Thoughts On VC Firms Incubating Ideas
A trend that we have been seeing across the industry is VC firms incubating ideas. In house incubation of startups has been gaining popularity with the rise of startup studios. Popularized by companies such as Betaworks, these studios are essentially variations on the accelerator model. In the case of accelerators, founders typically apply with a specific company or idea and enter a cohort with a fairly rigid time limit for their participation in the program. One of the main differences in the studio model is that firms will first develop a thesis around an industry, come up with an idea, and then find an entrepreneur to run the company. These studios are not necessarily looking for founders with already formed ideas or companies but rather people they think will be able to take their idea and run with it. After marrying founders with ideas these firms will also provide hands on training and support (in exchange for equity) to help get these nascent companies off the ground. Startup studios are not alone in incubating companies, many traditional venture capital firms have been joining the trend by building and investing in their own companies in house. We decided to take a closer look at this trend and researched different venture capital firms and studios with in house incubation of close to 400 different startups. Below are the main takeaways from our study.
1. Success rates are lower than industry norms. Succeeding as a founder is incredibly difficult and getting the hands on support from studios and VC firms can seem like a great way to stack the odds in your favor. To evaluate the success of these companies we evaluated a company’s ability to go from incubation to raise a Series A. According to a recent Crunchbase article more than half of all seed stage companies fail to go on and raise a Series A with only 42% of companies successfully raising. Of the close to 400 startups that we looked at, only 12% of companies successfully raised a Series A. Interestingly, this average was not representative of all firms with some of the most succesful outliers matching or exceeding the industry average. Granted this is a recent trend and many companies still are young and may go on to raise, but it was clear to us that succeeding at in-house incubation was extremely hard which led us to our next point…
2. Founder-company fit is difficult to find. As seed stage investors one of the most important things we are looking at in a company is the founding team. Not only are we looking for founders who display strong characteristics and personalities that predict success in entrepreneurship, but we are also looking for founders with deep industry expertise. The founders we like to fund have lived and breath in an industry for many years and are by far greater experts in the industry than we are. Many firms that are incubating their own ideas are often choosing people who may be good founders in the general sense but not people who have proven to be the experts in whatever industry they are entering. Furthermore, when a founder comes up with their own idea that idea becomes their life and the startup almost becomes akin to a child to them. It is very hard to get this same emotional attachment and devotion when playing matchmaker between founder and idea.
3. Home runs do happen, though. The above points are not at all an indictment against the incubation model just an explanation of how difficult success can be. Success however, when it happens, can be huge. The team at Atomic has shown through the success of Hims how a firm can pull off the incubation model. Hims started out as just one idea of hundreds on Atomic’s whiteboard before being worked on for months by their team of founders, marketers, and operators. One potential reason for Hims success is that its CEO, Andrew Dudum, joined Hims while working as a partner at Atomic so he had a deep connection to the company (solving the founder company fit problem discussed above). For future endeavors Atomic plans to match founders to companies after ideas have been developed.
It’s clear from our research that despite the difficulty in succeeding this is a trend that is most likely here to stay. We’ll for sure be keeping a close eye on the progress of firms like Atomic to see if they have truly cracked the code on the incubation model.
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