What is wrong between VCs and Corporates?

Lately I encountered the historic discussion about the ?dark side“ (venture capital) and the ?darker side“ (corporate venture capital) with fellow VCs several times. I wish this discussion would come to an end for the benefit of founders, startup companies and innovation. But I guess this is wishful thinking for some time being.

When do VCs do like corporates?

In the first place VCs tend to like corporates for revenues in their portfolio companies.  While VCs are all out and about to tell the world startups are disrupting the corporate world –  at the end of the day they like corporates being customers of their portfolios and bringing in sustainable revenues. The rise of B2B startups has shown this trend lately. In a world of dominating Internet platforms, the B2C space is becoming more expensive in terms of customer acquisition costs and unreliable when those big companies will copy a successful startup business model and compete with their investments (music streaming, messaging, communication, e-commerce, etc.) In B2C investments those private investors also like corporates in a partnering approach. It puts them in a struggle how to value partnering deals e.g. music streaming + Telco’s, e-commerce + TV broad caster, fintechs + banks because there is a lot of good support but still it is like a deal with a devil from their V VC perspective. Especially the net neutrality discussion raised those contradicting views of several VC investors. While it supports some of their portfolios some partnering deals might harm others from their perspective. While defending the majority of their companies it will harm a few companies, who would benefit from certain deals. In any case private VCs will love corporations as an exit channel – because those are the only ones who can pay a high amount for their investments to return their funds.

When do VCs don’t like corporates?

Several VCs openly declined to make deals with corporates as part of a funding round. Exits are OK – minority investments are not. I do understand this perspective when corporate investment arms would demand special rights, which would influence the exit terms negatively for a portfolio company and its shareholders. Also as a minority shareholder, as a potential buyer this corporate would have insider information on the business, which will not help to initiate a price acceleration during negotiations. However, there are terms in shareholder agreements to make sure all parties are playing by the book in a correct way. I would accept a consistent behavior of VCs in declining corporate minority investments. But VCs as any other shareholders cannot control their portfolio companies and need to serve fiducially duties to protect the company as a shareholder.

Following exceptions can be seen by VCs, who officially don’t like corporates in their deals:

• A partnering deal is linked to an investment: The advantage of the partnering deal with a corporate for sales, reach or branding is that important, that the investment has to be accepted.
• The valuation/investment is that high: Corporates will invest from a different perspective and calculate the overall impact on their business. In some cases, the terms and conditions from a corporate investment arm are just too good to be true. Founders most likely and investors to a certain extend just take the deal while it has the advantage on their own economical metrics (book value, equity stake, etc.). Mainly we have seen this behavior in unicorns in 2014/15. Corporates were invited to invest in those 1bn companies giving a nice book value and secondary chances for private investors or founders.
• There is no other investor: There are just those times where private investors don’t accept a valuation (or an investment at all) based on the figures and business case presented by the portfolio company. While private VCs are always pushing their interests in risk for founders and innovation – there is a limit they are accepting. I could be the stage or size of the investment or even too risky for them. They just don’t want to bet more money on that founder or company.

In all fairness this could be acceptable as long as all players in the market will be honest about this metrics. Otherwise there is a misunderstanding between the involved parties, which is never good in a close partnership as in shareholding in a company and siting together on a board.

In Europe there is another issue why VCs don’t like corporates investing in startups: They need corporates as limited partners in their own funds. So instead of raising VC funds from those corporations, the VCs will meet them in a competitive bidding for a stake in a promising startup and founder. VCs will approach CEOs of corporations to convince them to become a limited partner in their fund instead of running their own corporate investment arm. While this is a bias discussion by nature, it still has the challenge of proving to be a better investor than their corporate arms. Especially in Europe with low exits proceeds and rather small fund returns over recent years the numbers are not supporting those arguments of being a better investment fund.

We see more corporates focusing on direct investments linked to their own business rather than using VCs to nurture many startups and picking up later the best plants in the industry. As we see in facebook, Alphabet and Apple the trend is already shown clearly in those investments.

The VC world is changing – even being disrupted from several edges. But the traditional VCs with their opposing view on corporates are contributing to support this trend. In Europe this negative perception of corporate investors will lead to a downturn of the general VC market and it will harm innovation, founders and entrepreneurship.

It is obvious but not seen by those who could change it.