- Corporate funds for direct investment in an external start-up.
- It involves dual dimensions and four ways to invest.
- Making sense of why corporate venture capital is booming.
What is Corporate Venture Capital
Also known as corporate venturing, corporate venture capital refers to the direct investment of corporate funds in start-up firms outside of that company. Even if the investment vehicle is financed by and expressly structured to fulfill a particular investing entity’s needs, this concept excludes contributions made by an external fund administered by a third party.
It also removes investments that come into the broader category of “corporate venturing,” such as financing new internal projects that, though separate from the company’s core market and given some operational control, remain technically part of the organization. However, investments in start-ups that a firm has already spun off as individual companies are included in this concept.
How Corporate Venture Capital Investments Work
Due to fierce competition among firms due to limited markets and changes in consumer tastes and expectations over time, companies have had to create new goods and services regularly to satisfy the changing needs of these customers. Innovation becomes more critical every day because it is a vital force behind a company’s longevity and the long-term prosperity of the economy.
The big issue is that in this twenty-first century, where market success is dependent on knowledge, information, and a creative economy, most businesses are stuck with existing goods and innovations. They overcome this by investing in research and development to keep up with the latest business models and technologies that emerge all the time.
Joint ventures and acquisitions have long been methods of pursuing research and development. Still, in recent decades, corporate venture capital investing has acquired a reputation as a supporter of business innovation.
The Two Facets of Corporate Venture Capital
A corporate VC investment is characterized by two factors: its goal and the degree to which the investing company’s and the start-up’s operations are related. Venture capital investments usually aim to achieve one of two essential targets, although businesses have various objectives when they make VC investments.
Some acquisition goals are strategic, i.e., they are made mainly to boost the corporation’s revenue and earnings. A business making a strategic investment wants to find and capitalize on synergies within the new venture.
The other kind of investment goal is purely financial, in which a business is mainly aiming for high returns. Due to what it views as its superior understanding of markets and technology, solid balance sheet, and willingness to be a patient investor, a company strives to do as well as or better than private venture capital investors.
Furthermore, a company’s name could serve as a signal to other investors and potential buyers about the quality of the start-up, effectively allowing the original investor to gain from their investments. Although the organization hopes that the investments will assist in the growth of its own company, the primary incentive for the investments has been the opportunity for high financial returns.
The degree to which firms in the investment pool are related to the investing company’s existing operating capabilities is the second distinguishing feature of corporate venture capital investments. A start-up with close connections to the investing firm, for example, might use the firm’s production facilities, distribution networks, infrastructure, or brand. It can create, sell, or operate its products using the same business practices as the investing company.
Of course, a company’s own infrastructure and operations may often become liabilities rather than assets, particularly when confronted with new markets or new technology that markedly disrupts the business landscape. An external venture may include an incentive for the investing business to develop new and unique capabilities, which may jeopardize its existing capabilities.
External initiatives that threaten these capacities will be mitigated by making them a distinct legal entity. If the company and its operations succeed, the organization will assess whether to change its procedures to be more similar to the start-up’s. In certain situations, the company can decide to purchase the company outright.
Different Ways to Invest in VC
These two aspects of corporate investing—strategic vs. financial and closely vs. strongly linked—are not mutually exclusive. The bulk of investments would be anywhere between the two ends of each pair of attributes. Nonetheless, integrating the two dimensions provides a convenient mechanism for a business to analyze its existing and future venture capital investments.
Four ways to invest in corporate VC are revealed by combining an evaluation of your company’s corporate goal with an evaluation of the degree of linkage between your operation and those of the start-up receiving your funding.
This form of investment is defined by a strategic rationale and strong relations between a funding company’s activities and those of the start-up. While it is evident that many of these investments can help a company meet its goals, there are limitations to what it can accomplish.
Since these investments are tightly coupled with a company’s existing processes, they can help the company maintain its current plan. They cannot assist an organization in dealing with innovative strategies or identifying potential prospects as the company has to adapt to a transition in the marketplace beyond its existing capacity.
These are a form of investment that helps companies achieve their goals. A business makes acquisitions mainly for competitive purposes in this style of VC investing, but the venture is not closely linked to its activities. The idea is that a good venture would support a corporation’s activities but that a clear organizational connection between the start-up and the company isn’t needed to achieve that benefit.
These are the types of acquisitions that an organization makes in start-ups closely connected to its operating capability but don’t contribute much to its current plan. However, whether the market climate changes or a company’s policy changes, a new venture may become strategically important overnight.
The ventures here are not tied to the corporation’s strategies and are only loosely related to its operations. As a result, the company lacks the resources to use these acquisitions to advance its market successfully. A company is yet another investor subject to the whims of the private equity market’s financial returns. Indeed, this method of investment may be considered a waste of shareholders’ money.
Different Stages of VC investment
Companies that invest in start-up companies through corporate venturing may do so In the following stages of a company’s growth and development:
Financing in the Early Stages
Start-up firms that can start operations but are not yet ready for commercial production and distribution. A start-up spends a lot of money on product creation and early marketing at this point.
Funding for the start-up phase
Money used to fund initial running costs to recruit venture investors is referred to as initial capital. Initially, the amount of financing usually is minimal, and it is traded for a share of the company’s equity. Investors consider seed capital to be risky. This is why they generally tend to wait until the enterprise is well-established before committing substantial monetary investments.
This is capital made available to businesses growing by introducing new goods, expanding their physical facility, improving their products, or marketing.
Initial Public Offering (IPO)
In the long run, this is the optimal stage for most CVCs to achieve. When the start-up company’s stock is open to the general public, the trading firm can sell its holdings to profit. Earnings will also be re-invested in new projects with a high probability of potential returns.
Acquisitions and Mergers
This entails using an investment fund to fund a start-up’s acquisitions and aligning the start-up with a complementary product or business line that would help both businesses project a common image. When a corporation chooses to purchase the start-up, the founders can take advantage of the opportunity to prosper by selling their shares.
Mergers can help the investing business by allowing the start-up to share capital, operations, and technology. There would be cost savings, liquidity, and market positioning as a result of this.
Why is it Booming?
Corporate Venture Capital has grown in prominence in recent years, and more CVC companies are positioning themselves as major players in the venture capital industry. According to a BCG survey, corporate venture capital investments as a component of global VC investments rose by 30% between 2012 to 2017, and the global number of active CVCs tripled between 2011 and 2019.
Despite this, CVC is also widely overlooked. Due to mistaken beliefs, many start-ups ignore the prospect of CVC support. Many institutional VCs are still unaware of the importance of cultivating partnerships with corporate venture capitalists.
In addition to popular brands such as Google Ventures and Dell Ventures, the revived interest in corporate venture capital has sparked some unlikely fund releases from 7-Eleven, Patagonia, and even Walgreens.
According to investment analysts, this capital fills a critical void in start-up seed funding, which venture capital companies have increasingly deserted in recent years. According to the NVCA, there were 229 seed financing worth less than $1 billion, accounting for around one-tenth of the total amount invested in early-stage firms.
What are the Pros and Cons of CVC
Let us first discuss the pros.
A Long-term Perspective
For decades, transnational consumer goods firms have been at it. One might argue that this provides them with a wealth of knowledge, situational insight, and patience. They are specialists at playing the long game of venture capital, monitoring macro developments in society and the global economy. A good offer with a wise and benevolent corporate sponsor can be very enticing to a business owner trying to grow their company.
Manufacturers, suppliers, logistics, retail, and, of course, the consumers that buy at those stores are all part of the networks that corporate VC investors have in place. This may be a fantastic opportunity for rapid growth.
Unlike traditional venture firms, corporate developers hire teams of professionals that inevitably surround all networks and resources.
R&D facilities and category specialists on retainer are popular in multinational consumer goods firms. By entering a corporate venture capital fund, you can access a vast and diverse knowledge base.
Further funding should be easier to obtain after you’ve been a member of a corporate VC brand’s portfolio and assuming the company’s growth is on track. Spending less time planning future investments could enable a company and its leadership team to devote more time to other goals.
Some of the cons include:
The Brand Portfolios Game
Corporate budget cycles are typically yearly. You’ll have a year to move the needle before the capital moves on. They’ll lose confidence if the progress isn’t on target easily and reliably. Corporates, like private venture capitalists, are engaged in a portfolio game. You’re the smallest company in the portfolio, so you’re under the most pressure to expand. They need you to move quickly to compensate for their dwindling cash cow brands.
Company divisions within multinational companies are often so decentralized that they become preoccupied with their organizational priorities rather than seeing the big picture or spotting opportunities. This will put a halt to a promising new venture. To be sure, the bulk of organizational employees were not recruited to dream about unconventional policy.
Exceedingly Slow Movement
Corporate America is known for its sluggishness. We’re talking about mountains of bureaucracy, multiple owners with huge egos and something of actual value to contribute, and legacy deals that can’t be flexed or run around, from R&D, product growth, and thinking to retail deals.
List of Biggest VC Investors
The Investment to Exit Ratio is one of the most accurate performance indicators for venture capital companies. A one-to-one ratio implies that a VC makes one investment for any exit or no growth. A ratio greater than one indicates that the VC is a net acquirer of portfolio firms, indicating a growth scenario.
This list features some firms with the best ratios from 2020.
- Khosla Ventures (13.58%)
- Sequoia Capital (20.71%)
- Accel (20.77%)
- New Enterprise Associates (NEA) (20.96%
- Kleiner Perkins (21.13%)
- Bessemer Venture (21.65%)
- Intel Capital (28.5%)
The Bottom Line
The boom of CVCs heralds a fantastic business landscape on the horizon. CVCs will place portfolio businesses on a powerful road to growth by offering everything from organizational assistance to improved public credibility to connections to profitable distribution networks. CVCs can distinguish themselves from the crowd by knowing the full breadth and impact of their networks and creatively tapping into them. This allows them to deliver superior value to their portfolio brands.