Startups and Corporates – Part 3: The emergence of Corporate Venturing
By Early Metrics Team - 08 June 2017
The big idea: Having rated thousands of startups on behalf of some of the largest corporations in Europe, Early Metrics shares some key learnings on collaboration between corporates and startups.
After focusing on the rules to follow for a winning collaboration (Part 2), we delve into key Corporate Venturing trends:
- Why do corporates have an interest in acquiring shares in startups?
- Why do startups turn to corporates to raise money rather than to VCs?
- What can we learn from this growing funding method and what are the consequences for traditional Venture Capital?
What is Corporate Venturing?
Corporate Venture deals with the development of a dedicated Venture Capital entity within large firms so that they can directly take an equity stake in small and innovative companies.
Corporate venture capital (CVC) activity has boomed in recent years. Between 2014 and 2019, the value of CVC-backed deals increased three-fold globally reaching the value of $57.1bn in 2019. Big tech companies increased their startup investments from $7.6bn in 2019 to $16.7bn in the first eight months of 2020.
Indeed, the most active players in this field are international tech giants of the likes of Google and Microsoft. The former created Google Ventures in 2009 and has now invested in over 300 companies (Uber, Nest, Slack…). The latter gave birth to Microsoft Ventures, which invests in products and solutions close to its core business, such as startups in artificial intelligence, analytics, SaaS or cloud infrastructure.
But times are changing and CVC is no longer Silicon Valley’s exclusive turf. Industry-specific companies have developed their own investment funds in very different sectors. For example, Safran Corporate Ventures or Total Energy Ventures have taken equity stakes in promising startups from all around the world. Insurers are also quite active, as the investment of Macif and Matmut in Carizy proves it: « We needed to go digital to simplify the purchase and resale of cars for our subscribers » said Bertrand Betin, VP and Development Director at Macif.
The business of taking shares in early stage companies is now going beyond the traditional investment stakeholders. This does not mean that venture capital is getting de-professionalised, but this new trend shows that corporate investment is now seen as an integral part of business execution strategy.
Be my leverage, I will be yours
But why do corporates directly invest in young firms instead of signing business partnerships with them? And why do the latter accept to have corporate stakeholders on their board? Let’s try to understand the mechanisms which motivate both actors.
While traditional Venture Capital funds aim to financially optimise their initial investments through a positive exit after several years, one of the main objectives for Corporate Venturing is to commercially leverage their stakes acquisition. Even if they get only 10 to 15% of a startup, they ultimately have access to 100% of its skills and technologies.
This strategy could therefore be ten times less expensive than developing a project internally, while it also provides a competitive advantage over competitors. As Joeri Kamp, Chief Information & Innovation Officer at Eneco, expressed in a KPMG report dedicated to corporate-startup collaboration: « We invest in startups more for strategic reasons and less for the creation of financial value ».
On the other hand, a startup’s primary objective is to go beyond the financial and management supports promised by traditional Venture Capitalists. According to KPMG, startups welcoming corporates to their boards are 19% more likely to establish the collaboration to access test and production facilities but 26% less likely to set up the collaboration for the purposes of exposure and branding. This proves that startups expect CVCs to offer both financial and operational support.
Best practices for an effective CVC-startup relationship
There is no doubt that corporate structures slow them in their decision-making processes. However, by being in direct competition with traditional funds for valuable deals, corporates understand the necessity to accelerate decision-making in order to be closer to VC standards in terms of negotiation speed.
Other rules of business also imply not taking too much equity on the first investment. While large companies are used to takeovers and M&A deals, a startup investment means changing their behaviour to adapt to smaller, limited investments. CVC also need to give the ventures they invest in some freedom for their day-to-day operations and overall management. Having a corporate on board is highly valuable for entrepreneurs, but interference to fit corporate objectives may endanger a startup’s product development and deployment roadmap.
A concrete example of such interference is when the corporate shareholder imposes exclusivity conditions to the startup. In such a case, the division of duties between the CVC’s role as a business partner and its role as an investor is not respected. Then, the Corporate Venturing arm should consider not only the business partnership aspect of the relationship but also the startup’s financial growth and potential for exit. A CVC must adopt some of the standard reflexes of traditional investors.
CVC vs VC: an unavoidable battle?
Should traditional Venture Capitalists be afraid of Corporate Venturing? It’s complicated, especially because interests are not always aligned. Take the example of the valuation. During a valuation negotiation with the startup, the CVC will highlight the fact that it is going to bring various valuable growth support to the business (distribution, production facilities…). Meanwhile, a VC can bring smart money, but won’t have direct leverage into the operation and deployment aspects of the business. Mid-term goals for investors may also differ from long-term ones for corporates looking at the same innovation.
Some promising examples show that alignment of interest is, of course, possible. For instance, in October 2016, Open Data Soft raised €5 million through VC firm Aster Capital, the CVC branch of Salesforce Ventures, and their historic investor Aurinvest. It will be interesting to observe how VC/CVC co-investment evolves in the next few years, and whether this model will grow or remain a few isolated instances.
There is no doubt that Corporate Venturing is one of the hottest topics surrounding corporate-startup relations. The main challenge remains trying to mix a business-oriented partnership with a financial one, akin to traditional VC practices. Despite its complexities, CVC is a promising trend in the startup ecosystem, bringing new ways of considering innovation development and funding.