Hard Things about Upstream Startups

For many companies that operate in an Intellectual Property heavy environment such as materials, pharma or chemicals and want to engage with startups evaluation of the technology uniqueness of a potential target is the key due diligence point. After all integration of new chemical, a new component or a new manufacturing process is a costly process. But how about the pure financial return resulting from these engagements?

Having worked in an IP heavy area as an investor I looked at the financial returns to investors historically created in this space. I searched for such recent success stories — i.e. companies that have developed a well founded patent portfolio and were sold/IPOed at $100m or more in the past 10 years (and delivered positive returns to their investors).

Here are some interesting observations about those that have made it (sample size of around 100 companies):

  • over half of them are in pharma & medical devices;
  • a significant group are companies supplying to telecom and Internet infrastructure industry that got founded around the beginning of this millennium (note that at least as many that got funded a few years earlier went bust around 2000s);
  • recently a number of electronic device suppliers have boasted impressive exits — e.g. Nest ($ 3.2bn), GoPro ($ 6.9bn), Beats ($ 3.0bn) or Oculus Rift ($ 2.0bn)

These three groups of companies covered around 90% of my sample and their profiles match quite well the distribution of IP startups in the global unicorn group.

A very good VC backed exit in the material sciences space is Novaled, sold to Samsung for $347m in 2013. I think that that’s about the size an independent material or component supplier startup can grow to. Anything larger requires economies of scale, due to cost pressure at the upstream of the value chain and a need for high levels of working capital and capital investments that they can be well contained in a much larger entity.

Hence, except for pharma, it is challenging to build unicorns in materials or chemicals. I do believe however that exit ranges of $100m and $300m are viable.

Originally published at blog.ewencja.com on July 22, 2015.