Hardware startups: why do these investments require a different approach?
Investing in a hardware startup is not limited to financing an innovative technological project. Unlike pure software models, hardware startups operate in an environment with longer development cycles, higher capital requirements, and higher industrial risks. For an investor, this means taking a more structured approach, taking into account specific dynamics that directly influence profitability and growth potential.
While investments in SaaS and digital platforms often allow for rapid time-to-market and near-immediate scalability, hardware startups must take several critical steps before generating significant revenue. Prototyping, industrialization, certification, mass production, logistics and distribution : each of these phases represents both a technical and financial challenge. In this context, business angels and investment funds must adapt their strategies to maximize their chances of success.
1. Longer, capital-intensive development cycles
One of the main differences between a hardware startup and a software startup is the length and cost of product development. Software can be continuously tested and improved, while a physical product requires complex prototyping, rigorous testing phases, and resource-intensive production.
Let's take the example of a startup developing an innovative battery for electric vehicles. From initial design to market launch, it will take several years, with constant financial needs to fund R&D, certification testing, and industrial optimization. A design error can lead to additional delays and exponential costs, making these investments riskier and less liquid than those in purely digital startups.
As an investor, it is therefore crucial to understand the product development cycle and time-to-market. A return on investment can take 5 to 10 years, unlike SaaS models where concrete results can be visible from the first year. Patience and the ability to finance several successive rounds are essential.
2. The challenge of moving from prototype to industrialization
One of the trickiest steps for a hardware startup is scaling production. Designing a working prototype is one thing, but producing it at scale with controlled cost and consistent quality is another. Many startups underestimate the challenges of industrialization and the supply chain.
A startup developing a connected medical sensor can succeed in producing a first batch of prototypes in the laboratory. But when it comes to starting series production, several questions emerge: Which supplier to choose? Where to produce (China, Europe, United States)? What volumes should be ordered to optimize costs without tying up too much cash? How to manage certification and compliance with local regulations?
A poorly industrialized product can suffer from manufacturing defects, too high a production cost or uncontrolled delivery times. Investors must therefore ensure that the founding team has a real understanding of the industrial issues and a solid plan to scale up. Working with industrial partners from the beginning of the project is often a wise approach to secure this critical passage.
3. A larger and dilutive financing requirement
Unlike SaaS startups, which can often achieve profitability with little external capital, hardware startups require more frequent and larger fundraising. Between prototyping, testing, certification and production, capital requirements can double or triple between two rounds of financing.
Let's take the example of a startup developing an autonomous drone for agriculture. An initial Seed fundraising of €1 million may be enough to produce the first prototypes and test the product in the field. But when it comes to going into production, a raise of 5 to 10 million euros may be necessary to cover the purchase of components, the setting up of assembly lines and the first marketing efforts.
This dynamic has two major implications for early-stage investors:
A greater risk of dilution : due to successive financing needs, the first investors see their share of the capital reduced as they are raised.
Longer liquidity horizon : exit opportunities are often postponed, as hardware startups require significant post-funding before reaching full maturity.
To limit this risk, it is relevant to negotiate follow-on clauses that allow for reinvestment at each round and to provide for a long-term participation rather than a quick exit.
4. Supply chain and production cost challenges
Another determining factor in the success of a hardware startup is its ability to manage its supply chain effectively. In a world where component shortages and raw material inflation are becoming more and more frequent, poor supply chain management can kill a startup.
Take the example of the semiconductor crisis that has paralyzed several industries in recent years. A startup developing an innovative electronics product can see its launch delayed by several months or even a year if it fails to secure its suppliers. A prolonged delay can lead to a loss of traction, flight of potential customers, and a lack of funding to hold out until production resumes.
Investors should therefore assess the robustness of the supply chain before committing funds. A well-prepared hardware startup will have identified several suppliers, a plan B in case of a shortage and optimized inventory management.
5. A more complex go-to-market strategy
Selling a hardware product often requires a well-defined distribution channel and an adapted sales strategy. Unlike SaaS startups that can deploy a product at scale with a small team, hardware startups often need to build a network of resellers, industry partners, or specialized distributors.
A good example is Medtech startups, where the sale of a medical device may require approval from hospitals, healthcare organizations, and regulators before it can be adopted at scale. The go-to-market strategy should be thought out upfront, incorporating elements such as B2B partnerships, product certification, and pricing strategies adapted to longer decision cycles.
Investors should ensure that the founding team has a clear vision of their go-to-market and the resources needed to execute it. A hardware product can be technically excellent but fail to find its market if it is poorly distributed or if it does not fit into existing uses.
A more rigorous approach and a longer horizon
Investing in a hardware startup is a more demanding adventure than in software. Longer development cycles, higher financing needs and industrialization challenges require a structured approach and real expertise from investors.
However, hardware startups also offer exceptional value creation potential, especially when they innovate in rapidly changing markets (mobility, health, robotics, energy, etc.). Patented, well-executed technology can become a sustainable competitive advantage that is difficult to copy and with strong margins once the break-even point is reached.
For a business angel or an investment fund, the success of a hardware investment is therefore based on several key elements: choosing the right teams, anticipating industrial challenges, structuring financing and supporting the go-to-market strategy with a long-term vision. Those who know how to master these parameters will be able to take advantage of a rapidly changing hardware ecosystem, where the great innovations of tomorrow are built today.
