The Startup Treadmill Is Broken for Deep-Tech Companies

A few years ago, I was advising a medical robotics company that was spinning a patent out of UC Davis. We won a federal Small Business Innovation Research grant for initial funding and set out to build a prototype.

In the middle of that development, a publicly traded medical company reached out: They needed exactly what we were building, urgently. But for a different type of cancer. I agreed we would follow up once our prototype was complete.

The prototype worked, investors were interested, but the startup quickly fell apart.

Why? The physician had sole control of the venture. He wasn’t interested in working on a different kind of cancer or working with that larger publicly traded company. He also didn’t want to quit his day job or take any personal risks, nor was willing to give up equity to people who were.

The result? The investors walked away and I walked away. We had ALL seen this game before and we knew it wasn’t worth playing.

A month ago, that same publicly traded company announced they had acquired a different startup to solve the exact problem we had been working on years earlier.

That exit should have been ours.

The Hard Reality

Image

We all know that most startups fail. That is not news to anyone.

But as the executive director of Inventopia, a deep-tech business incubator partnered with UC Davis, I have gotten up-close with over 40 companies that have come through my doors over the past eight years, and there is a disturbing pattern: Most of the companies that fail do NOT fail because the technology didn’t work. They fail for a small set of often preventable reasons.

Those reasons tend to fall into two categories:

1. Human/strategic failures. (Often just “rookie mistakes” made by academic founders who simply don’t have business experience—like the story related above.)
2. Being crushed slowly over time due to the immense capital needs of deep-tech commercialization.

Both failure modes are simply a consequence of our current commercialization practice, which is to say, they are preventable if we approach commercialization a different way.

A Systemic Mismatch

Having seen these challenges more times than I would like, I have arrived at the conclusion that it is the structures and norms of our investment models that are to blame here.

I’m not blaming the players; I’m blaming the game.

That game is “the solo-company ratchet” that assumes:

1. Every idea needs a “company” around it. 
2. You develop that company through “rounds” where you raise money to hit milestones, giving up 20% of the ownership in the company every time.

This is “THE” common model for company development, but it forces a lot of premature decisions and imposes a lot of time-based limitations that end up killing companies that otherwise might have been successful.

The fact that you need to form a full-fledged company up front (before your team is fully formed) is problematic, as is the sheer amount of not-value-added busy work that accompanies the formation of any legal entity.

The milestone/round financing structure is also extremely inefficient for deep-tech companies because:

• Progress of science is difficult to predict, and if things don’t go to plan and you run out of money, you are dead.
• Because you give up 20% in every raise, you have incentive to do fewer big raises (which often fail) and lose the ability to make more nimble targeted investments in experiments that really move the needle.

This is where most tough tech companies die. It is not because the science failed, but because the system for starting companies couldn’t accommodate how “science” actually gets turned into “products.”

The solo-company ratchet DOES work quite well for software companies where nobody is challenged by the realities of science and where scaling is never an issue. It is my firm opinion that we should recognize that model as a “software investment model” and stop treating all kinds of companies like they were the same.

The Solution: The Venture Studio

As a response to these challenges, I have launched Gunrock Venture Studio (named after the UC Davis mascot) alongside a group of experienced startup operators at Inventopia.

The idea is simple: Instead of building one company at a time, we build a system for building many.

A venture studio is “a company that starts companies.” But those companies come to life in the studio as a “project,” not a full-time pursuit for any one person.

The studio makes incremental bets, funding work on the technologies, quickly discarding opportunities that aren’t working and allowing the more promising ones to develop at their own pace without having to raise a big round, or hire a dedicated team.

Instead, a shared technical team works across multiple projects, supported by an experienced leadership team and centralized support staff for functions like HR, accounting and sales. No more asking researchers to jump into CEO shoes without experience.

When projects are mature enough, when they have been validated and attracted enough interest from customers, only THEN will they be matched to a full-time CEO and sent out into the world as a standalone company with a dedicated round of funding.

Alternately, mature projects may be sold directly, allowing key studio staff to assume larger equity roles as they spin out of the studio with the technology as key hires.

This is indeed a different way of approaching commercialization, but it directly solves the disconnects described above, and it allows technologies to come to market for almost half the cost.

This isn’t theoretical. While the studio model is relatively new, those that exist tend to have 2X the internal rate of return compared to venture capital firms and four times the individual company win-rate.

A Different Path Forward

Being successful in deep-tech entrepreneurship means intentionally walking away from the assumptions, the restrictions and indeed, the culture of San Francisco Bay Area software investment. And when you look at our world through this lens, it is alarming to see just how ingrained the assumptions of that “VC/solo company ratchet” model are.

Will the “business plan competition” still be necessary? Will MBA career paths evolve toward more hands-on, apprenticeship-style learning within venture studios? Possibly.

I know I certainly would have benefited from something like that myself.

What’s exciting is that the emergence of a new entrepreneurial model itself gives opportunity and license to question assumptions and ask questions like “is there a better way?”

While I am convinced that the venture studio model is going to be the general shape of the future for how we commercialize deep tech in ecosystems like UC Davis, there are still multiple variants of the studio model and multiple questions about how we treat different kinds of opportunities that are yet to be defined.

As a UC Davis MBA alumnus and a lifelong partner to the Graduate School of Management’s Mike and Renee Child Institute for Innovation and Entrepreneurship and its programs like the Big Bang! Business Competition, I’m excited to see where this journey will take us.