Innovative leaders have a mindset like that of a venture capitalist. They take a portfolio view of innovation projects. The Venture Capitalist will invest in a basket of different start-up companies, fully knowing that most will fail. A few might break even and one or two might be successes. But one big success can pay back the costs of all the failures. Even though he is smart the VC does not know at the outset which ventures will succeed and which will fail so initially he backs them all. As time goes on he cuts funding for the failures and gives more to the winners. It is the same with prototypes in business. The leading innovators run many different pilots and measure progress carefully. They chop the losers but pour more resource into the successful trials. That way they are first to market with the real winners.
VCs use a portfolio approach so that they balance the risk of losers with the upsides of winners. They are comfortable with the knowledge that many of the ideas they back will fail. They are also comfortable with quantity. They receive hundreds or thousands of business proposals every year from all sorts of diverse sources. Many of these have already been rejected by several other VCs but that does not matter. The VC sets his own criteria and selects several ideas to support and put into his portfolio. If the business plan then misses its targets or milestones or the customer reaction is poor or the technology fails to deliver then the VC is sanguine about pulling the plug on this investment. He wants to put more resources into the portfolio ideas that are working and he is quite relaxed about strangling the losers. If he can cut his losses and get out early he will.
Contrast this with a typical corporate environment where a small number of new business proposals are considered. A handful is eventually selected and then every effort is made to make them succeed. Failure is abhorred. Extra resources and efforts pour into the CEO’s pet project even when the market is screaming that this one won’t fly. Emotion and egos come to the fore.
Think like a VC and remember these key points:
* Quantity is good – we want lots of ideas.
* If an idea has been rejected before, we are happy to consider it again.
* We will select the most promising on objective criteria.
* We want a return on our innovation portfolio as a whole.
* We know that many of the more radical ideas will probably fail.
* We will focus our resources on the winners and cut resources on the losers.
Adapted from a chapter in The Innovative Leader by Paul Sloane
Securities and commodities traders who do well in this line of investing also run by the same rules. None knows for sure what investment will pay off.
Here’s one thing they you didn’t mention about venture capitalists that most successful traders do. They have a stop loss.
Here’s the reason why. It is hard not to be emotional about a loss; and oddly enough when lossing our proclivity is to stay in and hope things will turn around.
This tendency is bad news. So to guard against it wise investors set a stop loss. This is good advice in any undertaking is seting a predetermined “pain point” where you recognize it is time to “cut your losses.”
Thanks for taking the time to point out an important part of investing whether it is time in starting a new business, a project, or branching out of a business.