Why Silicon Valley Leads, But It's Vulnerable

When it comes to start-up activity, Silicon Valley leads the world. But unless it can fix some deep-seated flaws, it's vulnerable to disruption.

The latest report to proclaim Silicon Valley's pre-eminence is from Startup Genome that places Silicon Valley at the top of the world with Tel Aviv, Los Angeles, Seattle, New York City, and Boston trailing in that order.

This is an interesting report that relies on 50,000 start-ups self-reporting on a variety of different attributes such as how many people they employ, their capital levels, and many other measures.

But as the Boston Globe reports, its methodology leaves out important details -- for instance Startup Genome did not sample computer hardware companies in Boston while consumer Internet and software companies are well-represented. Since computer hardware is an area that's big in Boston, Startup Genome's ranking can be taken with a grain of salt.

By another measure, capital invested, Silicon Valley is the leader with Boston in second place. That's according to the latest PriceWaterhouseCoopers MoneyTree survey that showed in the first nine months of 2012, 809 Silicon Valley-based start-ups received $8.2 billion in capital while Boston came in a distant second -- 326 of its start-ups got $2.4 billion.

One reason Silicon Valley leads is that it's operating in the world's best country for attracting global capital flows. That's according to Capital Rising, a book I co-authored with Srini Rangan. We found that the U.S. has the world's best Entrepreneurial Ecosystem (EE) -- consisting of four elements: corporate governance, financial markets, human capital, and intellectual property regime.

But when it comes to why Silicon Valley leads America, a new framework -- the Start-up Common -- is more useful.

The idea of the Common originated near an English village in a field where everyone brought their animals to graze.

If the community did not over-consume the grass and kept it fertilized and fresh, then it was a useful resource for generations. If a few farmers let their animals eat too much, the whole thing died and the community fell apart. That unpleasant outcome was dubbed the Tragedy of the Commons.

In Silicon Valley, there is a start-up common. Instead of grass, it consists of various ingredients – capital and skills like product development, managing teams, sales and marketing — needed for start-ups to get off the ground and grow.

First-time entrepreneurs network to tap those ingredients and if they are successful, then they give back to the common to benefit the next generation of start-ups. Even the many failed start-ups can be a source of products and talent that more successful ones acquire.

The Silicon Valley Start-up Common (SVSC) consists of six elements that get strengthened in each generation of start-up successes and failures. To understand why Silicon Valley leads, let's examine each element in more detail:

• Pillar companies. In Silicon Valley, pillar companies like Apple (AAPL), Google (GOOG), Facebook (FB), Oracle (ORCL), and Cisco Systems (CSCO) are often good reference customers for top start-ups, a source of capital, and talented executives, engineers, and sales people. 
• Universities. Among the world's best sources of intellectual property and talent, Silicon Valley hosts Stanford, U. Cal. Berkeley, and Santa Clara University. To these I'd add accelerators like Y Combinator -- a sort of post-graduate start-up know-how school.
• Human capital. Coming from the pillar companies, universities, and talent from around the world, Silicon Valley has an ample, if expensive, pool of start-up CEOs and other C-level executives, functional vice president types, and engineers, sales people, and marketers.
• Investment capital. As I pointed out in my new book, Hungry Start-up Strategy, start-ups need different kinds of capital at different stages -- bootstrapping, founder financing, or friends and family money to get a business model, Angel capital to win customers in a specific market segment, and venture capital to expand globally and broaden the product line. Silicon Valley has deep pools of all these kinds of capital.
• Mentoring. A less-well appreciated element of the SVSC is how experienced investors and executives mentor companies and talented professionals. At the corporate level, such mentoring includes help with strategic vision, acquisitions, raising capital, performance monitoring, organization design, culture, hiring and firing, product development, and getting customers and partners.
• Values. Finally, the SVSC has a unique set of values that guide the way people behave -- it puts a premium on ideas that will disrupt the way the world works and on giving back without expectation of short-term gain. Such values are critical --  one entrepreneur who relocated to Palo Alto told me that in London -- where he came from -- it is very difficult to meet with people who have capital or valuable advice and those masters of the universe only help if they see an immediate short-term benefit for themselves. This helped prompt him to leave London.

As Vast CEO, John Price, explained to me in a November 16 interview, Silicon Valley is vulnerable. As Price found when he left Silicon Valley as an early employee at Trilogy in Austin, Texas, the war for talent in Silicon Valley is making it very difficult for start-ups to succeed.

And now, he says, Silicon Valley investors and entrepreneurs are relocating to Austin because unlike California, Texas has no state income tax. And Austin has "the cool factor" coupled with a big talent pool that Trilogy created through its Trilogy University that now has populated the top echelon of Austin tech firms like HomeAway (AWAY) and BazaarVoice (BV).

I would not bet that Austin is going to overtake Silicon Valley in the near term, but one thing that entrepreneurship teaches is that those who rest on their laurels are vulnerable to disruption.

And to keep that from happening every region must constantly reinvent its start-up common.