Developing the Entrepreneurial System – Here and There

ecosystem

A professor from the University of Michigan’s Ross School of Business is writing from his home state’s perspective, but sharing insights regarding Midwest entrepreneurial ecosystems and how they might differ from international efforts. He notes four key elements, including the always popular capital and worker skill aspects:

  1. The most important step is connecting with your customer

While understanding the basic fundamentals of cash flow and knowing how to manage a staff is important, businesses everywhere must put finding the customer first if they want to be successful. For Midwestern businesses, that might be a challenge for marketing. For startups in some developing economies, the search can be less abstract: Infrastructure challenges can make connecting with customers more difficult. For example, in Vietnam, the single biggest platform for ecommerce is Facebook — but in rural Morocco, a lack of infrastructure makes ecommerce virtually impossible. Interpersonal connections and marketplaces remain indispensable.

  1. Success begets success

In the United States, the story of every successful startup cluster begins with capital — and one of the best sources of capital is another company’s exit. We’ve also seen that for every $1 a Michigan startup receives from a Michigan VC firm, it attracts $4.61 of investment from outside of Michigan. Cash is the fertilizer, and the more of it in the environment, then the more likely the economy will grow.

This logic doesn’t always hold in developing economies, one of the hallmarks of which is no middle class and a huge income disparity. When wealth is created in these environments, there are many places that the money can be reinvested in besides another startup: to fund education, for example, or to buy more land. That being said, more wealth generated by new venture activity has the potential to lift the income threshold and lead to a more stable, flourishing economy. 

  1. Give your talent the fulfillment they need

A major challenge for small communities is talent, no matter where they are located. But talent isn’t just about having smart people — it’s about having people with the skills needed to build a business, and a community that can support them. In the Midwest, that talent gap often takes the form of local workers who are educated, well-trained, and experienced in running a business, but who might not choose to stay and work in their communities if there aren’t opportunities that appeal to them.

Robust entrepreneurial ecosystems with more activity have the potential to attract top talent away from more metropolitan areas. It can become a self-sustaining cycle once it gets going, but may take a significant event or local unicorn to get it kicked into action. In developing countries, that more often looks like workers who have limited skills, who need the determination and resources to invest in themselves — and who need an ecosystem that can provide them with that base.

  1. Take local differences into account

What works in Silicon Valley doesn’t always work in Chicago — and what works in Kosovo might not work in Vietnam. When it comes to translating what has worked in one place to another, the details become local, and critical. Some business climates trust banks and credit lines; others operate solely in cash. In some places, the local language is widely spoken; in others, that local language could be six different dialects. Just as the National Venture Capital Association has local chapters to better understand and focus on the small ecosystems being built all over the United States, context is everything for entrepreneurs looking to get off the ground no matter where they are.

While languages, customs, and currency differ from country to country, one thing doesn’t: When entrepreneurs and innovation win, it can lift the outlook of an entire economy. With the right resources and support, the Midwest has stepped up to create the jobs and standing it needs to survive in the modern economy — and developing ecosystems around the world are doing the same.

Study Ventures Into Capital World

The Silicon Valley and Route 128 have long been identified as the homes of venture capital. For the unitiated, that’s the San Francisco and Boston areas. Throw New York in the mix and the three regions are home to nearly half of all VC firms and a like number of VC-backed companies.

The State Science & Technology Institute reviews some recent research that says what appears to be bad news (it is in some respects) for other parts of the country has some silver linings for investors.

Venture firms exhibit a strong local bias, according to the study. A firm is almost six times more likely to invest in a local firm, controlling for other factors. The authors note, however, that out-of-region investments have a higher success rate than in-region investments. One explanation is that firms have a higher barrier to investing out of their home region and tend to restrict their investments to low-risk and higher-yield opportunities.

Despite the greater likelihood of success in out-of-region investments, firms based in venture capital centers outperform firms in other locales. These regions have a greater number of opportunities, pools of talented employees and benefit from knowledge spillovers. The authors suggest that this concentration may be a rational allocation of resources and make sense for investors.

The researchers advise that anything a region can do to increase the number of successful venture-backed investments in a region can greatly increase the likelihood of future deals. Once a region has experienced a few successes, they are much more likely to become the home of branch offices, which in turn are prone to invest locally. Also, once a firm has invested in an out-of-region area, they are much more likely to invest in that region in the future.

Indiana has certainly seen increased outside investment and realized some success stories. More of each will lead to … more of each.
 

Research: Distance Impacts Structure of VC Funding

What do we know about venture capital — other than there isn’t quite as much in play today as in recent years?

In a recently compiled list of the most active VC firms in 2008, 40 were located in the Silicon Valley and San Francisco. Another 18 of the firms doing the most business were in Massachusetts. That distribution is nothing new.

Whether that fact makes it more difficult for Indiana and other Midwest companies to obtain funding is an age-old question. Some say it is a distinct disadvantage for Hoosiers, while others contend good ideas will find the money no matter the location.

Research from Xuan Tian, an assistant professor of finance at IU’s Kelley School of Business, finds that if companies do receive funds, the overall level is not impacted by distance. The structure of the financing, however, is subject to variances based on proximity.

The State Science & Technology Institute summarizes it this way:

Companies located farther from their venture investors receive more frequent rounds of financing with lower cash amounts per round. According to the study, this difference is attributable to the higher cost of monitoring companies that are farther away.

Investee companies that are located near their investors are able to meet with them regularly, minimizing the risk to the investor and the cost of gathering information.

Tian argues that monitoring and the staging of funding rounds are substitutes for each other. With the low-cost monitoring that is possible with nearby firms, venture firms can afford the larger risks associated with large, infrequent cash infusions. The cost of monitoring more distant companies means that venture firms are less willing to take those risks. More frequent funding rounds give investors the option of dropping a company that is not meeting its goals, with fewer losses.

Treat Your People Right: Many Californians Looking to Bail

It’s hard not to be jealous of California. Its residents don’t have to deal with black ice in January. There are palm trees. And it’s the place where "Hangin’ with Mr. Cooper" was filmed and enjoyed six magical seasons.

But an article on Yahoo! News today, and featured on the Drudge Report, illustrates what happens when people finally become tired of inadequate government:

Mike Reilly spent his lifetime chasing the California dream. This year he’s going to look for it in Colorado.

With a house purchase near Denver in the works, the 38-year-old engineering contractor plans to move his family 1,200 miles away from his home state’s lemon groves, sunshine and beaches. For him, years of rising taxes, dead-end schools, unchecked illegal immigration and clogged traffic have robbed the Golden State of its allure.

Is there something left of the California dream?

"If you are a Hollywood actor," Reilly says, "but not for us."

Since the days of the Gold Rush, California has represented the Promised Land, an image celebrated in the songs of the Beach Boys and embodied by Silicon Valley’s instant millionaires and the young men and women who achieve stardom in Hollywood.

But for many California families last year, tomorrow started somewhere else.

The number of people leaving California for another state outstripped the number moving in from another state during the year ending on July 1, 2008. California lost a net total of 144,000 people during that period — more than any other state, according to census estimates. That is about equal to the population of Syracuse, N.Y.

The state with the next-highest net loss through migration between states was New York, which lost just over 126,000 residents.