One of the most common questions and/or debates I have with founders is around business model and go to market. More often than not, when meeting a genius founder commercializing crazy tech or IP they developed at university, it goes something like this:
“We’ve created a next generation of XYZ engine/battery/reactor etc… that’s x100% more efficient/cheaper/faster etc… than the best systems on the market. We’re still in the lab, but we’re Xyears ahead of the competition and raising Xmillions to finalize our prototype designs and build our first manufacturing center.”
And they are so excited.
And I always ask WHY?
“Your system has the possibility to change the world, but even in the best case scenario, in 5 years you’ll only be able to produce Xthousand a year and reach 0.X% of the market. It takes so much time, capital and hustle to build out robust supply chains and dealer networks… why not partner with the incumbents?”
My reasoning is simple: IMPACT is proportional to SCALE
And building and scaling a capital-intensive business like manufacturing is a b*tch. It’s not something most techie founders have done and requires a completely different skillset, network and capital structure. It means taking on massive funding, taking on massive inventory and execution risk and as with anything hardware, it takes at least twice as long and costs twice as much.
“So… why not license the tech?”
That’s always my question. It’s the capital light, scale-fast strategy for impact and venture-scale returns. It’s the way to ensure your breakthrough engine/battery/generator etc… sees not only the light of day, but lights the future for millions or billions of households (instead of 1000s) as you quickly penetrate the market and scale.
Now don’t get me wrong – licensing is not ALWAYS the answer. Often, if the technology is too disruptive, incumbents are hesitant to adopt something that would kill their existing business (the so-called Innovator’s Dilemma).
Additionally, few large corporates are interested in risky innovation until you’ve proven demand, traction and real world use. If consumers aren’t asking for it or businesses aren’t using it, why would incumbents make the effort to switch from their existing solutions?
Which creates a bit of a chicken and egg problem… You need to show demand to convince corporates to license and market your technology/product, but to be able to demonstrate that, you need production and sales traction – like the samples section of your favorite grocery store.
To do that, you need to be able to manufacture.
But you DON’T NEED to OWN the supply chain.
In fact, working with contract manufacturers is often what I advise. You handle the sales and find someone else with in-house expertise and machinery to produce your product. Sure, the costs and margins won’t be AS good as if you manufactured yourself, but you won’t need to raise $5-10M+ to build out your own facilities, hire your operations and manufacturing teams and scale into the real world.
Instead, you can focus on what you do best – designing great product and wowing initial customers. Then, once you’ve landed that hallmark customer or two and have killer case studies showing both efficacy and demand for your product, then and only then does it make sense to really start approaching big players for licensing agreements.
The second pushback I often get when bringing up licensing is the margins or total value capture for the startup. Most founders argue they’ll capture significantly more of the upside if they attack the market themselves vs selling through a 3rd party licensee.
And that is true. But the technical, execution and capital risk is SO MUCH larger when building the manufacturing and supply chains yourself. Unless your team is experienced in both manufacturing and managing supply chains, you’re in for a rude awakening. And even then, even for founders and folks who’ve done this before, hardware is ALWAYS hard.
None of which is to say licensing is the golden goose or better of the two business models. I only like to point out that it exists and is OFTEN the better of the two models for startups, as least once they’ve proven the technology a bit.
And impact wise, licensing is a clear winner – at least in the short-to-medium term (would you rather have 100% of a small pizza or 25% of a pizza empire…?)
The other thing to consider: STUFF – literally. For every new manufacturing center, machine etc… your business requires necessitates creating more STUFF – although there are so many countless machines and factories currently underutilized – and all those unneeded machines and parts have a carbon footprint too…
Imagine how much less garbage there’d be in the world if we all shared our lawn mowers, vacuum cleaners and cars with our neighbors… We certainly wouldn’t need 275M+ motor vehicles in the US to serve a whopping 258M adults…
So, why is it any different with manufacturing? Especially if you’re a “climate” company.
Just some food for thought…
Would love to hear your thoughts and perspective in the comments below.
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