There Is an Incubator Bubble—And It Will Pop(xconomy.com)
xconomy.com
There Is an Incubator Bubble—And It Will Pop
http://www.xconomy.com/national/2011/08/12/theres-an-incubator-bubble-and-it-will-pop/
14 comments
I'd agree that an incubator bubble isn't a scary bubble, but for different reasons.
In slightly oversimplified economics, bubbles are bad because they mis-direct investment from productive areas to the unproductive but bubbling area of the economy.
The result is too much of something (ex. houses) and the inevitable crash almost always result in a shortage of funds (ex. a credit crisis). Thus the bubble hurts the rest of the economy in two ways. 1. Creates too much of something which which is not needed. 2. Deprives productive business of funding, by both sucking it up and later possibly causing a financial panic.
I can not think of how an incubator bubble can do those things.Can you have too much seed investment in startups? It's like throwing money at the ceiling, but so what? How's that so different from what angel investors do now? Is there any angel who has a long term track record of guessing better than random chance? Yes, pg and company are great, but that's not because they just guess, they also provide huge support after they pick a startup, imho that's where 50% if not more of the magic is.
And what would a bursting of the incubator bubble result in? A credit crisis? I can't imagine that. Incubators would have to become a HUGE part of the economy, I can not imagine this.
And if a collapse in incubators leads to a lack of funding, well its like the valley of death after the .COM 1.0 bubble burst. How many great companies came out of the aftermath of that? Tons!
In slightly oversimplified economics, bubbles are bad because they mis-direct investment from productive areas to the unproductive but bubbling area of the economy.
The result is too much of something (ex. houses) and the inevitable crash almost always result in a shortage of funds (ex. a credit crisis). Thus the bubble hurts the rest of the economy in two ways. 1. Creates too much of something which which is not needed. 2. Deprives productive business of funding, by both sucking it up and later possibly causing a financial panic.
I can not think of how an incubator bubble can do those things.Can you have too much seed investment in startups? It's like throwing money at the ceiling, but so what? How's that so different from what angel investors do now? Is there any angel who has a long term track record of guessing better than random chance? Yes, pg and company are great, but that's not because they just guess, they also provide huge support after they pick a startup, imho that's where 50% if not more of the magic is.
And what would a bursting of the incubator bubble result in? A credit crisis? I can't imagine that. Incubators would have to become a HUGE part of the economy, I can not imagine this.
And if a collapse in incubators leads to a lack of funding, well its like the valley of death after the .COM 1.0 bubble burst. How many great companies came out of the aftermath of that? Tons!
The pyramid in this case is that the people getting acquisition exits are becoming angels. Not really that different from your example of Sun/Oracle/Yahoo profitability help drive the tech bubble.
That's more like the top feeding the bottom than the other way around.
Which isn't as scary. Because the outsize rewards are not being paid for by new investment into the sector (unless you count later funding, but that's not the incubator's problem - tech boom and bust is already a fact of life for VCs and other people who invest in later-stage tech companies).
Only if you call it a donation instead of an investment.
Incubator for 1999: http://www.forbes.com/1999/12/15/feat.html
"What do these incubators really do? For starters, they provide office space, technology infrastructure, seed-capital (mostly about $250,000 or so), and access to some vital talent such as marketing and financial people, according to Cohen. "Mentoring and the hands-on approach is what is going to help the companies which are being incubated get to market faster," says Levy."
Off topic, but I think you'll appreciate this:
Affect is a verb (Housing bubbles affect so much of the economy), and effect is a noun (The effect of the housing bubbles is so much). My poor formula to remember that effect is a noun: Remember the term "after-effect"
Affect is a verb (Housing bubbles affect so much of the economy), and effect is a noun (The effect of the housing bubbles is so much). My poor formula to remember that effect is a noun: Remember the term "after-effect"
Actually, either word is both a noun and a verb.
Actually, the noun one can be a verb, roughly meaning "cause" or "produce". Thus the XKCD grammar-nazi trap "Did this effect (cause) the situation?"
Unfortunately, I can never remember which one is usually a noun. I just think "affect starts with an 'a', which is a noun, but I'm always wrong so it must be a verb".
Unfortunately, I can never remember which one is usually a noun. I just think "affect starts with an 'a', which is a noun, but I'm always wrong so it must be a verb".
Wow, and they sell this guide for $149! I think "bubble" is misused here. For example, one talks about the "housing bubble" in China (currently a big problem there). What this means (in layman's terms, which is how I understand complicated economic stuff like this) is that the value of something has gone way up than normal due to some factor, which may or may not be artificial manipulation (since price of something is dynamically determined, the meaning of "higher than normal" is a bit complex).
Now, in the case of incubators, they report that there's a 3x increase 2 years. This may be healthy development filling a need or it may that there are a lot unnecessary incubators. You can't tell at this stage, since the optimum number of incubators determined by market conditions is hard to tell.
The more you think about the harder it seems to judge the success of incubators, but in the end it comes down to money earned: how much it invested - values of current holdings is one simple way of doing it, I think (although this doesn't take into account other criteria, such as attracting companies to a region, which may important for some incubators).
Now, in the case of incubators, they report that there's a 3x increase 2 years. This may be healthy development filling a need or it may that there are a lot unnecessary incubators. You can't tell at this stage, since the optimum number of incubators determined by market conditions is hard to tell.
The more you think about the harder it seems to judge the success of incubators, but in the end it comes down to money earned: how much it invested - values of current holdings is one simple way of doing it, I think (although this doesn't take into account other criteria, such as attracting companies to a region, which may important for some incubators).
I wonder if this has anything to do with the Incubator Incubator http://incubatorincubator.com/
Seems more like there is a bubble of people calling out other bubbles.
"you need one of your alumni companies each year to achieve an exit in the $25 million range"
In the case of a company like WUFOO, YC & PG did a follow on round of ~$100k bringing YC's total equity stake to say 10% and with an exit of $35m YC made off with $3.5.
The point being the initial $15k investment is to gain access to great companies at the beginning so that investors can make follow on rounds in the best companies in the class. This is where the real money is made with incubators and how this differs from the privies bubble where VC's would invest $10m in an idea for a company with zero revenue. Looks like capital efficiency to me...
In the case of a company like WUFOO, YC & PG did a follow on round of ~$100k bringing YC's total equity stake to say 10% and with an exit of $35m YC made off with $3.5.
The point being the initial $15k investment is to gain access to great companies at the beginning so that investors can make follow on rounds in the best companies in the class. This is where the real money is made with incubators and how this differs from the privies bubble where VC's would invest $10m in an idea for a company with zero revenue. Looks like capital efficiency to me...
There could be many reasons we're seeing a rise in the number of incubators, principally the cost of technology startups are falling (makes sense from a diversification standpoint to invest the same $$$ in 10 companies that you would in one) and as a investor/mentor you stand to reduce your capital risk if you have some say in the early stages of product development.
Investing in early stage is cheaper and riskier. Investing in later stages (when a company has traction/growth - VC/PE stages) becomes more expensive, but is less riskier. The incubator model has the advantage of managing some of that early stage risk that angel investors traditionally didn't control by having experienced entrepreneurs on-board/within a network and in a collegial environment.
Any successful model will attract competitors, so you now have more incubators. He's equating the rise in incubators as a sign of a bubble. It would only be a bubble if you had tons of incubators sitting on cash and not finding any place to invest it. His second mistake is equating failed incubators, that result from poor investment decisions/leadership, with some kind of market correction ("the bubble bursts").
Investing in early stage is cheaper and riskier. Investing in later stages (when a company has traction/growth - VC/PE stages) becomes more expensive, but is less riskier. The incubator model has the advantage of managing some of that early stage risk that angel investors traditionally didn't control by having experienced entrepreneurs on-board/within a network and in a collegial environment.
Any successful model will attract competitors, so you now have more incubators. He's equating the rise in incubators as a sign of a bubble. It would only be a bubble if you had tons of incubators sitting on cash and not finding any place to invest it. His second mistake is equating failed incubators, that result from poor investment decisions/leadership, with some kind of market correction ("the bubble bursts").
An incubator bubble isn't "scary," per se, but it can lead to inefficiencies in the tech sector over the long run. Given that acquisitions -- seldom IPOs -- are the end game for most of the new breed of startups, a bubble in the financing stages of the startup world would naturally make startups much pricier to the end-stage acquirers (Google, Facebook, et al.). The cost of buying a feature, team, or technology goes up over time.
You could make the argument that this creates wonderful incentives for the startup environment in general, thereby attracting much more talent to the space. But in large part, this talent is poached or drawn away from existing tech companies. Increasingly, you're even seeing talent bounce from one pre-exit startup (!) to another. In addition, there may come a point where the end-stage acquisition market dries up, because the price of acquisitions gets too high for positive payback/ROI on would-be-acquirers' balance sheets. Once that happens, the bubble officially pops.
You could make the argument that this creates wonderful incentives for the startup environment in general, thereby attracting much more talent to the space. But in large part, this talent is poached or drawn away from existing tech companies. Increasingly, you're even seeing talent bounce from one pre-exit startup (!) to another. In addition, there may come a point where the end-stage acquisition market dries up, because the price of acquisitions gets too high for positive payback/ROI on would-be-acquirers' balance sheets. Once that happens, the bubble officially pops.
I think the main take away is that the best will survive. Those who figure out the model, figure out what types of people and companies to accept, and figure out how to best get them off the ground.
The idea of trying the incubator model in other areas such as health care and clean tech is an interesting idea and I'm interested to see if it will have the same effect on start ups that are much more expensive to start.
After being in 3 different incubators (2 government run, and 1 private in the US) I've learned a great deal about what works and what doesn't. The government doesn't work. If the folks who run the incubator have no stake in the companies and no interest as to whether they'll eventually be successful other than bragging rights, they will work as little as possible to not get fired.
Now when the incubator is run as a start up itself, the whole incentive system changes for the better. They want to work just as hard as you to make sure everyone is successful. Go YC!
The idea of trying the incubator model in other areas such as health care and clean tech is an interesting idea and I'm interested to see if it will have the same effect on start ups that are much more expensive to start.
After being in 3 different incubators (2 government run, and 1 private in the US) I've learned a great deal about what works and what doesn't. The government doesn't work. If the folks who run the incubator have no stake in the companies and no interest as to whether they'll eventually be successful other than bragging rights, they will work as little as possible to not get fired.
Now when the incubator is run as a start up itself, the whole incentive system changes for the better. They want to work just as hard as you to make sure everyone is successful. Go YC!
I don't think we're dealing with a bubble, at least not the bubble we've come to associate with epic disaster. Of course, there is hype aplenty, and instances like the Groupon IPO have shown that startup mania is becoming a bit overzealous, but this zeal very positively affects the business environment. By showing there is a real interest and value in ideas, these incubators are setting a tangible example of how it pays to innovate and come up with unique solutions. Perhaps the reason why startups are outliers in this economy is because its one of the few sectors where innovation isn't being stifled by the old guard, instead, the gatekeepers of industry are setting a trend of investment and mentorship.
Or you could just see it as an efficient accelerator (duh).
An accelerator that speeds up the the rate of 'new business' failure.
The upside is that resources can be pooled in to a pinpointed funnel of repeatable goals. The downside is the mechanics of the model is scalable, but the quality is not.
There are competitors in every market space, to think that this wouldn't happen to 'incubators' is insane.
This is not a bubble, its business.
Not to mention that what the economy needs are good performing companies, I tend to think incubators and accelerators provide this.
An accelerator that speeds up the the rate of 'new business' failure.
The upside is that resources can be pooled in to a pinpointed funnel of repeatable goals. The downside is the mechanics of the model is scalable, but the quality is not.
There are competitors in every market space, to think that this wouldn't happen to 'incubators' is insane.
This is not a bubble, its business.
Not to mention that what the economy needs are good performing companies, I tend to think incubators and accelerators provide this.
"it’s hard to imagine that today’s tepid consumer and business markets have room to absorb all of the products and services offered by the hundreds of new startups that the incubators are now churning out each year."
I think he's overlooking the element of disruption here. While it's true that certain markets will need to expand to fit these new companies, many of these startups are entering markets with the hopes of exploiting inefficiencies in more traditional companies, or simply doing things better.
I think he's overlooking the element of disruption here. While it's true that certain markets will need to expand to fit these new companies, many of these startups are entering markets with the hopes of exploiting inefficiencies in more traditional companies, or simply doing things better.
As far as I know there isn’t a single example of an incubated company going public.
My understanding is that incubators are relatively new. It is not really reasonable to say the lack of IPOs indicate if incubators are successful or not...I believe the first yc class was like 6 years ago. LinkedIn, for example, took 9 years before it IPO'd.
My understanding is that incubators are relatively new. It is not really reasonable to say the lack of IPOs indicate if incubators are successful or not...I believe the first yc class was like 6 years ago. LinkedIn, for example, took 9 years before it IPO'd.
Also, do they need to go public? YC has a handful of partners afaik and they had a bunch of exits in past couple of years.
What will YC gain from an IPO?
What will YC gain from an IPO?
Are there any stats available that show the historic performance of YC or TechStars funded companies? I know YC has hit a number of homeruns in Heroku, and AirBnb, but what is their success rate? 10% 5%?
Stop using the word bubble.
Seriously, why is this getting upvotes?
Seriously, why is this getting upvotes?
Bubbles are scary when they fill one criteria - investment in the bottom of the pyramid is feeding the top, making the whole thing look more profitable than it is.
For example, in the tech bubble, the new companies were buying Sun servers, Oracle databases, and Yahoo! ads. This made Sun, Oracle, and Yahoo very profitable, which encouraged more tech investment. But that snake can't eat itself forever, and when investment slowed it all went bust.
Likewise, housing bubbles affect (effect?) so much of the economy they can't help but feed off themselves.
And in a classic Ponzi scheme, the mechanism is the same - the bottom feeds the top, so people think that there are outsize gains to be made. Those gains evaporate once new entrants slow.
Now, there's some new startups like Heroku who are "selling picks in a gold rush". But there's plenty of others like Groupon and AirBnB who are selling to the wider economy. The successful internet start-ups don't usually feed off new entrants, so I don't think a really scary bubble can form.
That said, if a bunch of random airheads (who are these 60+ new incubators? top tier VC? bottom tier VC? government? universities? there will be winners and losers here) think they can attract the same talent as Paul Graham, and vet business and technology plans as successfully, they may stand to lose their shirts.