Incubators and Accelerators. Do They Work?
Over half of all startups are dead in the water within 2 to 5 years. This certainly may help explain the exponentially popular appeal of business incubators and accelerators, which promise to boost the chances of individual startups to raise capital, get to a positive revenue stream and provide community benefits like higher regional employment.
There were about 12 incubators in 1980 and today they number in the thousands in the USA alone. Some of the most famous ones are Y Combinator or TechStars. Even governments are getting into the act: the Obama administration in White House has launched Startup America to facilitate public and private partners investing in American entrepreneurs.
In different ways, incubators and accelerators aim to leverage high-quality mentorship and access to funders to produce dramatically different results; but do these methods actually work?
Another question we’re interested in is where the trends are going. Even if definitive metrics are hard to come by, there’s no doubting the popularity of the incubator and accelerator model – can it be applied broadly to companies outside of the technology sector?
To answer these questions, we talked with representatives and looked at reports from 15 of the leading incubator and accelerator programs across North America, such as Tech Stars, Tech Wildcatters and Praxis Labs to DreamIt Ventures and the Toronto Business Development Centre. We also talked with companies that have gone through these kinds of programs to get a first-hand perspective on what they thought about the value of incubators and accelerators.
This research led to a few broad conclusions: while there are plenty of startup success stories to provide anecdotal evidence of incubators and accelerators having success on a regional basis, there is no broad consensus on just how effective these programs are.
Part of the problem stems from lack of data collection by these startup-boosting organizations, though not from lack of trying. For instance, since most accelerator programs are less than five years old, they simply haven’t had enough time to measure outcomes like long term (5 to 10 years) survival of the business, success with fundraising, employment benefits to the community and other metrics in a systematic way. Even those incubators and a few accelerators that have been around (some, for decades) face a more perplexing problem of how to measure success, taking into account the variable potential of different geographic regions (eg. tech startups in Silicon Valley will have a greater chance to succeed than similar companies based in the USA’s rust belt), across industries (eg. is a startup that employs 20 people less of a success than a manufacturing company that employs 200 people if they both have the same revenues?) or fundraising (eg. if it takes less capital for a mobile tech startup to succeed than another company, does raising a lesser amount count as a failure, even if it’s enough for the company to move forward on its milestones?).
Another factor we discovered was that the selection process incubators and accelerators use naturally skews results to make meaningful comparisons with the rest of the business community difficult. Companies are not accepted into incubator or accelerator programs on a random lottery basis, but through a rigorous application process where incubator or accelerator programs are self-selecting for metrics they already assume will bring success.
In other words, the variables in the data make definite conclusions challenging. That said, both the representatives of incubators and accelerators were relatively optimistic about the possibility of expanding their models to other regions and industries to provide (in the case of incubators) economic development and (in the case of accelerators) investment opportunities.
What’s the Difference between a Business Incubator and an Accelerator?
Increasingly, some people associated with business incubators are calling their programs accelerators, and vice versa. While business incubators have been around for decades, the “accelerator” model only took off around 2000.
For the benefit of our readers, we should get these definitions cleared up before we go deeper into whether they actually do what they promise. An excellent 2011 article by Dinah Adkins of the National Business Incubation Association titled “What are the new seed or venture accelerators?” provides a very clear guideline.
Here are some characteristics of Business Incubators:
- Clients include all kinds including science-based businesses (biotech, medical devices, nano, clean energy, etc.) and nontechnology; all ages and genders; includes those who have previous experience in an industry or sector
- Business model is primarily (90 percent) a nonprofit business model; for-profits created by corporations and investors
- Sponsors include universities, economic development organizations and other community-based groups, sometimes with help from government
- Competitive selection, mostly from the community
- 1-5+ years (33 months on average).
And here are some characteristics of Business Accelerators.
- Clients include web-based, mobile apps, social networking, gaming, cloud-based, software, etc.; firms that do not require significant immediate investment or proof of concept; primarily youthful, often male geeks, gamers and hackers
- Primarily a for-profit business model
- Sponsors are usually serial, cashed-out entrepreneurs and investors
- Competitive selection is done by firms from wide regions or even nationally
- Generally 1-3 month boot camps
For the general purposes of this article, we’re partly lumping these two types of business models together, though it must be said that the accelerator model is gaining traction while the incubator model is starting to fall off a bit. More on that later.
Startup Success Stories with Incubators and Accelerators
As we have seen, companies enrolled in incubators and accelerators don’t entirely eliminate risk. The statistical record may be uneven, but there are certainly a great number of examples that these organizations do help startups thrive. We talked with the Toronto Business Development Centre about why some startups do well under this model and also talked with representatives from startups including Sparefoot, Let’s Gift It and Voices.com for their impression of the value of incubators and accelerators they’ve worked with.
“There’s an image of entrepreneurs being self-reliant,” says Toronto Business Development Centre Director of Incubation Michael Donahue. “They need to be that. They need to make their own decisions on the advice they receive. But the biggest value the advisors can give, and where the advisors are doing their job is more when they’re asking questions than when they’re giving advice. They need to question the value of the product, the distribution model, and basic things to promote the entrepreneur’s critical thinking. All great entrepreneurs are open to learning from the world around them. Success in business comes from gathering insight from people who have walked down that road before.
Participants in incubator and accelerator programs tend to agree with that assessment – to the point where a skeptical observer might suspect a bit of groupthink going on, if the conclusion wasn’t so darn reasonable. All of the startup representatives we talked to mentioned the strategic mentorship first as a reason to go with these organizations, followed by opportunities for networking with experts in their industry, with opportunities for raising capital among angel investors or accelerator participants taking up the last major reason to go with them.
Let’s now look more in-depth at what some of these startups had to say about their experience.
Chuck Gordon is the CEO of Sparefoot, a tech startup in Austin that went through the Capital Factory program in Austin, Texas in 2009. Their startup idea was to make it easy for private homeowners to sell storage space in their own homes at a better rate than dedicated storage companies could do it (The idea was sparked when Chuck decided to go abroad to study and learned he’d have to shell out $1,000 to store about $100 worth of stuff).
While going through the Capital Factory’s 12-week program, they had a small cash investment of $20,000, free office space for several months, free Internet, pro bono logo design and more. Since then, Sparefoot has garnered $4.5 million in funding and has grown from a handful of partners and first employees to a team of 40, with office space in downtown Austin. Gordon is convinced that the advice and support of the mentors prior to garnering funding was key to their success:
“Partnerships are a massive driving force for our site, and we were advised
on how to pitch partners. If we hadn’t had an advisor—a partnership veteran telling us what to say—we wouldn’t have sealed our early deals. Our advisor knew what the partners wanted to hear. Even now in later stages, when we need it less frequently, we still consult our advisors.”
- Let’s Gift It
“They asked for a lot of information,” says Let’s Gift It CEO Ryan O’Donnell. “We were called into a grueling “partner” meeting. They grilled us for a while, challenging us, poking holes in the business model. What they’re looking for is whether this is an entrepreneur we can bet on. They challenged us by getting us to learn how we think and how we approach the market.”
O’Donnell was describing the selection process for entering DreamIt Ventures, a New York City-based accelerator program they went through in the summer of 2010. A startup focused on making it easier for people to collaboratively buy gifts (Think: siblings going in on an anniversary present for their parents or friends getting a video camera for a buddy’s birthday), they had met some initial success but were facing a slump in revenues that could prove lethal to their new business.
The selection process was tough, but it had to be. “You’ve got lots of people solving problems that are in the market. Imagine getting 500 applications from 500 companies that all sound really interesting, and they all have billion dollar financial forecasts. The VCs and angels have to do their due diligence and more often than not, they’re making a capital investment in the company.”
They got in and in the process, saved their company. “It got us through a really difficult time. We had a small but significant injection of capital, but as important, you’re sharing office space with 15 companies all looking to succeed, ideas are flowing… It re-energized business.” Today, the company has five employees and the future looks brighter.
“We got our start in a business incubator at the University of Western Ontario Research Park in London, Ontario Canada,” says Voices.com Co-Founder Stephanie Ciccarelli. They offer an online marketplace where business people connect with voice actors and professional voice over talents.
“We were there for a number of years. Voices.com started out with one 2,000 square-feet office in the Research Park with a team of 15 and has since grown to a staff of 23 employees taking up 6,000 square feet of space in the city’s bustling downtown core”. The company won Business of the Year (2012) and the 2012 Growth Award and has made the PROFIT Hot 50 list twice.
The Value of Incubators and Accelerators
The Toronto Business Development Centre has been operating since 1990 in Toronto. It has historically been a multi-purpose incubator serving a wide range of businesses, though its focus today (as with many incubator and accelerator programs) has shifted to more digital technology companies and cleantech companies. Over the years, it has assisted over 4,500 businesses, including a number that have survived, thrived, hired hundreds of employees, built a brand and expanded their reach. Success stories have included Bento Nouveau, a sushi company that has grown to 800 employees across Canada and the USA (and the biggest sushi company in Canada) as well as Turtle Island Recycling, a major player in its industry in the Toronto region and beyond.
What are these incubator organizations looking to get out of their involvement? For the TBDC (and on a larger scale, Startup America), incubators are often looking for “community benefits”: employment, investment and the development of a business-friendly brand for the region.
The benefits need not be limited to these straight-up “chamber of commerce” type of aims; “community benefits” can extend into non-intuitive ways, as with the participants of the Praxis incubator program, which bills itself as helping “social entrepreneurs build high-impact organizations”, guided by the Christian “faith to advance the common good.” Some of their past successful mentees include Tegu, a toy designer and manufacturer benefiting people in Honduras, Krochet Kids International, empowering women to rise from poverty by creating headwear and accessories, and Rare Genomics, which uses crowdfunding and access to Ivy League researchers to search for genetic answers for children with rare diseases.
From the other side, while gaining access to funding is a critical part of the successful business model, TBDC Vice President of Incubation Michael Donahue suggests the mentorship opportunities these companies get before they’re introduced to investors is also critically important.
Diverging Research on Incubators
Business incubators have been around longer than the accelerator model, but research is still relatively agnostic on the benefits.
Incubators with government backing are naturally enthusiastic about their own model and will cite research like a recent US Economic Development Administration study that EDA investments, on average, produce between 2.2 and 5.0 jobs per $10,000 in federal spending, for a federal cost per job of between $2,001 and $4,611. The same executive summary (“Construction Grants Program Impact Assessment Report”) noted that “business incubators produce the greatest number of jobs per $10,000 in EDA investment (between 46.3 and 69.4), while community infrastructure projects (e.g., sewer and water projects) create the least number of jobs (between 1.5 and 3.4 per $10,000 in federal investment).”
An oft-cited figure that comes up when discussing the merit of incubators in print and online is this quote: “87% of incubator graduates stayed in business, in contrast to 44% of all firms.”
That is a pretty compelling figure. Unfortunately, the source of this number is from a piece of research dating back to 1997, “Business Incubation Works”, via the National Business Incubation Association.
Business has changed a lot since then and more recent research, such as “Boon or Boondoggle? Business Incubation as Entrepreneurship Policy” by Alejandro S. Amezcua of the Whitman School of Management has muddied the waters.
Amezcua’s study drew on a sample of approximately 35,000 incubated and unincubated businesses. He looked at sales growth, employment growth, and whether companies were able to survive independently.
According to his research, in terms of age and survival trends, the average incubated firm stays in business for 5 years and 42% of incubated firms close by the time they are 3.63 years old. In contrast, he found that only 4% of the sample or 655 incubated firms managed to exit their incubator, over an 18-year period, having spent an average of 3.84 years in their incubator. Incubators did have higher average sales than unincubated businesses in their first year: $693,000 versus $437,000 and also had a higher number of employees (average of 4.43 employees for incubated businesses versus 3.45 employees for unincubated businesses in their first year). But taking all of these figures together, the results seem to show that incubators have mixed results:
”Incubated firms outperform their peers in terms of employment and sales growth but fail sooner. These are important findings for policymakers who support incubation as a strategy to increase employment locally and for entrepreneurs who risk their livelihoods in order to earn a decent living.
Ultimately, he found overall that claims that incubators are highly successful are overstated.
One study does not lead to scientific certainty. But the research does raise questions about the effectiveness of the incubator model.
As well, while many companies seek out incubators as a means of reducing the risk of their new venture, they should be cautious that even within an incubator, risk never quite disappears. The following anecdote illustrates this situation.
Booted out of the Incubator. A Cautionary Tale
On Canada’s west-coast, a relatively high-profile incubator program, Bootup Labs, seemed to dramatically portray the hazards of business incubators, when lack of promised investment funding forced the organization to unexpectedly cut several startups loose and consolidate their portfolio. Bootup Mentor Boris Wertz wrote at the time:
We had informed our 2010 cohort when they arrived that it was going to take a little while to close the fund because of some new Canadian venture regulations that we had to abide by, and because one of our investors was unable to fund when we made a capital call. It was outside of our control, unintentional, and communicated immediately. It took two months to recover but eventually realized that we were going to have a limited fund in the beginning of the year, and we had to make some hard choices.
A half-hearted and unsuccessful attempt to soften the incident made things worse. Dreams were shattered. Startup prospect Jamie Martin broke the story on his tale of woe:
There are several good things that we learned while we were there. What we thought was going to be the rest of our lives in Vancouver ended up being a crash course 3-month “Startup Experience.” I know that Steven and I are both better for the experience, but I’d say that it’s screwed me up pretty bad financially for the next year or so. I have thousands of dollars worth of receipts I’m just going to have to count as a loss now….
If you’re a Startup, and you’ve been accepted into one of these incubators, be sure to get some sort of paperwork done where money is provided, or proof of income is shown, or something.
As high-profile as this failure was – noted by a relatively large number of entrepreneurs and tech bloggers – was the experience of Bootup Labs overblown? After all, as Bootup Labs’ co-founder Danny Robinson’s heartfelt mea culpa to his former startup clients showed, the incident seemed to be more about inadequate processes and promises broken that could happen to any kind of business organization – and not really an indictment of incubators as a whole. It merely underlines some of the risks inherent in any type of business venture, incubated or not.
The Challenge of Moving Beyond Success Stories to True Comparative Data
There’s plenty of anecdotal evidence that incubators and accelerators work for the selected companies, which (depending on the assisting organization) may obtain funding roughly 40 to 80 percent of the time and go on to greater success. But the research of Alejandro S. Amezcua points us not only to the challenges involved in digging deeper on the question, but the impossibility of finding meaningful comparative data for comparing success rates of incubators and accelerators.
This is crucial to understand. When we compare the success rates of incubated or accelerated companies with the rest of the market, we’re not necessarily able to make conclusions about the effectiveness of the model, so much as the effectiveness of the selection process. These organizations may be not so much good at creating winners as picking the cream of the crop, and turning them into even bigger winners – reinforcing success that might have been arrived at independently.
Tech Wildcatters incubator partner Brad Taylor explains how the selection process works. Their model is a 12-13 week accelerator in which participants get a limited amount of funding in return for a 6 percent equity stake. This incubator attempts to take their companies quickly through to the next phase of getting funding.
Even before this incubator looks closely at a company it wants to take under its wing, it turns away the independent operators. “They’ve got to have a team with at least two team members, or have a partner, or be in the process of hiring someone.” It’s not for go-it-alone entrepreneurs.
The front-end selection process is extremely tough because incubators don’t want to waste time with companies that are poor prospects for success. Organizations that take an equity stake naturally need to have some confidence that their investment will pan out. Even where there is no funding from an incubator, the organization still has an incentive to only look for companies that are already starting on a firm footing in order to foster a larger number of success stories – just as certain schools will turn away low-performing students to ensure the pass-fail statistics for the overall student body don’t go down (along with state funding) or just as a college football team will not take a risk on an underperforming player to avoid a bad season.
“If you haven’t done a good job on the front-end selection process, even if we’ve got all these experts as mentors, and if you bring in 7 or 10 companies, looking at class, quality, what have you, you can end up with one or two companies that require more time because they’re problematic,” Taylor says. “In 2011, we had one crop of companies – two partners had a problem and broke apart the company. Another we didn’t fund. What you don’t want are companies that take the lion’s share of your attention.”
We want to understand whether businesses that are incubated or accelerated have significantly better results (in terms of longevity, revenue and profitability, management expertise, brand recognition, etc) than non-incubated or non-accelerated businesses. But we can’t, for the simple reason that these organizations don’t accept all entrepreneurial entrants; in fact, most entrepreneurs don’t make the cut to enter these programs. So we’re not comparing apples and apples.
Suggesting as one accelerator executive did that only 3 percent of un-accelerated businesses get funding and 50 to 70 percent of businesses enrolled in their program get funding is actually not helpful. Fine, a tiny minority of all businesses get funded. No disagreement there. But how many elite companies that started out with the right building blocks from the very beginning – like the ones accelerators are trying to select – get funding outside of accelerators? Twenty percent? Forty percent? Roughly comparable to what they get if they go through a program? We don’t know.
We’re comparing all companies in the world to a highly select group of companies with very particular kinds of entrepreneurs, more than likely limited to a tiny segment of the technology sector, already displaying some of the obvious signs of success even before they enter the incubator or accelerator programs.
The Rapid Growth of Accelerators and the Dangers of Dilution
The selection process may be skewed enough that we’ll never know if the “average” company would benefit from an incubator or accelerator model. Maybe that’s a good thing. This sector is growing so fast that if we tried to apply it more generally, we’d run into problems.
In fact, those problems are already starting to show up. TechStars founder and CEO David Cohen is alert to the danger. A founder of one of America’s most prominent accelerators (indeed, they bill themselves as the #1 accelerator in the world) created in 2006 and based out of Boulder, Colorado, noted in a recent Bloomberg Businessweek article that the rapid growth of accelerator programs could help boost a current swelling of the tech industry and contribute ultimately to a devastating bust.
Robb Kunz, Co-Managing Partner with BoomStartup, an accelerator inspired by the TechStars model and co-founded in Utah Country, sees how it could happen. While the TechStars model is more established (in their eighth year) and may be getting as many as 70 percent of its startups funded, he notes that their own model after only three years is producing a roughly 50 percent success rate in finding funding for their startups – a very significant metric for success. That said, these kinds of numbers may be producing an unsustainable growth in the number of accelerators out there, looking to replicate this kind of achievement.
“When you look at those points like the easier access to capital we’ve seen, more capital available for early-stage companies, the ability to get an entire product build in 90 days, the accelerator thing is in vogue; that’s a bit of a concern. If people are just getting involved in accelerators to do it, the quality of mentorship and investment dollars will be less. In the next two to four years we will see a roll-up of the bigger accelerators. We’re getting close to the peak.”
Applying the Model
The world economy isn’t exactly in peak health these days and hasn’t been for some time. Some believe that the incubator or accelerator model could be a panacea. It’s too early to tell. But there are cautious optimists (or at least, skeptical pessimists).
“I’ve been watching trends in the industry and noticing a couple of accelerators are trying to become specialized such as in health care or consumer products,” Kunz says. “There’s been some debate as to whether we can take these processes and apply them to traditional businesses like manufacturing. They want to take it out of pure tech.”
It’s a tough challenge. The reason for the rapid growth in web development, software applications, and mobile startups inside and outside of incubators and accelerators is due to a dramatic reduction in technology costs. Cloud computing, open source software, advances in real time analytics, improvements in mobile technology and other areas have given entrepreneurs and investors plenty of hope that they can launch the next Facebook or PayPal. But even other technology sector companies are not able to exploit these advantages; the bio-tech sector, for instance, is hindered by regulatory hurdles like the FDA that can drag out development for years.
Are the productivity improvements we’ve seen in North America as industry adapts to a challenging market giving brick-and-mortar companies a chance to take advantage of the new business model of incubators or accelerators?
The TBDC and other institutional incubators do have high hopes that incubators can not only help a wider range of businesses thrive, but also make themselves even more useful than they are.
Incubators and accelerators can set themselves up to achieve different metrics for brick and mortar companies, looking at the long game instead of a quick IPO. “Many businesses I’ve seen take 8 to 10 years to reach $10 million valuation,” Donahue says. “They’re building their market using internal resources. When they can leverage distribution channels, they will get there faster. Incubators can start getting activities to speed up that growth curve.” And possibly improve their own sustainability in the process.
“In the past, there have been some economic slowdowns and incubators that did not have a model to ensure long term sustainability had difficulties,” Donahue says. “I actually see more incubators following best practices that really do help the clients. In some cases, there have been some organizations that call themselves incubators but don’t provide the network, contacts, or environment that is supportive of entrepreneurs, with problem solving, strategic networking and partnerships.”