2nd Open Incubation workshop at Entrepreneur in Residence program City of Amsterdam

On 12 January 2018, Toon Branbergen and Daan Witteveen facilitated the second Open Incubation workshop at the Entrepreneur in Residence program of the City of Amsterdam.

For more information on the workshop: 

 

 

The Open Incubation Playbook

 

A new approach to business incubation in the venture economy

Venturing is the gateway for ideas and dreams to become real. In the Venture economy, I wrote about the unprecedented opportunities for millions of people to create a better future through venturing. Today, everyone can contribute to a venture through committing time, skills, experience, resources or providing access to networks. Venturing has been ‘democratized’ through the global adoption of (mobile) internet. Cloud services, the lean start-up methodology and collaboration platforms make the start-up of a new venture – commercial or social – accessible to anyone wanting to cross the chasm.

Yet, in my conversations with founder teams, I came to realize that it is not only the venture methodology that is changing. The way ventures are being incubated – at the start – is changing as well. Contrary to the 20th century economic model, which was very narrowly focused on economic value creation, a new generation of entrepreneurs has started to think differently about the purpose of a venture, its values, organizational design, collaboration, sharing and (equity) ownership. I realised that lean, open and collaborative ventures need to develop a different perspective on venture governance. A new playbook is required to enable ventures to align the roles, contributions and rewards their participants.

In the Open Incubation Playbook, we want to address the challenges that lean, open and collaborative venture teams are facing: How to start an open venture together with multiple co-founders and partners?; How to find a balance between contribution & rewards of the venture team members?; What types of contribution & rewards do we recognize?; How to deal with he need for ventures to attract different skillsets both at the start and over time?; How to combine an economical viable business model with social entrepreneurship?

Open Incubation is a venture governance model for lean, open and collaborative venture teams. It allows the participants to quickly agree on expected contribution, (potential) rewards and the rules of engagement.

The Open Incubation methodology consists of a Contribution & Reward framework that facilitates the participants in a venture to align role, contribution and reward. Furthermore, the Venture Governance framework guides a venture team to agree upon specific venture governance topics regarding leadership, transparency and venture life cycle, from start-up to exit.

The ‘higher purpose’ of the Open Incubation Playbook is that any possible barrier to one person contributing to a venture most be stripped away.

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The importance of venture governance is best illustrated by Yancey Strickler, co-founder and CEO Kickstarter, who said in an interview with Wired Magazine that projects on Kickstarter “are often funding things on the bleeding edge, we’re tasked with thinking about how the future should be governed. We take this responsibility very seriously”.

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The milestone driven start-up

Traditionally start-ups depend on investors for funding. Traditionally, start-ups are milestone driven based on detailed business plans as the execution of the business plan triggers the release of milestone payments by venture capitalists. However, the issue with the traditional milestone driven approach is that it hinders early stage start-ups to pivot when needed. The milestone based VC model conflicts with basic start-up fundamentals such as the ‘fail early principle’ and the continuous focus on testing and adjusting the minimum viable product. As a result, we see that milestone based venture capital financing is primarily being used for high growth ventures in a series A, B or C.

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Open Incubation – a venture governance model for lean, open and collaborative venture teams

A new generation of entrepreneurs has started to think differently about the purpose of a venture, its values, organizational design, collaboration, sharing and (equity) ownership. With such intentional background, the set-up of those ventures is lean, open and collaborative. Open Incubation is a venture governance model for lean, open and collaborative venture teams. It allows the participants to quickly agree on contributions & rewards and the rules of engagement.

Ventures that apply the Open Incubation model share four general characteristics:

  1. A group of potential founding partners – the venture team – share a vision to develop a new solution, product or service
  2. The venture team follows an agile development and open collaboration approach
  3. The balance between contribution and rewards & benefits goes beyond salary and equity incentives
  4. Full transparency enables trust among the participants and to develop shared values

 

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Why should I apply the Open Incubation model?

Starting a new venture is a team effort. Lean, collaborative and open venture teams try to benefit most from the rich experience, skills and motivation that participants bring to the venture team. During the initial explorative phase of the venture, the team seeks to develop a product of solution whilst applying an open, lean and collaborative approach. Working this way, you may expect that the venture needs and team contributions will change over time as the venture develops. This leads to five governance related questions that every venture team should ask at the start of a new venture:

  1. How to start an open venture together with multiple co-founders and partners?
  2. How to find a balance between contribution & rewards of the venture team members?
  3. What types of contribution & reward do we recognize?
  4. How to deal with he need for ventures to attract different skillsets both at the start and over time?
  5. How to combine an economical viable business model with social entrepreneurship?

Typically, new ventures don’t have a formal organizational structure at the beginning. Only, after the venture celebrates its first success, venture teams start thinking about an organizational structure and governance model. Often this is too late. Venture team members might become disappointed, as the chosen set-up of the venture structure is no longer aligned with the (past) contribution and motivation of the participants.

To ensure full alignment of the venture team members over the course of the development of the venture, founders realize they need to give early-on guidance on the roles, contributions and rewards of the participants. Good venture governance design helps to establish trust among the venture team members to collaborate more effectively. This becomes even more relevant in an online collaboration environment where participants might not know each other that well. The Open Incubation Playbook provides entrepreneurs and start-up teams a venture governance model that allows the participants to quickly agree on contributions, rewards and the rules of engagement of the venture.

Why would you spend your scarce time and resources on the incorporation of a company or foundation, equity and share option plans or salaries, if the venture were still in its beta phase?

 

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The Open Incubation model

Open Incubation is a venture governance model for lean, open and collaborative venture teams. It allows the participants to quickly agree on each others expected contributions, (potential) rewards and the rules of engagement of the venture team. With this ambition, I hope to provide venture teams with a governance model to find adequate answers to the five questions every venture team should ask. The answers may vary per venture team and change over time. Yet, the power of the open incubation model is that the presented frameworks are dynamic and transparent. Good venture governance guides a venture team to find a reasonable balance between contributions, roles and rewards of the venture team members. This is not only important at the start, but also during the exploration phase when venture is still seeking ways to develop its product or solution, and at the formal incorporation of a legal entity.

The Open Incubation methodology consists of three building blocks:

  1. Rules of Engagement – five governance design principles of the new venture that are applicable throughout the venture life time
  2. Contribution & Reward framework – facilitates the participants in a venture to align roles, contributions and rewards
  3. Venture Governance framework – guides a venture team to agree upon the rights & obligations of the participants regarding leadership, transparency and role based ownership

In the next three paragraphs the three building blocks will be further explained. Thereafter, I will provide some guidance on working with the Open Incubation model.

 

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Rules of Engagement – five governance design principles

The Rules of Engagement is the first building block in the Open Incubation model. The Rules of Engagement consists of five venture governance design principles that are applicable throughout the venture life time: from start-up to incorporation to exit.

  • Role based Venture Governance – The rights and obligations of the venture team members are governed through six pre-defined roles, each reflecting their role and contribution to the venture. The Open Incubation model recognizes the following roles: Founders, Founding Investors, Friends Family & Crowd, Key Employees, Venture Partners and Venture Capital. In addition, there is a Leaver category for those who no longer contribute to the venture.
  • One Man, One Vote – The Founders, Founding Investors and if applicable Venture Capitalists will each obtain one vote following the ‘one man, one vote’ principle in the Venture Board. This principle is important to safeguard the continuation of spirit of the participants at the incubation phase the moment the venture becomes incorporated. Why should you change venture governance at the moment of the incorporation?
  • Contribution & Rewards – Participants make their envisaged role, contribution and reward explicit and transparent through the Contribution & Reward framework. Starting with the six roles, venture teams discuss and write down the expected contributions of the venture team members. Following agreement on the role and contribution, the venture team will discuss the expected rewards. There are four categories of rewards: leadership, ownership, cash and in kind compensation.
  • Full Transparency – To ensure full alignment of the venture team members over the course of the development of the venture, founders realize they need to give early-on guidance on the roles, expected contributions and (potential) rewards of the participants. Good venture governance design helps to establish trust among the venture team members to collaborate more effectively. This becomes even more relevant in an online collaboration environment where participants might not know each other. Full transparency on the venture governance and the expected contribution and awarded rewards will serve as an enabler of trust in the venture team.
  • Role based Ownership – Once the venture has been incorporated, some participants may become shareholder. Like in the initial incubation phase their shareholding and the associated rights & obligations remain directly linked to their role at the venture. Role based ownership is further detailed in the Venture Governance framework.

To apply the five governance design principles, venture teams need to discuss, map-out, and agree upon two frameworks: The Contribution & Reward framework and the Venture Governance framework. These two frameworks will be discussed in more detail on the next pages.

 

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The Contribution & Reward framework

The Contribution & Reward framework is the second building block of he Open Incubation model. It enables a lean venturing approach based on sharing and collaboration between participants. Through the Contribution & Reward framework, participants make their envisaged role, contribution and reward explicit and transparent. It facilitates the venture team to quickly agree on the rules of engagement of the venture and to (re-)align their (changing) roles and contributions with the rewards.

The participants of a venture are grouped in six pre-defined categories (see the first principle in the Rules of Engagement) that will govern their envisaged roles and contributions. The roles are: Founders, Founding Investors, Friends Family & Crowd, Key Employees, Venture Partners and Venture Capital. In addition, there is a Leaver category for those who no longer contribute to the venture.

Starting with the six roles, venture teams discuss and write down the expected contribution of the venture team members. Following agreement on the roles and contributions, the venture team will discuss the expected rewards. There are four categories of rewards relating to leadership, ownership, cash and in kind compensation. Each category refers to a set of possible rewards of the participant.

 

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The Venture Governance framework

The Venture Governance framework is the third building block of the Open Incubation model. The purpose of the Venture Governance framework is to guide a venture team to agree upon the main rights & obligations of the participants regarding leadership, information sharing (level of transparency) and role based ownership. It enables the venture to be fully transparent on the governance of the venture, both in the start-up phase as well as for the moment the venture becomes incorporated.

One man, one vote – The Founders, Founding Investors and if applicable Venture Capitalists will each obtain one vote following the ‘one man, one vote’ principle in the Venture Board. This principle is important to safeguard the continuation of spirit of the participants at the incubation phase the moment the venture becomes incorporated. Why should you change the venture governance at the moment of the incorporation?

Transparency – Participants make their envisaged role, contribution and reward explicit and transparent through the Contribution & Reward framework. Information on the progress of the venture will be shared amongst the venture team according to the Venture Governance framework.

 Role based ownership – if participants become owner (shareholder) of the venture, their shareholding and the associated rights & obligations remain directly linked to their role at the venture. This is a key principle of the Open Incubation model. The impact of role based ownership is further detailed in the Venture Governance framework.

More in detail, this principle could become more concrete as follows:

  • A lock-up period of three to five years for all shareholders unless the Venture Board decides to pursue an exit of the Company or to facilitate trading. Becoming shareholder of a venture is the result of your direct involvement (through your role and contribution) with the venture. It is not a return driven investment in a security you can buy and sell at any time you like.
  • To avoid dead-lock situations when Founders, Founding Investors, Key Employees or Venture Partners are no longer involved (i.e. they become Leavers) and to re-align role and contribution of such Leaver, the financial return on economic ownership of the Leaver will be reduced (full vesting). The relative reduction of the valuation at exit is dependent on:
    • the number of years the Leaver is no longer active for (involved with) the company pre-exit
    • The qualification of the leaver event (good/bad leaver)
  • All shareholders have shareholder protection rights with respect to economic ownership and a drag and tag along in an M&A event.

 

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How to apply the Open Incubation model?

The set-up of the Open Incubation model is the first step in the incubation process of a venture. When first discussing the open incubation model, a venture team may first want to discuss the Rules of Engagement. Do we need to develop a shared view on the rules of engagement of our collaboration? Are the presented Rules of Engagement applicable to our team or do we want to adapt these rules? In my experience, it is the process of discussing the Rules of Engagement at the start of a new venture that is as valuable as the rules itself. Discussing the Rules of Engagement triggers a discussion on the purpose of the venture, the approach and the teaming requirements.

Once the rules of engagement have been agreed upon, the Contribution & Reward framework guides the venture team in finding the balance between roles, contributions and rewards of the participants and their respective roles in the venture. I recommend to start with defining the roles and contribution areas of the venture team members. This requires that the Contribution & Reward framework is transparent to the venture team. A transparent framework enables regular evaluation of the roles and contributions of the venture team members. My advice is to do this evaluation every 3-6 month. In my experience, the timing, intensity and impact of the contributions of the venture team members may vary significantly in the very fist phase of development of the venture. A more frequent evaluation does not accommodate for the timing differences of the impact and intensity of the contribution.

The last step is to discuss the rights & obligations of the participants. These rights & obligations will be outlined Venture Governance framework. Taking the roles of the venture team members as a starting point, the Founders and Founding Investors need to decide upon leadership, the level of transparency in the venture team and how to sustain the Open Incubation model over the course of the venture life cycle (from start-up to exit). The Venture Governance Framework allows the venture team members to align the venture governance with the purpose and values of the venture.

Once the venture team leadership decides to incorporate the venture, the Open Incubation model will be translated into the legal set-up of the company: the Articles of Association, the shareholders agreement, the funding structure, the cap table, the formalisation of business partnerships, the appointment of the directors, and other rewards agreed upon with the participants. As the Open Incubation model consists of frameworks with pre-defined roles, applying the Open Incubation model into legal documentation becomes relatively easy. It’s my ambition to develop templates of the legal documentation based on best practices.

The Open Incubation Quadrant

Open Incubation builds upon open innovation and distributed entrepreneurship. Open Incubation is a game changing development in innovation and venturing. It captures concepts such as lean, agile, collaboration, openness, social and sharing. Open Incubation is an invitation to participate in the creation of a new democratized and mindful economy.

OpenIncubation.com will explore the concept of Open Incubation, provide case material and develop a framework. The quadrant in this post will be used in an article on Open Incubation which will be published in a few weeks. We welcome comments and suggestions.