What is “Business Incubation”

Except from publsihed resesearch

Business Incubation

Unlike economic gardening, there is academic research on business incubation. Briefly, Markley and McNamara (1996) identify the local gross economic and fiscal impacts generated by incubator firms in order to assist in policymaking, because incubation investments may not “generate the quick results required to garner political support” (17). However, the results from two case studies revealed that incubators impact their host communities by much more than a few additional new net jobs. They find that “measurement of direct impacts only (e.g., firm employment, salary and wages, sales) underestimates the total impact these institutions have in a community” (24).

Business incubation in America has proliferated in the past two decades, from 390 in 1989 to 1,100 by 2006 (IEDC, 2011, 85). Incubators are “proactive economic develop­­­­­ment tools” that may locate several businesses within the same building in order to “accelerate the successful development of new ventures by lowering start-up costs” (IEDC, 2011, 85). Business incubators may be designed to accommodate various industries, sectors, and niche markets (IEDC, 2011, 86). Most incubators happen in a large facility whereas small businesses’ costs are subsidized in order to approach economies of scale. Incubators in 2006 serviced: neighborhoods 1%, cities 18%, counties 25%, multi-counties 40%, and states/province 10%, multi-states/province 3%, and the national jurisdiction 3% of the time (KNOPP, 2007, 12). The objectives of the business incubator include, but are not limited to: technology-based development (e.g. college and university research), economic diversification (e.g. manufacturing, service firms), and community revitalization (IEDC, 2011, 87-90). According to NBIA (2007), on average, technology companies took about 34 months to graduate from the incubation program, mixed-use firms left in about 32 months, and manufacturing firms left in about 26 months (44).

In general, business incubators are administered by non-profit organizations and are stable entities. NBIA (2007) reported that 73 percent of incubator administrators offer pre-incubation services and/or post incubation services (2). The former publication also found that 23 percent of incubator clients would need to cease operations if their subsidy was reduced or eliminated, and 32 percent of clients reported that they, indeed, did not receive a subsidy whatsoever (2). The former survey, finally, found that “More than four in five respondents (84 percent) considered creating jobs in their local communities a high-priority goal for their incubation programs (20). Regardless, The City should research the tenets of incubators and attempt to recruit soon-to-be graduates that align with The City’s economic development strategy.

When the City Considers Business Incubation

The first step for a City Manager (i.e. local economic development official) regarding incubation should be to complete a feasibility study. A business incubation feasibility study will reveal the incubator’s probable success. The feasibility study must: measure the level of the incubator means against the local economic tax base, determine potential incubator facilities and their capabilities (e.g. broadband internet access, shipping dock access, environmental audit, parking, access for employees, utilities, liability) detail community support networks, and analyze state and federal assistance programs (IEDC, 2011, 91-8). If an incubation facility is feasible, then The City should be prepared to: assist in real estate and service planning, increase community awareness, enable and establish contact relationships, assist in application of federal and state funding, determine the appropriate businesses for the facility, (e.g. manufacturing, service, technology), verify demand for incubation space, determine the minimal rental rates, project conservative cash-flow projections (IEDC, 2011, 91-4).

Funding a business incubator may happen through various manners. In general, about 59% percent of incubators are funded via rent and services, 18% through contracts for services, 15% from ongoing cash subsidies, and 8% of funding arises from other sources (equity stake, royalty agreement, grants, private sector, etc.) (KNOPP, 2011, 33). However, many incubators are sponsored. Today, roughly 31% of sponsorship comes from economic development organizations, 21% from government entities, 20% via academic Institutions, roughly 8% from “Hybrids” (more than one sponsor), approximately 8% from other sources, and only 4% from for-profit industries (KNOPP, 2007, 6).

The City may have a facility that it owns and operates and would like to use for incubation. However, simply renting out a building owned by The City at a subsidy for new small business and/or entrepreneur development may not qualify as incubation. Accordingly, incubators are selective with a focus on high-growth potential businesses and on businesses with highest job-creation/highest-wage potential (IEDC, 2011, 101). Incubation enables wealth creation, focuses on the entrepreneurial spirit, provides value to tenants and stakeholders, operates as a business rather than a nonprofit, and includes only firms investable/scalable to $XMM (Girdwood 2011).

There are many reasons for the success and growth of incubators. As rational choice posits that individuals will do what is in their interest in accordance to the likely choices of others; incubators naturally attract various for-profits and entrepreneurs because others (i.e. The City) is invested in the business incubator and all of the tenets success. Incubators do discriminate with respect to which new businesses will be able to enter the facility at a subsidized cost, and so there is competition within and between entrepreneurs whom seek to gain access to the organized structure. Additionally, incubators usually incorporate many specific businesses under the same roof in order to tailor appropriate economies of scale. For example, many businesses under the roof may utilize the same copy machine, secretary, custodial services, lunch room, accounting, marketing, legal, and/or internet service (IEDC, 2011, 101). Hence, incubators have earned a reputation as a workplace that rapidly enables new businesses to grasp the tools and knowledge necessary for success. In short, “funding sources like to know they can send top prospects to a nurturing environment” (Girdwood 2011). Therefore, we advise The City to adopt business incubation as public policy.

The City, fraught for funds, may be able to engage incubation with little of its own start-up money. Nearly three-quarters of incubator sponsorship happens via EDOs, government, and academic institutions (IEDC, 2011, 87). For example, the U.S. Economic Development Administration (EDA) sponsored the start-up of the City of Sterling Heights, Michigan, incubator. According to EDA’s website (2011):

$450,000 to Oakland University, Rochester, Michigan, to support operation of the Oakland University Incubator in Sterling Heights by funding a defense industry corridor strategy which will help the region recover from the automotive industry adjustment, and assists an industry diversification initiative in partnership with the Michigan Small Business Technology Development Center. The projects will all contribute to enhancing entrepreneurship in a variety of new industries, including defense and homeland security. This investment is part of a $630,572 project that the grantee estimates will create 600 jobs and generate $4 million in private investment.

This is a business incubator, supported by the EDA. The former incubator might not be feasible in your city, due to the lack of land and resources required by the former incubator. However, The City should actively seek incubator opportunities that are in line with The City’s economic development plan.

Similar to the economic gardening ROI calculation, business incubators can use the same methodology to benchmark success/failure and estimate community impact. The researcher or practitioner will achieve this by dividing the gain (i.e., incubation impact measurement minus the initial investment in the incubation program) by the cost of the incubation program. The result will yield the ROI as a percentage.

The City may decide to initiate the process to develop an incubator, but may not have the political, social, or financial start-up capital. In this case, The City could, first, attempt to raise an incubator fund through structured revenue, either internally or externally. Examples include Peoria $3MM (Arch Development) and Cedar Rapids $3MM (First Iowa). Second, The City could connect with an existing fund. For example, the City Manager should maintain a working relationship with incubator graduates, because these graduates will eventually need commercial or industrial space within or nearby The City. If The City has prepared sites and assistance for the incubator graduates, then the transition for the new business might be quickly established. Third, The City could try to build a relationship with incubator resource specialists, such as National Association of Seed and Venture Funds (http://www.nasvf.org). Finally, two resources for The City to develop once it approaches incubator start-up are: National Business Incubator Association (www.nbia.org) and Kauffman Center for Entrepreneurial Leadership (www.entreworld.org).

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One thought on “What is “Business Incubation”

  1. Pingback: Solutions for Declining Municipal Revenue « Political Pipeline

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