Assuaging Investor Anxieties

We assuage the anxieties of the funding agent+. We avoid meddling when work takes longer or costs more ‘than expected.’ Parachuting in midstream is rarely helpful. We don’t ‘manage expectations’ using sleight-of-hand or padding+. These tricks lead to escalating mutual mistrust.

Instead we show the funding agent that members of the commercialization+ team (e.g., franchisee+, vendors, internal firm players) are self-disciplined by having their own skin-in-the-game. We arrange it so the entire team, down to the individual, cares about the success of commercialization. This also includes acknowledgment of the need to not hold on too long to an untenable pursuit. We align the financial risks of the team with those of the funding agent. We manage emotional attachments to minimize their distortion of financial decision making. Any disagreements about future courses of action will find both parties standing on the same side of the money tree: arguments instead focus on different means toward the same goal.

Pay-for-performance+ is the principal (autonomous) mechanism we use to align financial interests. Everyone depends on bolus payouts at the end of successful commercialization. Incremental funding of commercialization is the (interventional) mechanism: the funding agent knows that the commercialization team cares about that next tranche of funding, which in turn depends on keeping product valuation attractive. As a funding agent I don’t need to jump in midstream, since you already know when to expect to me next. These mechanisms keep the funding agent’s hands on the reins of the finances, without overly restricting how the work gets prosecuted.

We put the unit that developed the prototype+ in charge of commercialization (franchisee-in-charge+). They receive a tranche of money covering a fixed (longer term) time-frame. There are few strings attached. In return, they tell you what they will accomplish with the money. We have many units with many prototypes, so what they tell us seems reasonable. We put Independent Evaluation+ in place just to be sure the money is spent well. Commercial Operations+, being internal to the firm, watches out for the firm's interest. Then we hit an obstacle.

The research unit can come to us out-of-cycle for more money. But it’s a risky move. I’m going to meddle. As a funding agent, I’m going to be very hesitant to fully fund a pursuit that shows a string of sub blockbuster+ product valuations+. Instead, management of research units should be thinking of other ways to get around obstacles, for example, accelerating spending, self-funding, or pushing harder on vendor-partners. Better you come to me out-of-cycle with a string of favorable product valuations under your belt. Don’t come to me with problems in execution; I’m more open-minded about adjustments in funding for a favorable pursuit, especially one that shows some skin in the game (e.g., self-funding).

We do not execute to a budget. Get the bean counters out of the room: +/-$100 million in the cost of commercialization is trivial in comparison to the value of a blockbuster product. Commercialization of innovative prototypes is a creative pursuit, and can take longer or shorter, cost more or less. We are only concerned that the money be well-spent, and spent on a prototype with blockbuster potential. Recall, if commercialization takes too long (i.e., way too long, measured in ½ year increments) then product valuation starts to plummet due to remaining-patent-life limitations. We have a broad-brush outline of how much and how long it should take. But we don’t use these as an excuse to meddle.

Despite these mechanisms, we know investors don’t always act in their own interest. Called investment behaviors+, individuals often let their emotions (fears) take control of their decisions, for example in cases of sunk costs, churn+ and regrets+. There are more, but these are enough for an illustration. We use mechanisms that deliberately forestall acts of irrationality before they surface.

  • Churn (selling long term investments due to short term fluctuations) – We lengthen the commercialization period funded by the firm. The team is given enough time to ‘correct’ any temporary setbacks before the next funding tranche is due.
  • Regrets I (selling and then regretting the sale should the investment later do well) – We don’t sell under-performing investments, we merely reduce our ownership stake, and encourage someone else to continue commercialization.
  • Regrets II (not selling for fear of Regrets I) – The firm is never held hostage+ to any one or few investments. There is always a surfeit of good investment opportunities. We sell simply because we have better things to do with the money.
  • Sunk Costs (not selling in an attempt to recoup past costs) – The firm has investments across all commercialization pursuits structured in a way where the timing of losses from one investment can be synchronized with the realization of gains on another. We avoid ‘naked’ losses that would otherwise attract the attention of investors, by merely slowing down shutdown of an investment until we find gains elsewhere to cover the realized losses from a complete shutdown.

Caution. This is not portfolio or risk management as is commonly understood in industry. We do not allow portfolio positioning to dictate decisions on individual investments, except in the very narrow legal sense as illustrated above with Sunk Costs. We have product valuations across all the commercialization pursuits, and someone in the firm's financial forecasting department will be sorely tempted to add them all up. Our antenna (and that of our vendor-allies) is on high alert for hijinks from these individuals: we have our R&D protections in place.

Missing from our discussions is the relationship between ‘anxiety’ and how funding agents are judged and rewarded. This will be the topic of a future home page series of articles.