Internal start-ups have all of the usual new business challenges. They need products, customers, and a profitable way of getting customers to pay for the products. But above all, they need cash, because even the best strategy will crash and burn if money runs out too soon.
[Production note: at this point investors should enter, corporate investors stage left, venture capitalists stage right]. They speak the same language and are genuinely interested in incubating great new businesses, but don’t let that fool you. They are from different worlds.
I promised to talk about some of the things that doomed the Bellcore internal start-up which I briefly led. There is no way of knowing whether a VC-funded company would have fared any better. In fact, one of the companies that we might have merged with was a venture-funded operation that lasted only a few months longer than we did. Nevertheless, we did learn a lesson or two about corporate sponsorship of start-ups:
Corporate sponsors of new ventures and VCs have different belief systems. They are fundamentally incompatible, and without early, explicit steps to stop it, corporate attitudes, practices, and beliefs will overwhelm the fragile culture of the start-up.
Let me set the stage a bit. In 1999, Bellcore (now Telcordia Technologies) was a small company (revenue creeping up on two billion dollars) that was trying to ride the internet wave, but it had inherited a corporate style from its previous owners that was, well, hierarchical. Big deals dominated the business mix, and internal investment decisions were obsessively analytical.
Bellcore’s new owner was SAIC, a big company serving a hierarchical marketplace that was paradoxically entrepreneurial. Bob Beyster, SAIC’s founder, had insisted on a flat corporate structure in which managers were encouraged to develop independent business. When my little start-up failed, I made my wrap-up presentation to the CEOs of both companies. One of them tended to believe that Bellcore’s internal investment machinery was the right way to grow a new business. Here’s how it went.
- We spent a lot of money on extensive analytics to gauge market potential. It was how the investment decisions for Bellcore’s big operations support systems were made and every new round of funding was based on a rosy prediction of a complex market study. In reality, market behavior was unpredictable. We should have evolved our concepts in the market.
- Except for the few top technologists that I could steal from my own research staff, corporate investors would not permit top talent to be redirected from existing projects — where the big customers were — to this risky venture with uncertain prospects. Once both scale and success were clear, we could recruit internally, but until then, we had to rely on good-natured volunteers to help us out. The only thing we could do was hire externally, but there was little upside to attract the kind of business team that we needed. A VC sponsor would have known that new ventures do not succeed without a highly talented team.
- Speaking of success: the corporate sponsors were only interested if the likelihood of success was high, so we spent a lot of time on the success factors that would be convincing to them. An angel investor or a VC would have known that, since the likelihood of success of a given venture is quite low, it is better to fail earlier rather than later.
- Corporate culture was a culture of ownership, so many business planning meeting focused on patents and intellectual property rights that would build walls around the business. It was an unfortunate mindset. This was a time of open standards and sharing, but shared ownership was not part of the equation for our start-up.
- Internal sponsors wanted to see scale. Niche markets were simply not interesting. The business had to embrace all of telecommunications, so part of the operating strategy was to place many product bets simultaneously, a disastrous choice given the meager resources for product development and the lack of real experience on the part of our business development team. A VC would have told us that a narrow, easily explainable, product focus was key to success.
- The corporate sponsors were all senior Bellcore executives, and they were focused on building the core businesses. They believed that value creation had to be demonstrated by earnings. A VC would have told them that the market recognizes value well before earnings are even possible — it’s the single most obvious characteristic of early-stage investors to constantly seek those kinds of market signals.
There were ways through this thicket. That is one of the lessons for corporate leaders who want to launch internal start-ups: avoid colliding worlds by choosing the right corporate role. Corporate sponsors need to be responsive to the needs of the new venture, but proactive support is just one more opportunity to infect the start-up an alien culture. An internal start-up needs to be managed, but managing for value makes much more sense than managing to artificial revenue and earnings targets. And freaking out over the possibility of failure is also not helpful. New business creation is a portfolio game, and any corporation that does not take a portfolio approach is betting against high odds.
An overlay to the story of every internal start-up is corporate machinery. The milestones that mark the calendar for corporate sponsors are timed to fit the needs of much larger — and more visible — core businesses. No billion dollar company can afford make its processes dependent on external business and market events. But that is exactly what a start-up needs to do. So, even if the new venture survives the Investor vs. Investor duel, it needs protection from the calendar, the topic for my next post.