Look who’s gaining

For the past few years, traditional industry leaders have been trashed by little start-ups headed by lightning-quick wunderkinds. Corporations saddled down with bureaucracy can’t keep pace with today’s market, and the freewheeling New Economy players snickered as their market valuations soared.

But as those corporate giants waited for the go-ahead from their boards before stepping into the new age of business, the market became dramatically more profit-focused, and many of those whiz kids were handed their pink slips. Now, as the e-business upstarts burn themselves out, the dinosaurs of industry are making their moves. And from watching the mistakes of their younger counterparts, they learned that what they already knew still applies: slow and steady wins the race.

“We went through a learning experience last year, as did everyone,” said Snehal Desai, director of e-business at Midland, Mich.-based The Dow Chemical Co. “People are back to thinking about these as longer-term hard work and not just fast return.”

Call it the second coming of the Internet explosion. Or better yet, the revenge of the big boys.

Despite the declining market for technology start-ups, large corporations such as Dow, J.P. Morgan Chase & Co. and Merrill Lynch & Co. are jumping into the e-commerce fray by incubating companies from within. For many of them, it’s a way to spark innovation from inside their walls, as well as gain a new means of income.

But e-commerce initiatives also bring with them new challenges for Old Economy players, such as fairly compensating and motivating employees of spin-off companies and keeping pace in the Internet economy.

“I think the corporations have now become engaged,” Desai said. “I’m kind of bullish going forward.”

Inventing Ideas

Eileen Marckioni, fund manager at New York-based Merrill Lynch’s Internal Venture Capital Fund, which was created in December to fund e-commerce start-ups based on ideas from employees, is just as enthusiastic. Merrill Lynch, she points out, has a US$2 billion annual IT budget, US$1.5 trillion in client assets and millions of households for market research.

“We have a lot of muscle we can put behind new companies,” Marckioni said. “And a huge advantage is you already have this first large corporate client that can give the new company a huge jump.”

For the most part, corporations don’t seem to be focusing much on the burn-out rate among technology start-ups, because their own ventures aren’t primarily profit-focused.

For instance, Dow created its start-up, iVenturi, to fill a need within the company. The firm couldn’t find a suitable hosting system to manage the workflow of its new business development projects, so it teamed with Campsix in San Francisco and Andersen Consulting (since renamed Accenture) in Chicago to create a company, with Dow as its first customer.

“We weren’t in it for the quick IPO,” Desai said. “We were in it for building sustainable businesses. And there’s still a market for good business.”

The “minor meltdown” in the Nasdaq stock market “has put some pressure to get some funding from the outside” for new e-business ventures, he said. Dow also recognizes that there are no guarantees that iVenturi will succeed. So far, Desai said, it’s on target with all of its productivity goals, having shipped its first product last month and compiled an impressive list of beta customers. But, he said, “start-ups are struggling everywhere, and this one is no exception.”

Desai declined to disclose iVenturi’s profitability targets, but he did say that Dow is taking a macro view. Rather than just focusing on financial statements, Dow plans to look within its business units to determine how much money is being saved by using iVenturi.

In a worst-case scenario, Dow could always spin iVenturi back into the corporation, Desai said. But that’s not even in the cards at this point, he added, “because we’re not an IT company at the end of the day.”

Gold Rush or Fool’s Gold?

Dinah Adkins, president of the National Business Incubation Association in Athens, Ohio, said the time is ripe for that kind of balanced view.

“It was very unrealistic,” she said of the early “gold rush” days of the Internet. “Now it’s unrealistic the other way. The truth lies somewhere in between.”

Still, there’s no guarantee that corporate ventures won’t follow the lead of their failed independent peers.

“You can see more failures than successes,” said Josh Lerner, professor of business administration at Harvard Business School in Cambridge, Mass. For instance, Lerner put together a case study four years ago on what was then considered one of the most successful corporate incubators, Xerox Technology Ventures, the venture capital arm of Stamford, Conn.-based Xerox Corp. It had a 70 per cent rate of return over an eight-year period, he said.

But just after Lerner finished the case study, Xerox abolished the program because it found itself competing with the very companies it had created. When Xerox first spun out those ventures, they focused on areas that the parent company didn’t consider strategic to its core business. But once commercial use of the Internet took off, Xerox moved into those areas and wound up going head-to-head with its start-ups, Lerner explains.

“It’s almost inherent that there [are] going to be conflicts between the corporation and the spin-off,” he said.

To succeed, Adkins said, corporations need to hire people who understand how to start and manage new companies. And they can’t create unrealistic burdens in terms of bureaucracy, she adds.

If you don’t learn to embrace new ideas, Adkins said, “you’re dead meat.”

Merrill Lynch’s Innovation Council, a group of senior executives charged with keeping fresh ideas flowing within the investment bank, heeded that warning when it came up with the idea of the Internal Venture Capital Fund.

For proprietary reasons, Marckioni declined to identify the nature of the e-businesses that are being considered. But she did say that the group seeks ideas that are strategic to the company and fall within one of the following four categories: knowledge management, mobile technologies, on-line finance infrastructure and communications.

After just a few months, roughly 100 formal proposals have been submitted from employees around the world and have been winnowed down to a top-five list. Merrill Lynch plans to fund three or four companies in the next six to nine months.

Such activity still shocks Dow’s Desai after more than a year. “It’s just an amazing thing,” he said. “Our group, the new e-business group at Dow, just came into existence in December ’99. And it’s been a ride.

“We’re trying to inject this start-up mentality into the corporation,” he said. “And people are more receptive to that idea today than they were three to five years ago.”

The idea seems to be catching on. Last spring, New York-based J.P. Morgan earmarked US$1 billion for LabMorgan, a separate e-business unit designed to support ideas for on-line finance start-ups conceived by entrepreneurs inside and outside the firm. And late last year, Pittsburgh-based Mellon Bank Corp. created MellonLab, centred around the same principle.

“It’s a group of individuals who take embryonic ideas and incubate them,” said Mellon CIO Allan P. Woods. Those people place very strict benchmarks on an idea, and “[it] either passes these various benchmarks…or it’s taken out to the back of the barn and it’s shot.”

Risks and Rewards

Bank of America Corp. is in the midst of launching a start-up focusing on business-to-employee services. But the core e-commerce strategy of the Charlotte, N.C., firm is to partner with New Economy players that can offer value to the company’s products and services, said Linda Mueller, a spokeswoman for the bank.

That’s a wise strategy, said Benjamin Gomes-Casseres, director of the MBA program at the Graduate School of International Economics and Finance at Waltham, Mass.-based Brandeis University and author of The Alliance Revolution: The New Shape of Business Rivalry (Harvard University Press, 1997). Old Economy players still face enormous pressure to transform themselves, and New Economy companies have learned over the past year that they may not be able to survive without the resources and stability of the Old Economy stalwarts.

Incubating ideas from within is also a good way for corporations “to create an environment of experimentation,” said Gomes-Casseres. But, he cautions, it isn’t a profit-making strategy. “Don’t do it for the money.”

E-business career opportunities are options that many corporations can now add to their retention strategies.

At Merrill Lynch, employees can receive a reward of $20,000 or more for ideas that get funded, and they’re given a 26-week paid leave to help grow the new company. At the end of that period, they have the option of staying with Merrill Lynch or joining the start-up.

“So we’ve really reduced the risk,” Marckioni said.

But, Desai said, if employees choose to go, the risks are still there. No promises are made that they’ll have jobs if the ventures fail.

“We’re not sure that that puts the appropriate fire in the belly if they can always go back to their day job,” Desai said.