Pictured above: Science Inc.'s CEO and co-founder Mike Jones
Science Inc. is a startup studio. A startup studio is a lot like a movie studio, except instead of making films Science Inc. makes companies.
Like a movie studio, companies can start and develop internally, or companies can come from the outside and partner with the studio. Unlike incubators and accelerators, two other types of organizations that develop companies, a startup studio doesn’t incubate or accelerate companies within a fixed time period or class. Companies work with Science for as little or as long as deemed necessary for their success. Also, unlike incubators and accelerators, the studio doesn’t have a fixed equity take. The company enters into many different equity, and even debt, arrangements to finance its portfolio companies.
With over 150 employees, offices in Santa Monica, San Fransico, Armenia and India, and successes like Dollar Shave Club and DogVacay, a lot of people wonder: is Science Inc. right for my company?
Mike Jones, CEO and co-founder of Science Inc., recently explained at the NewCo Los Angeles conference when he thinks a startup studio approach is appropriate, alternative methods for developing your company and how venture capital works.
1) Is a startup studio like Science Inc. right for your company?
Working with Science, an incubator or accelerator is expensive, but so is the risk of building your company alone. What do you need more: money or operational help building your company?
“Venture investing, the real, true only value you are getting out of them is money,” said Jones “You might also get some good advice, you might also get good connections, but you are getting no operations. You have an engineering problem, they are probably not going to fix it.”
More and more venture capital firms are offering additional services: access to an in-house accountant, marketing consultant, or developer for example. Those additions add some value, but they are still a small part of their core business, which is investing capital wisely.
“VC’s will spend the most time on the things that will give them the biggest reward. There's no point in them trying to fix broken things because they really just need to go down deep on things that are winning,” said Jones. “On the flip side we are all about fixing problems because we have a staff of 150 people, so we are all about fixing problems, building stuff, working alongside that CEO and putting in sweat. Because we are an operational business.”
2) Startup routes come with different costs and different risks
There are a lot of different ways to build a company: Bootstrapped, venture backed, incubated, accelerated, and through a studio like Science Inc. No route is inherently wrong or better, as each has their advantages and disadvantages. Knowing the difference is about knowing what you want.
“Venture money is always the cheapest money for any startup, and accelerator, incubator, operational co-partnership is always going to be your expensive money,” said Jones. “Obviously, the argument from my side is that I will de-risk your success level, so I should be able to get you to a much larger success position much faster vs. the typical failure rate of startups.”
The question all entrepreneurs need to ask: “Is the value I am getting equal to the risk I am saving, through equity?”
3) Why are incubators, accelerators, and startup studios more important outside of the Valley?
The wonder of the digital age is that you can build a company anywhere. But most people don’t; most people build their company in Silicon Valley. There’s good reason for that. Though digital capacity is abundant in the form of servers, client computers and software, human capital is scarce. That is, knowledge of how to use servers, client computers and software in a profitable way is hard to come by outside Silicon Valley.
“In any market outside of Silicon Valley accelerators provide a really, really important first step into entrepreneurship,” said Jones. “The difference is if we are all in Silicon Valley, we would be all one or two friends away from somebody who had built a company, sold a company, failed, raised money; there would just be a lot of knowledge floating around the atmosphere for you.”
Wisdom, however, is not just floating in the air. To find those little flakes of insight and refine them into something useful, incubators, accelerators, and startups studios were invented.
“If you are anywhere outside of Silicon Valley that knowledge set is really thin. So navigating the concept of how to build a business, how to raise money, how to find a co-founder, all that other stuff is really hard to find and so the accelerator segment has sort of come to other cities to provide that first step,” Jones said.
4) Missionaries vs. mercenaries
Everyone has heard that passion is the key to building a startup into a great business. For Jones it can’t be emphasized enough. Science Inc. is always looking to partner with people who have a strong connection to their idea, who are willing to toil when times get tough.
“The real winners in this business are people who come at it with a mission. It’s a really interesting fine line… you have to both be super strong willed to believe in your mission, but also flexible enough to take feedback when it is not working. Which is probably the hardest part of being an entrepreneur,” said Jones.
Missionaries are famous for their devotion to their calling, while mercenaries are infamous for their devotion to cash. Initially, you can’t expect to make a lot of money when building a startup and you can’t expect formulaic results.
“Bankers, lawyers these are mercenary oriented professions, where A plus B equals C,” said Jones. “The reality is entrepreneurship and starting a company from scratch, you can’t really come at it from a mercenary angle.”
5) The 3 companies that Science Inc. wants to start in 2015
The process of partnering with entreprenuers and developing ideas is organic for Science Inc.
“If I am thinking I want to do a marketplace in this sector, I then go out into the world through networks like this (NewCo) or AngelList or whatever, and I try to find an entrepreneur that is also interested in building something in that sector and I'll see if we’re really match,” said Jones. “We also see a lot of random incoming, but in most cases the deals we’ve actually done is when the entrepreneur has interest in a sector that we have interest in, they have passion on it, we have passion on it and we’re going to do it together.”
Science Inc. has plans to launch about eight companies in 2015, it just doesn’t know what they all are yet. It’s got some ideas though, three ideas are top of mind for Jones:
a) Commerce ideas
“Inventory-less commerce ideas that haven’t been done,” said Jones. For example, “How do you take wholesale garden nursery pricing direct to consumer?”
b) Insurance ideas
“We think a lot about insurance, how you interact with insurance products. No one likes talking with their insurance company, so what does the insurance of the future look like? “ said Jones.
c) Services ordered via mobile phone
“We think a lot about labor on demand,” said Jones. “What are the things you want to do on your phone that you can’t currently do?” Fitness trainers on demand, for example, was one of the ideas Jones floated.
6) What is venture capital?
The financial world is always looking for ways to invest its money. How investors put money to work depends a lot on the investments they have already made and their appetite for risk. Of all the investments in the world, venture capital can be the most risky.
“If you start thinking about capital investing as a test-tube that you’re filling up, when you start putting money in it goes to the really safe stuff: home loans, mutual loans, and bonds. And then it gets a little higher and [investors go into] REITS (Real Estate Investment Trusts), and all this stuff,” said Jones. “When you get that test-tube really filled to the top there’s a tiny amount of investing, as a percentage of investing, that ‘we have no where else to put it, so lets give it to insane long term illiquid concepts.”
When investors top-off their investment test-tube it is with the understanding that they are putting up money which they may never see again (though that is not their goal).
“You are basically saying ‘give me money for stock, which you can’t sell, you have no control over, you may not have any visibility into and in seven years I may give you a crazy return or nothing. There’s literally no terminal value. And that’s venture,” said Jones.
7) How do Venture Capitalist make their money?
Contrary to popular belief most venture firms don’t make a lot of their money from the success of their investments. In fact, an often heard criticism of the industry is that venture firms don’t have enough skin in the game and make too much of their money from fees.
Venture capitalist typically make their money by the two and 20 rule. That is two percent of a fund managed is taken for salary, overhead, and paying for staff. After returning their investors initial money venture capitalist make 20 percent on all returns.
“So if I have $100 million that I’ve raised from the government of Singapore, two percent, $2 million, is my budget to be alive,” said Jones. “If I put $100 million to work minus my fees, and one of your companies goes bonkers and $300 million comes back I get 20 percent of the lift. I get 20 percent of the $200 million; I make 40 million bucks.”
“It’s important for you to understand because as you talk to venture capitalists it's important for you to understand how they get paid,” said Jones. “They are not there for good will or social justice, they are there to put money to work and get money back. They will tell you they have a long-term perspective, but the reality is they would like to get it back as fast as humanly possible.”
8) Sizing your ask to the fund’s size
Venture funds, being keen on getting their money back and well aware that most of their investments will fail, have a lot at stake in their portfolio companies.
“If you are sitting down with somebody and they have raised $40 million to their seed stage angel fund, and you are offering for them to give you $2.5 million, they are going to own 30 percent of your company. (Typically angel rounds are 20 percent to a third)” said Jones. “You think you’ll go through three rounds of financing, which means their 30 percent to start will probably end at 10 percent because they will take the dilution down the chain. They have to then believe you are going to sell for $400 million. It’s basic math… This is exactly what they are thinking.”
9) The life cycle of the fund
Venture funds typically raise money for funds that will last seven years.
So that venture capitalist don’t miss opportunities at the end of the life cycle of one of their funds, they typically raise new funds every several years, cascading the start of each new fund to cover for the closing of an old one. That covers them a little on the timing aspect, but still venture capitalist are sensitive to fund life cycle.
“The time line of where they are in these funds plays in their minds. And they won’t tell you, 'we’re really looking for things that will sell in the next year. We don’t want to be illiquid forever,'” said Jones. “If you don’t know who you are talking to or how to talk to them, you might be walking into a 'no' before you’ve been in the room.”
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