Why corporate venture?

Alex Dundson of SaatchInvest asked the question "What does corporate venture really do?"

Corporate venture's most useful function is a sensing function. It gives corporates a good roadmap for the future.

This is the most important function, especially in times of technology change. 

For areas which are new markets or new technologies, firms can use corporate venture to understand the market. Startups that are early in their journey, and raising their first meaningful founding rounds (aka Series A) tend to do so 5-7 years before mainstream adoption. Seed rounds happen 12-18 months before that. Entrepreneurs get their itch a year earlier.

So you can get a 5-8 year headsup on what trends might be and how they might actually play out in the market. This is more effective than market research because research won’t pick up the trends (or at least will not understand their scale). Trend forecasting won’t get into the nuance of what it is to make them real, to turn them into viable businesses, to satisfy customers, to change value chains, to grow.

This is something entrepreneurs do as they build their businesses.

I don't believe you can do this with trend forecasting or innovation theatre. You need to play with "skin in the game" because most of the know-how discovered is held privately to the companies and doesn't show up in the pages of TechCrunch (let alone the WSJ) for years. If you don't come to the table with dollars to invest, you can't really participate in this innovation ecosystem. And if you are only observing, not participating, you won't really come close to understand the space. (And that understanding is both the thematic, high-level understanding, but a practical understanding of the operations, execution, culture, partnerships and talent required to succeed in these new environments.)

Corporate venture should deliver some kind of positive return on a portfolio of reasonable investments. (There is data elsewhere about this).

So corporate venturing is top-tier consulting for free or possible for less.

Over five-years you will actually make money from your CVC efforts, so it may a negative cost to it.

So why don't firms undertake corporate venturing?

1. Their balance sheet is too small. Allocating a small portion of it doesn't give them enough capital to run a decent portfolio. (You need about $40m to run a early stage portfolio as a minimum. I reckon that about than 1% of your balance sheet should be allocated to corporate venture. That is a rough rule of thumb, it would be much lower for larger firms.)
2. “We can’t be Sequoia”, i.e. since we can't be the best investors, we shouldn't do it. This a fallacy. No-one is asking them to be Sequoia, we are asking to be a well-structured CVC activity. 
3. Our cost of capital is too high / can’t make IRR metrics : This is overstated. We are only asking for a small portion of the investment pool. Does it really matter if cost of capital is higher than that of a financial investor (unless it is crazy high)?

None of these are real excuses. 

The real issue seems to be that operational businesses are about minimising variance. VC (or working with entrepreneurs) is about maximising variance (or “taking enough risk”). Milk and meat.

This is a clash of mental models or framing the problem.

However, our turbulent future is less about minimising variance and more about exploring possibilities and helping to make it real. This is something for which venture is well suited.

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