$60.5M (Tesla) v.s. $6.7B (GM)

It famously took Tesla Motors only $60.5M in 3 rounds of funding to arrive at the prototype of Roadster in 2006. On the other hand, GM spent $6.7B in R&D in 2005 alone, mostly on incremental innovation rather than anything as disruptive as Tesla.

For naïve finance practitioners, it seems that GM could have founded a company like Tesla with 1/110 of its 2005 R&D expenses and got the Roadster and everything that came with Elon and his great venture afterward. For us VCs, that impossible rationing is exactly why startups always have an advantage disrupting the big corporates.

Because in disruptive innovation, capital is not the driver. Human beings behind the capital are.

Entrepreneurs and startup employees, armed with entrepreneurial personalities, driven by passion and incentivized by potential upside, would be able to raise smart capital from similarly entrepreneurial VCs and use that capital very effectively.

How effective?

Think about Tesla's three rounds to get to Roadster:

Why not raise $60.5M right from GM at the beginning and focus on developing Roadster without worrying about fundraising?

Staged financing, which is the nature of VC industry, whips the startup into hitting KPIs in different stages so as to be able to raise new money at higher valuation – huge incentives. Living in the fear of running out of cash as a startup also puts the entire team on a relentless driving mode.

Also there's the real option theory.

The first $7.5M led Tesla to arrive at a milestone that proved the concept of building an electric car with a combination of off-the-shelf components might be possible. If this milestone had not been achieved, no new money would come in, the company would shut down but the only money lost would have been only $7.5M.

Consider the alternative of budgeting $60.5M right from the beginning. The team, even if operating exactly as Tesla, would be burning way past $7.5M even if the milestone hasn't been reached. Chances are, since it's corporate budget, the team would just burn through the full $60.5M before admitting that it's impossible to build an electric car with $60.5M.

That's the storyline behind all the major corporate product failures.

So with real options, the staged financing turns the "Tesla Project" into a positive NPV project, in financial jargon.

This is why startups always have an advantage against big corporates.

Why full-deck AI startups make more sense

What CVCs should and should NOT do