Sep
26

How Far Should You Develop an Idea Before Selling It AND Better Capitalism just released by Kauffman

From the Kauffman Foundation blog: Growthology

The question of when to sell or even to share an innovative idea with another party becomes an important issue for most entrepreneurs during the commercialization process. When forming research alliances, pursuing venture capital financing, or selling an idea outright, timing is a key factor. Selling early allows entrepreneurs to realize financial benefits early in the process and limits their own capital investments. Waiting, however, allows the entrepreneur to develop the idea more fully, reducing the risk of appropriation and potentially resulting in higher profits.

In a PhD thesis funded by the Kauffman Foundation (an executive summary of the dissertation is available here; a working paper version is available here), Hong Luo uses data from the film industry to compare the costs and benefits of selling an innovative idea early in its development versus waiting until the idea has more specifics and depth. Her 2010 thesis, “Markets for Ideas: Theory and Evidence from the Movie Industry,” considers when Hollywood screenwriters choose to “pitch” a storyline for an original movie idea to movie studios and production companies or to “spec” a completed script. A pitch simply involves the presentation of an idea, including themes, basic plots, and characters. If the pitch is sold, the writer is then paid to write a complete script. In contrast, a spec requires the writer to develop the idea fully and write a complete script, with no guarantee of compensation.

Pitching, then, involves considerably less effort than specing and limits the amount of time the writer spends on an idea that may not ever be purchased. Pitching may also, however, open the writer to more risk that the idea will be appropriated, as legal protections are stronger for more fully developed ideas, and may result in a lower overall return.

Using sales data on the number of successful specs vs. pitches, as well as information about writers’ previous successes and the returns to their sales, Luo analyzes 1,638 original movie ideas sold between 1998 and 2003. Luo finds that less experienced writers find it difficult to sell pitches because studios are less interested in meeting with them. These writers are most likely to spec. Writers with the most experience have less difficulty arranging meetings with buyers. Luo finds that these writers will pitch certain ideas, but will spec for ideas they believe have a higher value in order to protect their intellectual property. The most successful writers spec more often. Finally, writers with a moderate amount of experience are more likely to pitch, as they are able to access buyers, but are less confident that the idea will sell. The table below illustrates these conclusions:

Writers’ experience in the previous five years Predicted likelihood of a spec sale
No major writing credits 0.59
Writers with one credit 0.37
Writers with two credits 0.42
Writers with three credits 0.63
Writers with four or more credits 0.74

Luo also finds that for more experienced writers, a spec typically performs better than a pitch, if the movie is released. Other things being equal, a spec, on average, performs at least 60 percent better than a pitch at the U.S. box office, and takes at least 13 months less time to get to the theater.

While this research is, of course, specific to the movie industry, I suspect that many of the conclusions are widely applicable.  Entrepreneurs from any industry must consider the following when they contemplate the sale of an innovative idea:

  • Access to a desirable audience. Entrepreneurs generally gain greater access to the buyers of their ideas as they become more successful and develop stronger and deeper networks. Entrepreneurs with limited access will likely need to develop an idea more fully before selling it.
  • Confidence in the idea. Entrepreneurs who are confident in an idea’s future success should develop the idea further before selling. Experienced entrepreneurs may have more confidence in their judgment and discretion, but newer entrepreneurs, too, may choose to develop a great idea more fully.
  • Costs of fully developing the idea. This consideration may be very important in industries where the costs of idea development or the opportunity costs of working on an idea are even higher than the costs of writing a script. Entrepreneurs facing higher costs may choose to sell earlier.
  • Appropriation risks. A court is more likely to recognize that an idea has been stolen when the idea is specific and fully developed. Entrepreneurs need to be aware of risks they face when they share their ideas.

While these considerations may balance out differently for different entrepreneurs and for different industries, the trends largely hold true for all entrepreneurs. Inexperienced entrepreneurs will likely need to develop their ideas more completely in order to attract buyers. Experienced entrepreneurs may share a few ideas early, but successful, serial entrepreneurs will often benefit by developing their best ideas more completely in order to maximize their profits. As entrepreneurs accrue experience, they can leverage their knowledge, networks, and expertise to develop their ideas more completely before selling them.

 

Entrepreneurial optimism and policy reforms can lift economic doom and gloom, according to Kauffman-funded book released today

(KANSAS CITY, Mo.) Sept. 25, 2012 – Where some people see problems, entrepreneurs see opportunities. The optimistic natures of people who start innovative companies – backed by a few policy reforms – are the keys to building a stronger U.S. economy.

That’s the premise of Better Capitalism, a new book being illustrated in the latest Kauffman Foundation sketchbook video below.

 

About the Kauffman Foundation

The Kauffman Foundation is often referred to as one of the largest foundations in the United States—or as the world’s largest foundation devoted to entrepreneurship.

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