Business incubators and start-up accelerators: Valuable assets or a waste of time and money?

Business incubators are organisations that provide support to start-up and early stage businesses through the provision of facilities, mentoring and coaching, training, networking and seed capital financing. The first business incubator is thought to have been established in Batavia, New York in 1959 within an abandoned Massey Ferguson tractor factory.

Despite this early start the evolution of business incubators really took off during the 1980s. For example, in the United States the number of business incubators grew from a mere 12 in 1980, to around 1,100 by 2003.

This growth was driven by three interconnected forces. The first was local and state governments aiming to re-use abandoned manufacturing facilities as commercial spaces for start-up and small businesses. The second was the US National Science Foundation’s funding of university programs in entrepreneurship and innovation. Finally, it was driven by successful entrepreneurs who engaged with these incubators as mentors and investors.

At the international level the National Business Incubator Association (NBIA) is the main peak body with around 2,000 members across 60 countries. It represents business incubators, start-up accelerators, co-working and makerspace or hackerspace entities.

Start-up accelerators focus on moving technology-based firms rapidly from establishment to early stage venture funding and growth. They are an education and mentoring centric model with start-up teams working through as a cohort over several months against a structured training program. The program typically takes an equity stake in the venture and uses experienced entrepreneurs as mentors and coaches.

Co-working facilities offer physical space where nascent and novice entrepreneurs or individual freelancers can operate in a supportive environment and where they may potentially expand their networks. By comparison a makerspace or hackerspace offers a similar environment but is focused on specific technologies such as software or online digital.

The difference between a business incubator and a start-up accelerator is summarised in the following table provided by the US Small Business Administration (SBA). It can be seen that the primary differences between an incubator and an accelerator are the type of technology being commercialised, the duration of the time taken to provide the assistance and the type of investment model.

These differences are important as the focus of most accelerators is on technologies that can be rapidly commercialised. They tend to attract younger, predominately male technology enthusiasts with design-led innovations such as online games, mobile apps and web-based technologies.

The typical start-up accelerator is a for-profit organisation that takes small equity stakes in the businesses they support in return for their services. They don’t use a “real estate” model and offer little more than a co-working space or place for their mentoring and education programs. Many will also look for ventures from anywhere and bring them to their program for intensive training.

By contrast the typical characteristics of a technology incubator are that they are non-profit organisations usually linked to a university. They provide office space at below market rates and work mostly with firms that have emerged from the local community. Most technology incubators don’t take equity in the firms that they support.

Business incubators and accelerators in Australia

Like many countries Australia has followed a similar path to the United States in relation to business incubators although the total number and overall structure of these institutions is obviously smaller. Commencing in the 1980s the number of incubators in Australia grew to around 50 in the mid-1990s to more than 100 a decade later.

Many business incubators are what might be termed “traditional” in nature and provide office and factory unit accommodation for start-up and micro-businesses regardless of their level of innovation or growth potential. Most of these are not-for-profit entities supported by a combination of federal, state and local government funding. They are often co-located with a small business advisory and support centre funded by state and local governments.

A small proportion of incubators are focused on the start-up and accelerated growth of technology based firms. In 2012 there were around 28 start-up incubators and business accelerators in Australia. Most of these were located in New South Wales.

While the model varies from business to business, the most common structure for technology accelerators is an educational program over several months with coaching or mentoring support. The funding of the accelerator is achieved by taking an equity stake in the business.

Many of the business accelerators operating in Australia are focused on digital and online technology-based ventures. Examples are BlueChilli a Sydney based start-up accelerator with an office in Melbourne that specialises in software, digital marketing and internet-based ventures. Established in 2012 by Sebastien Eckersley-Maslin, it aims to deliver one new start-up every two months.

There is also the Melbourne-based Angel Cube that offers a three-month intensive program with a follow-on three-month period of incubation. It invests $40,000 in seed funding to selected ventures for an equity stake. It then seeks to connect these ventures to international investors.

The emphasis on web-based digital technologies is unsurprising. This type of start-up is generally easily launched and scaled-up, with a relatively low level of technical complexity and a short time to market. By contrast more complex technologies such as biotech or advanced electronics require much greater capital investment and time to commercialise.

Concerns over the value of technology incubators and start-up accelerators

Despite the hype surrounding accelerators both in Australia and overseas there have been some concerns raised as to whether they do more harm than good. For example, Greg Twemlow, writing in the Sydney Morning Herald in June 2014 suggested that Australia’s technology incubator and start-up accelerator network was poorly regulated.

His criticism focused on the lack of a venture capital funding pipeline to pick up emerging ventures once they had grown through the early seed capital funding stage. According to Twemlow:

“Without regulation of its incubator programs, Australia runs the risk of unethical exploitation. In the past few years we have seen slick operators making grand promises and giving what amounts to false hope.”

This is a concern also voiced by Dani Fankhauser, writing in Mashable.com in 2013. She points to the success of Silicon Valley start-up accelerator Y Combiner that pioneered accelerators in 2005. This launched such major successes as Airbnb and Dropbox. However, she also notes that not all accelerators are the same with some taking up to 50% equity of a start-up venture (as compared to 7% in the case of Y Combiner).

Furthermore, there is no “magic sauce” that can be applied to make a start-up successful. Start-up accelerators that have successful graduates are likely to attract higher quality applicants, much the same as happens in universities. In this regard they are no different to most venture capital firms who will generally have one or two successful “deals” and many unsuccessful ones.

Is there any model of best practice?

Although start-up accelerators are still relatively new, the track record of business incubators, particularly technology incubators is longer and offers some insights. In a study of technology incubators in the United States ten success factors were identified. These are illustrated in the diagram below.

As shown the key elements of a successful technology incubator include the provision of education, mentoring and related support, plus access to financing and wider networks. However, there also needs to be careful selection process for tenants being drawn into the incubator and well-developed program to help move such tenants through the facility. The involvement of a university can also be important if appropriate links can be developed in relation to technology transfer or collaboration over entrepreneurship education and joint research.

A further study of business and technology incubators undertaken in Britain, Germany, and the United States challenged some of the claims made by the NBIA. It criticised many technology incubators for having a low-motivating environment that does not stimulate business start-ups. There was also little hard evidence to suggest that incubators were more likely to enhance the survival, innovativeness or growth of firms. As most incubators were funded by governments the conclusions were that they should be privatised and should drop their business model that is largely built on renting real estate:

“In all three countries the effects stem primarily from the characteristics of the incubators as real estate, in which various, selected firms work under one roof on one piece of property.”

This is an endorsement of the shift from conventional technology incubators to start-up accelerators with their focus on rapid commercialisation and entrepreneur investor leadership. It was echoed by subsequent research that suggests accelerators generally enhance the survival of start-ups by around 25%. However, it also noted the decline in the number of accelerators since reaching a peak in 2012.

In a review of technology incubators and start-up accelerators the US Small Business Administration (SBA) suggested that at least seven types of start-up support organisation can be found. This includes the technology incubators and start-up accelerators, but also corporate accelerators run by large firms, and University accelerators.

In addition there are Proof-of-Concept Centres that aim to rapidly develop the commercialisation of innovations that emerge from university and other publicly funded research. They typically offer seed funding and support for early-stage technology projects. The following diagram outlines these organisations and their characteristics.

 

This study concluded with the warning that there is still more information required on the value of start-up accelerators. It also noted that the purpose and objectives of an incubator or accelerator must be examined before any assessment can be made as to its value. Government policy makers seeking to use start-up accelerators as a mechanism for stimulating employment growth, as might be done with conventional business incubators, are likely to be disappointed.

Of more importance to accelerators is their ability to recover their investments through the commercialisation of a fast-tracked software project. Within Australia this is likely to see the venture moved offshore to where the market and scale-up equity financing is located.

So are incubators and accelerators worth the effort?

To determine the value of investment in business incubators and start-up accelerators it is best to consider the objectives of these organisations and the people who put their businesses through them. In the case of not-for-profit, publicly funded or university incubators the dynamics of how they are run and performance managed will differ from the for-profit accelerators.

One analysis of non-profit technology incubators suggests that four principles should be adhered to. First, it is important to keep businesses within the incubator insulated from market forces so as to allow them time to develop and build up their capabilities. That is essentially what an incubator is for.

Second, the incubator should consider its regional context and ensure that it has access to a university and a strong network of coaches, mentors and supporting services. It should also select firms that are a good fit within the existing regional or national economy.

A third principle is that incubators should avoid a “real estate” model if a virtual incubator can be just as effective. Finally, the level of public support for the incubator and the firms that it is nurturing is important to success.

By contrast the for-profit start-up accelerators can be viewed as a private initiative that operates primarily on a fairly ruthless process of “killing the weak” as quickly as possible.

As Eric Ries, author of the well-known “Lean Start-Up” book (which is used in most accelerator programs), it is important to “stop wasting people’s time”.[10] This requires the rapid development and market testing of a “minimum viable product”, then its assessment and replacement with a new alternative via the process of pivoting the business model.

This process works well with software and online innovation projects that are design led. However, it is less likely to be effective in the case of complex research-led innovations.

For those willing to take the risk on sharing equity in their firms on the possibility that they will make it big, the start-up accelerator may provide a useful option. This is the entrepreneurial spirit at work and if it lies within the free market any gains or losses are a private matter.

However, for governments, universities or other publicly funded institutions the accelerator model may be less desirable than the more conventional not-for-profit incubator. This could be particularly true if the technology underlying the innovation is complex and requires time to develop.

Note: Tim Mazzarol is President of the Small Enterprise Association of Australia and New Zealand Ltd (SEAANZ).

SEAANZ is a not-for-profit organisation founded in 1987. It is dedicated to the advancement of research, education, policy and practice in small to medium enterprises.

Tim Mazzarol is Winthrop Professor, Entrepreneurship, Innovation, Marketing and Strategy at University of Western Australia.

This article was originally published on The Conversation. Read the original article.