face criminal charges for allegedly defrauding investors, doctors and the public.
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“Technology startups are often rewarded for a fake-it-’til-you-make-it mentality by venture capital firms willing to throw money at a product until it meets expectations,” David Jeans wrote for Forbes. “But ScaleFactor used aggressive sales tactics and prioritized chasing capital instead of building software that ultimately fell far short of what it promised, according to interviews with 15 former employees and executives.”
In a blog post, Rathmann said ScaleFactor is suspending most of its operations. “We simply don’t know how long current market conditions will last or what the small business landscape will look like when the market finally recovers,” he wrote. “As a result, we have made the very difficult decision to suspend the majority of our operations effective today.”
Other Austin tech companies have laid off employees and are struggling to make it through the covid economic downturn, according to Austin Business Journals.
