This post previously appeared in Harvard Business Review.
Three types of organizations—incubators, accelerators, and venture studios—have emerged to reduce the risk of early-stage startup failure by helping teams find product/market fit and raise seed capital. Venture studios are an “idea factory” where their own employees search for product/market fit and a repeatable and scalable business model. They do their best to risk the early stages of a startup.
Outside of a small university in the Midwest, I was having coffee with Carlos, a rising star at a mid-sized manufacturing company. He had a track record of taking small teams and growing them into successful product lines. However, after ten years of working for others, Carlos had the desire to build and grow his own company. I asked him how much he knew how to start. From what I’ve read, the path to building and funding a company is: 1) come up with an idea, 2) form a team, 3) test small viable products, 4) raise seed funding, 5) then get venture capital.
Carlos, who describes his work in additive manufacturing and 3D printing, says that he knows that there are seed investors in his city, but that venture capital is still mostly offshore and it has been difficult to attract their attention. He wasn’t even sure it was a good idea. But he still had the itch to grow a small thing into a tangible company.
As soon as we got the dessert, Carlos asked, “Are there other ways to start a company other than raising money?” he asked.
I pointed out that they were.
Reducing startup risk
Over the past two decades, three types of organizations—incubators, accelerators, and venture studios—have emerged to reduce the risk of early-stage startup failure by helping teams find product/market fit and raise seed capital. Most of them are founded and managed by experienced entrepreneurs who have already built companies and understand the difference between theory and practice.
I pointed out to Carlos that startups like Y-Combinator, Techstars, and 500 Startups offer six- to 12-week bootcamps for groups of startups. But these require founders with technical or business model understanding and a team. Accelerators provide these teams with technical and business expertise and connect them to a network of other founders and mentors. The culmination of this bootcamp is a “demo day” where all the startups in the group have a few minutes to pitch their company to venture capitalists and angel investors. (In some cases, accelerators themselves provide initial funding.) To participate in an accelerator, startups provide 5% to 10% of their company’s equity.
There are thousands of accelerators around the world. For many of these accelerators, the business model is to select startups that can make venture-level returns — that is, grow into companies that can raise billions of dollars. For most accelerators, entry is through an application and interview. Some like Y-Combinator, Techstars and 500 Startups are open to all types of startups in any market, while others are specialized like SOSV, IndieBio, HAX, Orbit, dLab.
Incubators are similar to accelerators, offering startups space and shared resources, but often no or very little capital. Their financial models are based on membership fees that provide access to a shared workspace, resources, and other founders’ and operational expertise.
Carlos stirred the coffee. “Fast guys just don’t seem to fit where I’m at in my career,” he offered. “I don’t have a killer idea or a technical team, but I know how to build, grow and manage teams.”
Alternative: Venture Studios
I pointed out that there were firms better suited to his talent and desire to venture out—venture studios. Unlike Accelerator, Venture Studio does not support existing startups.
Venture studios create startups by generating their own ideas or ideas from their partners. The studio’s internal team builds the minimum viable product, then validates the idea by meeting product/market fit and early customers. If the idea passes a series of “Go/No Go” decisions based on milestones for customer discovery and validation, the studio brings back entrepreneurial founders to run and scale the startup. Examples of companies that have come out of venture studios include Overture, Twilio, Bitly, Ercala, and the most famous alum, Mordana.
I suggested to Carlos that he think of the venture studio as an “idea factory” with their own full-time employees looking for product/market fit and a repeatable and scalable business model.
How do venture studios work?
Unlike an incubator or incubator, Venture Studio does not provide funding to existing startups. It’s a company that creates dozens of startups in-house, then finds entrepreneurs to help grow them.
Most venture studios create and launch multiple startups each year. These have a higher success rate than startup or traditional venture funded companies. That’s because studios don’t have a set deadline, unlike accelerators, which work for six to 12-week periods. Instead, they search and apply until product-market fit is found. Unlike an accelerator or VC firm, a venture studio kills most of their ideas and won’t launch a startup unless they have evidence that it can be a viable, profitable company.
Compare startup funding options
Venture Studios are ideal for entrepreneurs who don’t have an idea or a team but want to get running and grow a startup. Venture studio staff have identified a product, market fit, and early customers — meaning someone else has avoided many of the risks of the new venture. In response to lower risk, venture studios typically take a larger percentage of equity.
There are four main venture studios:
- Technology transfer studiosWork with companies and/or government labs to acquire ideas and intellectual property, such as the American Frontier Fund. Then they transfer the IP and build the startup in Venture Studio.
- Corporate studiosSuch as applied materials, source ideas and intellectual property within their own company. They then build the startup in a separate corporate venture studio within the company.
- A niche studio An independent venture studio that generates its own ideas and IP in a specific industry and domain – for example Flagship Pioneer, which is focused on health care and equipped with LS18 – the company that is Moderna.
- An Industry agnostic studioLike Rocket Internet, it is an independent venture studio that generates its own ideas and IP and is industry and market agnostic.
Today there are more than 720 venture studios around the world – half of them are in Europe. In North America and Europe, many venture studios in small cities are funded by government agencies to encourage local growth, sometimes with donations from companies. These studios have different parameters than startup studios whose limited partners are private family offices or venture capitalists.
Why should an entrepreneur join Venture Studio?
Over our second coffee, I mentioned to Carlos how much equity/ownership they would take joining a company created by Venture Studio.
Unlike acceleration, which takes 5%-10% of a startup’s equity, venture studios take 30%-80% of the startup’s equity. This is because companies coming out of venture studios are often given the risk-taking early stage startup process. (There is a direct correlation between the amount of equity a venture studio takes and how entrepreneurial and executive they want their founding CEO to be.)
Why would an entrepreneur leave most of their company instead of joining a venture studio and going to an accelerator? Most accelerators look for the “founder type” – the stereotypical techie, fresh out of college, who already has ideas and founders.
Most people don’t fit that pattern. However, many are stress tested and proven and are more than capable of building it.
What to look for in a venture studio?
As we were about to leave Carlos asked, “How do I know if Venture Studio is good?” he asked.
That was a very good question. While there are no hard and fast rules, I recommend entrepreneurs ask these four questions.
- Is the studio run by an ex-founder and does it have ex-founders as full-time employees? The most successful venture studios are founded by entrepreneurs who have already built companies with $10+M in revenue and 100+ employees.
- What equity percentage are you asking for? The answer will be directly proportional to what you think your value is. Over 60% of in-demand organizations are hiring employees rather than founders.
- Looking for a studio with specialized expertise? Studios that focus on specific niches and industries can build a deep bench of domain experts — such as founders, consultants, and advisors — who are experts in that one field.
- Do they have enough funding? Beware of zombie studios. If you dedicate most of your company to a studio, it’s worth reaching out to them for support after you launch. If they don’t have enough funding to keep the lights on for many years, you’re on your own. Make sure your studio has raised more than $10M in funding.
A few weeks later I got a note from Carlos letting me know that there was a venture studio in town, another run by the government and a third focused on manufacturing in his region. He applied to all.
Filed Under: Harvard Business Review, Venture Capital |
