What hinders innovation?

Nothing is more frustrating to an entrepreneur than not being able to connect to the resources their business needs. That resource might be money but it often goes far beyond the need for capital.  Entrepreneurs are often frustrated by the challenge of finding the talent, mentors, partners and early adopters they need to grow their businesses.

Ironically, talent, mentors, inventors, investors, partners and early adopters exist everywhere. The real problem is access to these resources.

If you are starting a new enterprise software company and Bill Gates is your uncle, then you’ll have an easy time getting connected to partners, mentors, investors, etc. But if you aren’t lucky enough to have Bill Gates as an uncle, then you will have a much harder time reaching the same people even if you had the same product. You could get there eventually, perhaps by making use of your alumni networks, LinkedIn, etc. but it would be a hard slog.

This is an example of what economists call a ‘transaction cost.’ Transaction costs happen when something slows down or adds expense to a mutually beneficial transaction between two parties. For example, if you want to buy a house, you have to go through an enormous amount of paperwork and often deal with multiple agents and brokerages to get a deal done. But ultimately those intermediary steps are really slowing down the fundamental trade of house for money.

Entrepreneurs face transaction costs everyday. For example, it used to be that term sheets and financing negotiations were highly customized and non-transparent to outsiders. Entrepreneurs would have to spend a lot of time on negotiations and money on lawyers in order to make sure they weren’t getting screwed. Thankfully this is now changing as more and more terms are becoming fairly standardized.

But some of the most frustrating transaction costs are social: not being able to connect to the people you need. Different regions actually exhibit different levels and structures of social transactions costs. In San Diego, it’s socially acceptable for a college student to approach a high level executive if they have a relevant question or idea. Many high-level people in the private, public and academic sectors will take meetings with young people far below their ‘rank’ if they’re interested and see some initiative. Leaders also often devote a significant portion of their time to mentoring or otherwise giving back to the community in-kind.

This process helps people develop networks that accelerate exponentially. Vivek Wadhwa wrote a vivid description of the innovation ecosystem in Silicon Valley on his column in the Washington Post:

Some are formal events with hundreds of attendees, and others are casual gatherings in public places. The coffee shops buzz with activity, and ideas are exchanged openly. Tech workers frequently job-hop between competitors. The Valley is essentially a series of concentric networks that constitute one giant social network.

The magic of Silicon Valley happens because the Valley supports entrepreneurial experimentation and collective learning. This is what enabled Silicon Valley to race ahead of its long-time competitors, such as Boston’s Route 128, and what no region in the world has been able to replicate.

via Cultural networks power innovation – The Washington Post.

Regions that provide easy access between and across these social categories end up brimming with successful startups. Regions that don’t make such access easy create additional challenges for aspiring entrepreneurs who have to pay high transaction costs in addition to facing all the other challenges of building a successful business.


Cross-posted on Eliot’s blog the founders’ sandbox

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