Spinout Ventures

A corporate spinoff is when a division or a business unit of an incumbent corporation is separated from the company and becomes its own separate legal entity. This is a conscious decision made entirely by the managers of the incumbent and approved by its board. Similarly, a corporate splitoff is when an organization creates new divisions under a new umbrella company. This book is not about these distinct corporate activities. Spinouts are established by former employees of an incumbent firm, operating autonomously and independently from the parent organization.

Intrapreneurship is an example of corporate entrepreneurship, which is the process of developing new businesses, products, or services within an existing organization. An intrapreneur starts a business inside of an incumbent organization. Internal corporate ventures are startups that intrapreneurs create within their parent organization. They are owned by the parent and the intrapreneurs that lead them are typically rewarded as employees, not as owners. By contrast, a spinout founder is an ex-employee who founded or cofounded a business outside of an existing organization. While the seeds of many spinouts may come from internal corporate ventures, they are distinct types of entrepreneurship with different risks and rewards.

Spinouts can occur either in the same industry or in a different industry. Intra-industry spinout founders start a new business in the same industry as their parents. By contrast, an inter-industry spinout happens when employees leave to start a company in an industry distinct from their parent organization. A related type of inter-industry spinout is the vertical spinout, which happens when the alums start a new venture in the upstream (supplier-side) or downstream (customer-side) industry of their parent business. For more information on vertical spinouts please read Chapter 1.

Some of the dominant motivations of spinout founders includes:

Economic Rationales: For some people, it is a basic cost-benefit analysis. If you are keen

to look through a financial lens as to whether to undertake a spinout, the primary focus is on monetary considerations—specifically, the potential net return, including opportunity costs (what you could have done instead). Pursuing a spinout may be attractive if the expected net returns are greater than doing the innovation internally or not doing it at all.

Ownership Benefits: Yearning to be a company owner is a strong emotion in many people and maybe deep-rooted in employees who feel stuck working for someone else instead of working for themselves. Leaving employment to do a startup promises increased independence and autonomy.

Benefits for Health and Well-Being: Recent studies indicate that transitioning from employment to entrepreneurship can enhance an individual’s health and well-being by providing flexibility in work schedules, thereby reducing stress. Additionally, entrepreneurship offers opportunities for neurodiverse individuals who may face challenges in traditional work environments, allowing them to tailor their work conditions to better suit their needs.

To learn more about the characteristics and motivations of spinout founders read Chapter 2.

While various triggers are associated with spinouts, some are more common than others. We cover lack of fit, strategic disagreements, managerial frictions, and ethical dilemmas. We consider the structural issues in larger organizations that can motivate employees to spin out.

We elaborate on liquidity events, mergers and acquisitions, and initial public offerings that can lead to spinouts. Finally, we discuss downsizing events where organizations abruptly lay off hundreds or thousands of employees. To learn more read Chapter 3.

Some of the benefits of spinouts for parent firms that we discussed in the book include:

Corporate Coherence: Most companies have finite resources and cannot take on all the innovations they create. But if they did, the result would be significant incoherence. When spinout founders pursue opportunities unrelated to the parent firm’s core competitive advantage, they contribute to maintaining corporate coherence for the parent company.

Knowledge Spillbacks: Over time, a spinout’s usable knowledge can flow back to the parent. The maintenance of social ties between former colleagues allows for a flow of knowledge back and forth. Knowledge spillbacks from spinouts may produce a virtuous cycle whereby both the parent and the spinouts benefit from each other’s innovations.

Spinouts Make Attractive Acquisition Targets:  Research suggests that acquisitions of spinouts by their own parent firms are more likely and more successful because the odds are better for a good fit. The parent company often possesses better insight into the spinout’s potential due to ongoing social connections, leading to reduced information asymmetry. Additionally, the inherited routines of the spinout facilitate smoother integration and coordination during the acquisition process.

Reputation for Incubation: A company’s reputation for incubation allows it to attract capable employees who are keen to work for a company that spawns high-quality new ventures. Research shows that spinouts boost parents’ technological performance through a positive reputation as incubators, which helps them attract and retain stakeholders.

To learn more about the benefits of spinouts for parent organizations read Chapter 6.

Opportunity Costs: One might have a secure, comfortable job with a regular salary and benefits. Leaving to do a spinout is a much less certain pathway.

Work–Life Balance: Entrepreneurial stress and lack of work–life balance are potential issues that employees need to deal with when they become entrepreneurs.

Restrictive Covenants: Three main types of restrictive covenants which especially relevant for employee entrepreneurs are noncompetes, nonsolicitations, and nondisclosures. Restrictive covenants are placed in employment contracts which may pose some limitations on what an employee can do after their employment.

Parent Organization Hostility: Even parent firms that are benevolent toward most spinouts may turn sour under certain conditions and react resentfully. This is more likely if the spinout team had access to proprietary information, transferred it, or used it in the spinout. Another instigator is poaching employees and customers away from the parent firm. Parent retaliation is one of the most important factors limiting employee entrepreneurship. 

To learn more about the spinout challenges and fallout read Chapters 7 and 8.