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Well anchored: Tips for working with anchor tenants

by Corinne Colbert

April 2006

At first, the idea of having a business in residence at your incubator permanently – or at least long term – may seem contrary to your mission. After all, isn’t it the incubator’s goal to get successful companies out the door and new ones in?

But having an experienced, up-and-running firm in the incubator can pay off in many ways. These anchor tenants can shore up the revenue stream, support and mentor incubator clients, and provide inspiration. The arrangement isn’t without its pitfalls, but with care and communication, the anchor-incubator relationship can be a boon to both.

Most obviously, anchor tenants can provide an incubator with steady, long-term income. “Our clients are the reason for our existence,” says Mark Bradley, CEO of ATP Innovations in Sydney, Australia. “[Anchor tenants] provide the stable cash flow to allow us to service our clients and run our business in a sustainable manner.”

That kind of income can be especially helpful to a new incubator. When the Technology Innovation Center opened in Wauwatosa, Wis., in 1993, it was anchored by IGC Medical Advances, a company founded by longtime employees of GE Medical. The company remained in the incubator for 11 years. “Medical Advances helped get this incubator off the ground and establish financial stability,” says Guy Mascari, incubator director.

But anchor tenants can be much more than a cash cow. As experienced companies with business needs and resources, anchor tenants can directly or indirectly help start-ups and the incubator’s overall economic development mission. Here are some tips on how you can make that happen at your incubator.

1. Choose wisely

When selecting incubator clients, you don’t accept just any start-up that walks in off the street; you make sure their business concept is sound and their product or service is viable. The same goes for an anchor tenant – perhaps even more so, because of the stakes involved. After all, you’re counting on this company to provide stable cash flow to the incubator while inspiring and boosting your clients.

“Choose high-quality tenants that can become part of the community and contribute to the life of the place,” Bradley says.

ATPI has one big anchor – the University of Sydney’s Optical Fibre Technology Centre, which occupies more than 16,000 square feet – and eight smaller commercial anchors, none of which Bradley had to recruit. Instead, the companies came to ATPI after hearing about the program, which supports and develops businesses in biotech, electronics and ICT.

“We have a good reputation and are pretty well known all over Australia for what we do,” Bradley says. “People approach us all the time.”

He’d rather get his anchors (and clients) by word of mouth than by advertising or other costly avenues. “We’ve tried advertising, but it brings almost zero results,” he says. “The real way to do it is by letting it be known that you have space and then use word of mouth.”

You can use your good reputation as bait, but to maintain that reputation, you have to know which takers are right for your program. Start by having a face-to-face conversation, Bradley says. “We try to take the measure of the people involved,” he says. “We ask them some fairly searching questions about their business model and activities.”

Part of that process involves making your expectations known. Because ATPI is sponsored by four Australian universities, the incubator has a strong commitment to technology commercialization; as a result, it expects its anchor tenants to support that mission. “They have to be commercializing something, primarily Australian technologies,” he says.

They also have to pledge to get involved with ATPI’s clients and programs – it’s in their lease. Every anchor tenant lease includes an addendum that requires the tenant to participate in ATPI events and to establish links with other tenants and clients. As a result, representatives of anchor tenants have been very active in bizNetClub, ATPI’s professional development and networking program. “That’s been an important [way] to bring anchors and clients together,” Bradley says.

2. Set the ground rules

Naturally, you will have a formal lease agreement with your anchor. (See “Negotiating Leases with Anchor Tenants.”) Before you draw up an agreement, think carefully about how this relationship should work.

For example, how much space should your anchor tenant be allowed to occupy? It’s an important question to consider. If the anchor tenant takes up too much space, your incubator may seem like a commercial real estate operation rather than an organization committed to supporting start-up companies. Occupancy balanced too heavily toward anchor tenants could even jeopardize a program’s tax-exempt status if the Internal Revenue Service audits its operation and deems that leasing space to established companies is a “primary business.” (While the IRS provides no strict guidelines as to when an incubator has crossed this line, incubators may want to consult with a tax professional to set appropriate limits.)

On the practical side, establishing clear limits on an anchor’s ability to expand can prevent problems like the ones faced by Linda Clark, director of the Ohio University Innovation Center in Athens, Ohio. When the incubator moved into a new facility in 2003, Clark was concerned about filling the space. She asked the CEO of Diagnostic Hybrids Inc., a 1998 Innovation Center graduate, for some leads. Instead, DHI moved into the Innovation Center as its anchor tenant.

The company consolidated its administrative and laboratory facilities in the incubator and constructed wet labs to engage in research and development. But as the company grew into the world’s largest provider of cell cultures for medical diagnosis, it threatened to swallow the Innovation Center whole. By 2005 it occupied two-thirds of the incubator’s 36,000 square feet and Clark – who had a full incubator practically from the day it opened, despite her fears – was turning away clients. She had to tell DHI they couldn’t expand further within the center.

“It’s been a tension,” she says. “I can’t give them more space because I need that space to maintain a viable incubation program.”

When a local printing plant went out of business last year, DHI snapped up the building and began a year-long, three-phase move that will end in January 2007. The gradual move-out will give Clark time to find clients to fill the void. “I can envision several small companies in the DHI space,” she says, noting that Ohio University’s strong biotechnology research programs should be a good source of start-ups that need wet lab space.

Although DHI has been good for the incubator in many ways, Clark says she won’t be looking for a replacement anchor anytime soon. “It will depend on whether or not we have space sitting empty over a long period of time, which has never been our experience so far,” she says.

And if she does take on a new anchor tenant, Clark says she’ll tell them up front exactly how much space they can have.

3. It doesn’t all have to be about money

While an anchor tenant can be a financial boon, the payoff doesn’t necessarily have to be in cash. Before the Dan River Business Development Center in Danville, Va., opened, its organizers began talking with Longwood University about opening a Small Business Development Center in the incubator. The SBDC gets free rent in exchange for its services to incubator clients. “In some cases, their services offer things that we would not be able to provide otherwise” such as help with SBA loan packages, says Dan River President Linda Hutson Green.

Free rent also goes to a branch office of the Virginia Department of Minority Business Enterprise, which certifies small and woman- or minority-owned businesses to help them secure government contracts. “It’s a demographic that we felt was important to develop in this area, so it was a natural program to seek out, too,” Green says. Without the MBE office, business owners needing certification would have had to drive to Richmond, she says.

While many incubators have SBDCs and other such agencies as anchor tenants, most charge them rent. But that wouldn’t work in Danville, Green says. “We’re in a very rural part of the state,” she says, in an area that had never had a full-time SBDC. “[Charging them rent] isn’t a luxury we have.”

The cost-benefit analysis, though, works out in the incubator’s favor. The most expensive office rental rate in the incubator is $615 a month. At the most, the incubator provides about $7,500 annually in “free” space – far less than the cost of hiring even part-time staff to provide the services the SBDC and MBE offer, Green says.

“It’s incredibly economical on our behalf and significantly enhances what I’m able to offer our clients,” Green says. “Bartering is a way for us to promote efficiency.”

Bartering can work for commercial companies as well. Green has an arrangement with Buentec, a provider of e-commerce and Web content management services founded by a former 3Com executive. Buentec gets free space; in return, the company gives IT support to the incubator and develops Web sites for clients at no charge.

The owner also meets with prospective clients to determine their IT needs; he’s even volunteered to serve on the advisory board of a new client, Green says. “I get so much from him that I just couldn’t put a dollar value on it,” she says.

The situation works out well for Buentec, too. In addition to free rent, the company has a built-in market of incubator clients who will eventually leave the incubator – but will still need IT services. And Green can tip off Buentec’s CEO to new business possibilities, such as a state contract opportunity she heard about at an association meeting recently. “He’s enriched because he can make contacts that might have been difficult for a small business to make otherwise,” she says.

4. Be prepared for change

While it would be nice for an anchor tenant to stay forever, it’s not realistic. Many times, anchor tenants are growing companies themselves, and it’s not unusual for them to outgrow the available space in the incubator.

IGC Medical Advances moved out of the Technology Innovation Center in 2004. It wasn’t an unexpected loss, Mascari says. “We were encouraging them to build a new building in the research park [that also houses the incubator],” he says. “Plus they were really too large a tenant at 23,000 square feet out of 80,000 square feet.”

What made the move hard for the incubator was that two of its largest clients graduated at the same time. “We went from 94 percent occupancy to about 60 percent occupancy with a corresponding decline in revenues,” Mascari says.

During the many years that TIC operated at full occupancy, Mascari built a reserve fund. Since the loss of IGC Medical Advances and the two large clients, he’s been able to use that reserve fund to make up the budget shortfall while he recruits new clients.

Sometimes, though, you have to spend money to make money, and that’s one strategy TIC has used to cope with so much empty space. While about 40 percent of IGC Medical Advances’ former space was easily convertible to other clients’ use, some 9,000 square feet – which the company had used for assembly – was wide open.

The incubator spent about $600,000 (including $200,000 borrowed at low interest from a local economic development corporation) to set up the large vacant area as wet labs, in part to accommodate a new biotech client, ZyStor Therapeutics. ZyStor occupies about 2,300 feet of the area, leaving plenty of wet labs open for other life science companies. “Without [ZyStor], I wouldn’t have felt comfortable building the wet lab space,” Mascari says. “And because I had an opportunity to meet their needs, I have 4,000 feet of available wet lab space and good prospects for it.”

He’s also looking for new anchor tenants, but not in the same vein as IGC Medical Advances. The managing director of Silicon Pastures, an angel network, already has taken a 500-square-foot suite in the incubator. Meanwhile, Mascari is talking with the University of Wisconsin-Milwaukee about moving its SBDC into the incubator, as well as with representatives of the local SCORE group. “We may end up with three, four or five of these organizations,” Mascari says. “It helps our bottom line and provides support for our clients.”

The severe blow to the incubator’s bottom line has been cause for reflection at TIC, which has spent the past year and a half reanalyzing its business model. Founded as a high-tech incubator, TIC is rethinking its position, Mascari says.

He relates the story of a company that applied for space in the incubator. “It wasn’t really tech-based, but the guy had some ideas that were really creative and innovative,” Mascari says. But because the start-up wasn’t a technology company, TIC passed on the opportunity, a decision Mascari regrets.

“It may have been something we should have looked at more carefully,” he says. In addition to welcoming nontechnology companies, the incubator may look beyond start-ups, Mascari says. “We started out for companies in the start-up phase, but a biotech company could be in start-up for five years,” he says. “Would we bring in a technology company that’s past the start-up stage? That’s a possibility, depending on how things develop here.”

With a combination of aggressive recruitment and philosophical adjustment, Mascari hopes to get the incubator back to 85 percent occupancy – the level it needs for self-sustainability – by the end of 2006.

“We have a need to fill this space and meet the market now, to respond to current conditions,” he says. “I am in business – at least to break even.”

Portions of this story were adapted from “Anchor Tenants: A Beneficial Arrangement” by Justin Boyd, in A Comprehensive Guide to Business Incubation, Completely Revised 2nd Edition, NBIA Publications, 2004.

Negotiating leases with anchor tenants

Although anchor tenant leases are usually similar to client leases, incubator executives may want to consider these factors when negotiating a lease with an anchor tenant.

Duration. In general, the longer an anchor tenant’s lease, the better the chance an incubator can count on the steady income an anchor tenant provides. Many incubators require anchor tenants to sign two- to three-year leases when they first take space in the incubator and are more flexible in subsequent renewals (allowing year-to-year leases, for example). However, a long-term lease may not be appropriate for all anchor tenants and may not be best for the incubation program either. An incubator, for example, may not want to commit to a long-term lease with an anchor tenant if it expects to be able to recruit new clients into the space. An anchor tenant, for its part, may want to leave its options open if it needs to expand or change the type of space it requires.

Rates. In general, an incubator should charge an anchor tenant market rates for space, managers say. For incubators that charge clients market rate, this means that anchor tenants will pay the same as clients but will not receive incubation services. Factors to consider when establishing an anchor tenant’s lease rate include:

  • Will the anchor tenant take advantage of shared services or utilities? If so, the incubator should charge the anchor tenant the full cost of providing them, or, if possible, require the tenant to pay for utilities and services on its own.
  • Does an incoming or expanding anchor tenant have special needs in terms of space renovation, wiring, furniture, etc., that will increase the incubator’s expenses beyond the usual costs of upkeep? If so, the incubator should charge the difference to the anchor tenant. On the other hand, if the anchor tenant is willing to take space as-is and pay for its own renovations and/or improvements – particularly if this makes the space more valuable – the incubator should be open to setting the anchor tenant’s lease rate accordingly.

Lease clauses. An incubator may want to consider including a clause in an anchor tenant lease that asserts the program’s mission to incubate start-up companies and specifies limits on the anchor tenant’s expansion or conditions under which it would be required to vacate its space to make way for clients. An incubator may also want to include language that specifies the ways in which an anchor tenant will be expected to participate in the incubator’s activities, either by mentoring clients, providing them with discounted services, contracting with clients for business products or services, or in other ways.—Justin Boyd

Reprinted from A Comprehensive Guide to Business Incubation, Completely Revised 2nd Edition, NBIA Publications, 2004.

Other benefits of an anchor tenant

Steady income and client services are two of the benefits of having an anchor tenant. Here are some other good reasons for such an arrangement.

Client generators
The economy around Danville, Va., historically depended on textile manufacturing. Today, though, it’s growing a polymers cluster born in part because of the presence of Virginia Tech’s Advanced and Applied Polymer Processing Institute in the Dan River Business Development Center. Dan River President Linda Hutson Green recently gave a tour of the incubator to a representative of a start-up company that was attracted to the area by the presence of the polymer institute and its labs. “When he walked through, he realized he could start his business by subcontracting work in the institute lab and renting an office space here,” she says. “That never would have happened without the lab’s being here.”

Attention grabbers
AAPPI is a magnet for researchers from the private sector and university and federal labs – people who otherwise might never have set foot in the incubator, Green says. “Their presence also is attracting venture capitalists and polymer manufacturers who recognize the potential for partnering for research and development” with AAPPI, she says.

Capital improvements
The Technology Innovation Center in Wauwatosa, Wis., is in a former tuberculosis sanitorium. When the incubator opened in 1993, anchor tenant IGC Medical Advances spent several hundred thousand dollars renovating its 23,000-square-foot section of the incubator. “When they came in, there wasn’t a lot of capital to renovate this building, and we gave them space as is,” Guy Mascari, incubator director. The improvements and the value they’ve added, he notes, remained after IGC Medical Advances moved out in 2004.

On-site expertise
The Sid Martin Biotechnology Development Institute in Alachua, Fla., is run by the University of Florida – but it’s 25 minutes away from campus, which means that clients can’t easily access university labs. As a result, the incubator has about $1 million worth of advanced equipment on site but doesn’t have a full-time equipment manager, says Patti Breedlove, incubator manager. For a while, though, she had the next best thing in staff members of Curagen, a biotechnology company that signed on as anchor tenant in 1998. “At their peak, Curagen had 50 employees in our building,” more than all the clients’ rosters combined at the time, Breedlove says. “There was almost always somebody on their staff who could tell us how to clean, use or maintain a particular piece of equipment.” Curagen employees even trained client companies on use of the equipment, she says.

Good examples
In addition to equipment expertise, Curagen presented a standard of business behavior for incubator clients who were accustomed to the more leisurely culture of academia. “Curagen set a good example of a corporate pace, putting academic researchers used to coming to work at 9:30 a.m. to shame,” Breedlove says. And with the competition for resources such as conference rooms, incubator companies were forced to “plan ahead, become more organized and more formal” in scheduling their use, Breedlove says.

Anchors also can provide inspiration to clients. Anchor tenant Diagnostic Hybrids is a graduate of the Ohio University Innovation Center in Athens; today, it’s the world’s largest provider of cell cultures for medical diagnosis, showing that entrepreneurs can succeed. “For years I’ve been saying, ‘We need an example of a successful company. We need an example of someone who’s done it here,’” says Linda Clark, incubator director. “Now, we have a success story where these smaller companies can say, ‘They’ve done it, and I can watch them. I can mimic them.’”—CC

Keywords: anchor tenant, business assistance provider, facility management, financial management -- incubator, lease, mentoring program

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