Corporate Innovation/Opinion/

The three reasons corporates fail at building startups

The Goldilocks problem, misaligned incentives and brain drain are the most common reasons for failure. This is how you avoid them.

Credit: Photo by Valery Fedotov on Unsplash
Sahil Sachdev

By Sahil Sachdev

With the world learning to live, and work with and around Covid, the mood music is beginning to shift in the corporate boardroom. If the CFO was holding the reins for most of the last financial year, the CEO is now firmly back in the driving seat — and for the most progressive of those, venture building is top of the innovation agenda.

The ugly truth is that many corporate venture builders make the same mistakes time and time again.

There’s been a lot of activity in the corporate venture building space, much of it covered in this very outlet. And it’s no secret that the majority of these venture building experiments will result in failure — not just of the startups themselves (that’s to be expected in early-stage venture) but of the experiment as a whole.

Some will take this as evidence that corporates should stick to their lane, or that the growth stage is the right time to engage. The reality is far more nuanced — the ugly truth is that many corporate venture builders make the same mistakes time and time again, each hoping for a different result. I’ll spare you the Einstein quote but you get the idea.

So why do they fail?

On the surface, corporates have all the right ingredients to turn good ideas into great ventures — smart, hard-working people, insight into opaque parts of the value chain and the kind of capital, distribution channels, data sets and industry relationships that most startups would kill for.

Having been at this for several years, and drawing on countless conversations with those tasked with venture and innovation at some of the world’s largest corporates, a few clear themes emerge. When corporate ventures don’t work, as is often the case, the challenges are often down to the following:

  • The Goldilocks Problem: too close to the core business and you’re seen as competitive, too far and you’re not strategic enough. ‘Just right’ ventures are rare on the ground.
  • Skewed incentives: the risk of failure — and the promise of massive upside — drives a lot of behaviour in early-stage venture. Remove both, as often happens with corporate venture building, and you’re removing a key factor in the success (or rapid failure) of a new venture.
  • Brain Drain:  if your most exciting roles are in new ventures outside the mothership, your brightest are likely to follow; institutional ambivalence towards the new ventures can then quickly follow.

Add the fact that creating new ventures from scratch is less than straightforward to begin with, and it’s no surprise that corporate incubators face the challenges they do.

How corporates can win

There is a way to make it work. After years of building businesses from scratch with large corporates as partners and LPs at Founders Factory we’ve seen all — and made some — of the common mistakes that plague the space. And we’ve learned what it takes to run a successful Venture Studio at scale, having built over 40 businesses in total (with 18 of those coming in the last year alone) with some breakout successes like Karakuri (the food robotics company now backed by Ocado), Acre (backed by Aviva Ventures) and Nate (which just closed its $38m Series A round) amongst them.

Here’s what we think it takes:

  • Align incentives: ensure that the teams tasked with running the new ventures are properly incentivised, as would any other startup founder. This goes both ways — taking the leap into a startup when you can return to a comfortable corporate job is not really taking much of a leap at all. Having 70-75% of the equity in the startup go to the founding team is a good benchmark.

    Having 70-75% of the equity in the startup go to the founding team is a good benchmark.

  • Bring in real operators: what worked in a corporate is unlikely to work in a startup. You need real operators schooled in the art and science of building startups, not just advisors and mentors or those used to operating in a corporate context. We’ve got 60+ of them on hand, from exited founders to subject matter experts, to put at the service of our portfolio; we believe that’s what it takes to move the needle.
  • Keep the ventures at arms’ length: this solves the Goldilocks problem. Look to partner with established venture studios to provide a middle ground where new ventures can flourish on their own, while still leaning on the resources of the corporate when needed.
  • Be in it for the long haul: make sure it outlasts the changing strategies, priorities and politics of the parent corporation — venture funds take 12 years to return, and whilst the softer benefits of venture studios are felt more immediately, it has to be a 3-5 year enterprise at minimum. Venture funds talk about vintages — you’ll need a similar mindset.
  • Take a portfolio approach: more smaller bets is infinitely preferable to fewer larger ones. This makes sense financially — returns in venture capital follow a power-law distribution — but also institutionally. Highly visible projects can quickly become too big to fail and ultimately end up as albatrosses; better to have multiple plays that grow into strategic ventures than bet the farm on one or two.

    Highly visible projects can end up as albatrosses.

Next steps to success

That sets out the right conditions for success — the next step is to identify the right opportunities and build exciting new ventures the parent company can get behind. Our approach, honed over 50+ studio builds:

  • Find big, venture-backable opportunities that are informed by user/market needs, not internal ones. Tembo Money, a startup that helps first-time buyers get onto the property ladder (backed by Aviva and Nationwide) is a good recent example of ours.
  • Design and validate a credible solution hypothesis — how can we address those needs and what signals can we generate that users/the market want the solution.
  • Identify and deliver an unfair advantage the corporate can provide to provide the startup a winning edge. This could be data sets, distribution, first customer, secondments or sometimes even just insight.

If you do the above, find a brilliant founder and wrap a great team of operators around them, you’ve given your new ventures the best possible chance of success. Good luck — although if you set the right framework, relinquish some control and adopt the right mindset, you might not need it.

Sahil Sachdev is head of venture design at Founders Factory.

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Benjamin
Benjamin

“Smart Hard Working People” is absolutely not an element that predicts success in any way shape or form. That’s actually why they fail. The type of leader required to build a atart up successfully almost never ends up in a corporate environment. So if you’re picking your leader from those that did, with extreme exception, you already lost before you begin. Corporates attract mediocre leaders. People who live according to pre laid down rules instead of instinct and failure. Those are not the kind of people who have built the muscle for success in a start up.