This guide is for startups, sponsors, mentors and anyone working with or providing services to startups. Understanding what is a good incubator, how they measure their success and how they make money will mean you are intelligent and effective in your selection and working relationship.
[ This article was first published on Startup News ]
There are now more than ninety different entities offering incubation services to startups in Western Australia.
Incubation is offered in the form of accelerators, mentoring programs at co-working spaces, university courses with academic credit, hackathons with prizes, hardware prototyping labs and pitch competitions. They include national programs targeting researchers, specific programs for social ventures, and free ideation workshops in the wheatbelt.
The number and size of incubators are growing too.
The Federal government has recently invested around $2 million across WA to grow these services, and the State government the same amount or more. This investment represents ten times the investment in any previous years in the past decade.
Before we dive into revenue, a few words on their costs.
The categories of costs are usually similar across incubators: rent, staff, expert facilitators and mentors, materials, marketing and other costs of sales, cash for prizes or equity, software platforms, travel.
The size and proportion of those costs are likely to be highly variable between them. A CBD-based accelerator that offers co-working, investment and overseas travel positioning itself as an global leader in its sector has very different costs to a half-day training program that ‘pops up’ encouraging people in rural areas to progress their nascent ideas. The differences in scale and proportion of revenue are just as significant.
Now, let’s break down the revenue models into four basic understandings, two categories and eight varieties within them. This should be enough for you to makes sense of the emerging incubator landscape.
We’ll start with four fundamental understandings:
1. Understand that running an incubator of any kind is, generally, incredibly marginal and challenging.
There are few harder ways to make money or remain viable than to provide highly-expert advice and world-class learning design to a large number of unknown individuals with untested ideas, no revenue, have variable commitment …and most of whom will fail.
Anyone who is offering incubation services is likely taking a far higher risk, with more significant commitment, and being more generous with their time than any of the entrepreneurs in the ventures they are serving. Remember this when dealing with them.
2. Most are – one way or another – trying to make money (and profit) from delivering the incubation program and provide broader benefits.
Profit is necessary for the services viability, sustainability and growth.
For some, profit is far less important than the public benefit: they may have some allocated or attracted funding to provide incubation services to make their town, sector, company, or state better, more innovative, more diverse or stronger. Those with public benefit may take a loss on program delivery, but that’s OK because their success metrics are not short-term nor monetary.
3. Most organisations offering incubation services have multiple revenue streams.
Universities, co-working spaces, chambers of commerce, government agencies and consultancies all do things other than incubate startups.
Some make money by directly selling the incubation services to startups, sponsors or others. Others may make money indirectly, meaning their incubation services generates leads or sales for other services. Having other revenue streams linked to their incubation services means they can take a loss on program delivery because it’s an investment.
4. Government grants aren’t recurring or sustainable revenue.
Some incubators attract government grants. Grants in this area are usually a co-investment in specific projects or limited aspects, with set timeframes, intend to achieve particular outcomes like reaching regional areas or lifting the quality of mentoring through bringing in international experts.
Grant funding is nearly always once-off, for only a year or two, and will need to be replaced by other revenue to sustain the reach and quality of the service. For this reason, the revenue models below does not include grants.
Now, on to how incubators specifically make money.
As you read this, try to get a sense of how the scope, motivation, time frames and focus of each will be different because of their revenue focus. This will help you understand and work effectively with different incubators.
Direct ways incubators earn revenue include:
a) Corporate, government or investor sponsorship.
A company, government or investors may pay for the incubator to run so they can be the first to see, invest in or access the startups and their ideas. They outsource their pipeline and hard work to a third party (the incubator), so they can focus on getting the benefits. Aspects of what Unearthed do are an example, and more so with Slingshot.
b) Profit from liquidity events by ventures in which they have equity.
The incubator, or usually in this case an accelerator, may be run by a VC firm who is seeking a return (ten times) on their investment later (ten years). For them, an accelerator is their pipeline and way to de-risk and filter their investments early. Plus Eight does this, as do Blue Chilli.
c) Participants paying for participation.
The incubator charges participants. Startups pay because the incubator can aggregate quality advisers, content and connections that would otherwise be too expensive or inaccessible to an individual. You pay to do Ignition, but scholarships are also available and the whole thing is subsidised.
d) Royalties from IP commercialisation or licencing.
Some incubators – often universities or research entities – take a percentage of earnings from the innovations they incubate. Such fees can pay off very well over the long term but are more relevant to deep technology innovations, requiring specific legal arrangements, lots of patience and cash reserves.
e) Industry groups, corporate alliances, or government agencies pay.
Sometimes groups or a sector want access to startups and innovations but don’t want to own or control the process; they want to access the market intelligence on what’s emerging or get solutions to their problems. Ministry of Data and Perth BioDesign are examples in WA.
There are many more variations within these and versions of ‘direct’ models, but those above give you a taste of it.
Indirect ways incubators can earn revenue include:
a) Selling more of other services to the startups.
Chances are if you have been through a program you will develop relationships and affiliations that make it attractive to rent a desk, office space, prototyping lab access or pay a membership fee to stay part of that network. Bloom attract members and coworkers through Launchpad.
b) Increasing density and attractiveness, so increase sales to others.
Even if the incubator doesn’t sell the incubated startup a desk or membership, the fact that they run programs for startups may increase their glow as a hub for innovation. For universities and corporates, positioning as ‘innovative’ helps attract clients, students, talented staff and researchers. The Web in Port Hedland has become a hub for more than startups, and Rise probably helps position KPMG.
c) Selling the lessons, talent and processes to others.
Those running the incubators see dozens or hundreds of startups, so can become very expert at advising them and others seeking help with their innovations. Whether it’s tools, templates, methods, books, consulting hours, professional services, grant writing or others, all those sales can make running an accelerator worthwhile.
Again, there are many variations on indirect models, but that’s some ideas to start with.
So, hopefully those understandings, the distinction between direct and indirect revenue, and the examples will help you select from and work effectively with startup incubators.
And, if you benefit from incubation, don’t forget to thank the hard working, risk-taking, entrepreneurial people and organisations providing the service!
Special thank you to Mark Phillips, Brad Twynham and Dan Smith who contribute to discussions of these models and distinctions.
Main photo: Andrew Outhwaite from We Are Arising, speaking at the Incubator Facilitator Forum. Photo Credit: Katie Bawden.