The venturing activities from a large Corporations or corporate venture capital (CVC) is a topic of high controversy and discussion. This is because the venture capital itself is a young industry, and the CVCs are even younger, so many Corporations are still understanding the value, they way can be done, and writing the best practices on the fly.
During the past four years, I had the chance to interact, discuss and collaborate with several Corporations looking to do venturing or, in a wider and more extended version, some level of Open Innovation. It is publicly known that some Corporations were doing valuable efforts but not finding their way, and many others redesigning and pivoting the programs. As a result of all these experiences, and my own journey as General Partner of a deep tech VC, I was able to identify some common stumbles, as well as good practices.?
The Pillars of Open Innovation?
So, let’s start with the basics, when a Corporation decides to embrace in an Open Innovation framework, that means that is willing to explore new ways to innovate outside the typical and closed internal R&D. There are different ways and levels of Open Innovation, that include specific technology development and later transfer from Universities, hosting a dedicated research project, co-develop a new technology with different partners in a consortium and yes, venturing.
As venturing, we normally understand those investment activities that a Corporation, through its CVC, execute in Startups, but there are also other ways to do venturing such as Venture Client or Venture Debt. It is not that common, but in the deep tech sector those paths can add considerable value to both the Startups and the Corporations.?
Said that, what should be the bases of any CVC, is the strategic alignment of the Corporation objectives and the Startup needs. From the Corporation side and besides the obvious, the two main values that these activities provide are new technology development and financial results. Then, a variety of other added values, sometimes even equally important than the previous two, are the access to a new market, the knowledge of certain trends, the entry barriers for new developments, the access to supply chains, more dynamic ways to work and eventually, talent.?
Once the decision of starting a CVC was taken, the roadmap of the venturing activities should be founded in a solid Investment Thesis. The main topics when designing or running a CVC, are:
a) The stage of the Companies versus the expected capital to be invested. Early stage Startups need less capital, but much more support and the time to reach market (TRL8-9) is longer. So, let’s suppose there is a deep tech startup developing a novel material at laboratory level (TRL4), it could require maybe 1 MUSD and help with the supply chain to move from TRL4 to TRL7, but might be still at 6 years of an Industrial test or pilot, maybe 8 to be commercially available. The challenges down the road also change, and close to TRL7 or 8 these Startups will need much more support with the manufacturing, scaling and growing activities rather than tech development. The capital required at latest stages is bigger (maybe 10 MUSD for Series-A, 20-40MUSD for Series-B to D, etc).
b) The size of investments. Let’s said that as Corporation, you want to invest in 10 companies during the coming 3 years, focusing on Series A to C, at an average of 3 years to be commercially available, and you want to help not only with capital but also with engineering, manufacturing, quality, commercial and other aspects of such expected growth. In such scenario the logical size for these CVC fund could be between 70 MUSD to maybe 200 MUSD supposing some strategic co-investment approach.?
c) The financial results. All these deep tech funds orbits around a performance of 2x to 4x of the invested capital. For the fund of point b, same number of Startups but at early stages, could make sense with 10 MUSD and a performance of 2,8x but you need to wait maybe 6 years to help bringing and expanding those technologies to a real market. It is a tradeoff.?
When designing the CVC, there are other important aspects, but the general thesis is based on these three points and the balance/tradeoff between them.?
Yes, venturing is a solid pillar for Open Innovation, and one of the most common ways to make it happen. But, during the past decade, other valid instruments were designed and tested, and now are much more adopted in developed ecosystem. Some are:
- Venture Client: It is basically a super good customer for a new Startup coming to the market. In such agreements, the Corporation wants to offer the Startup very special conditions to contracts its services or buy its products, even if the Startup is not yet ready to do it. That means that Corporation acting as super client, must be willing to accept some mistakes in the process, delays, thinks going wrong, and eventually, the need to stop and redefine the conditions. This is super valuable for Startups in TRLs 6 and beyond, and several Corporations are implementing these structures. Why the Corporation will expose itself of such border purchasing conditions, well it is understood that the services or products that this new Startup could bring will make big impact in the Corporation business, bottom line, operations and beyond, so make sense the effort and risk.
- Venture Debt: Not that complicated, it is a debt financing or loan, with different collaterals. This is because Startups at early stages rarely have strong balance sheets and solid revenue, so the debt or loan must be structured over IP rights, equity, commercial contracts and other ways to secure the debt.?
- Incubators and Accelerators: Some Corporations also take part at super earlier stages of specific Startups, cases like Baker Hughes, Shell and Airbus are just few of many. The way from an Incubation up to the possibility to commercialize a new technology coming from any of these Startups as quite long, but is a good way to understand what is happening right now. It is a proper way to sense the innovation ecosystem. Downside, it is quite difficult to do, and much more difficult to maintain in a sustainable way along the years. The recommendation here is to make it through a partnership.?
- Hackathons and Idea Competitions: This is maybe a good starting point. Do not require a lot of budget, can be adjusted and changed year over year, can be run internally also, and moreover, it is quite flexible. The downside is that the implementation of whatever come out of these activities, it is even longer than an Incubator or Accelerator. Similar advantages than previous point, similar recommendation, find a good partner.?
Summarizing and not making any specific case or putting names on it, here you can find some of the pitfalls or stumbles I saw happening to Corporations:?
- Considering the CVC as the M&A arm. This is a good Startup repeller. Actually, CVC and M&A should be connected but not in the same area neither with the same head.?
- Thinking is finance. Putting all the decision of the CVC into CFOs hands. Don’t take me wrong, CFOs are a critical part of the decision making process and should be in the Investment Committee (IC) but Open Innovation and CVC is more related to crafting the future of the company, opening new markets, working in the edge of technology, and understanding some trends, rather than a plain financial aspect.
- Copy paste. CVCs are a rare animal, not one is the same, and therefore, must be crafted and designed for the specifics of each Corporation, market, technologies, size, etc. This is because a common tendency in Corporations is to bring the head of a CVC of company A to run the CVC of company B, assuming that she/he can do it. It depends.?
- Lack of continuity. Solid steps even if there are small and cautious are better, instead of a full gas all-in that you cannot sustain along the years. I saw several Corporations making glory announcements that few years later are buried in shame. This is also one of the main objections of Startups to work with Corporations, the uncertainty of the programs and continuity of the CVCs. As always, the good ones, are solid as rocks. I know a CVC that goes at 9th fund, managing above 2 Billion USD.?
Last but not least, some General Recommendations:
- Try to evaluate the topic from an holistic point, first understanding how Open Innovation applies for your specific case, your market, your sector, your current situation. Maybe the answer is coming by co-hosting an Incubator with an University, or a Venture Client scheme.
- If inside an Open Innovation framework, venturing is something you want to pursue, dedicate the time and resources to make it seriously. Find a good partner that helps you putting all together.
- Define first what are you looking to achieve with the CVC, the timeline, and then align expectations with the different stakeholders.?
- Must be top-down, there is no other way. The CEO of the Corporation must be the main inserted party and sponsor of the CVC. Then, operationally, could be arranged in different ways, but the CEO must be onboard.
- Design the CVC investment thesis with the different boundary conditions in mind, the quantity of Startups to invest annually, the areas of technology or deep tech you are interested on, the gaps you want to cover, the stage of such Startups (TRLs) the investment strategy (co-investment, lead investor, etc) and then try to iterate with the size of the fund as variable.
- Don’t be too open neither too close in terms of the investment thesis. CVCs that only invest in super rigid thesis ended with very low capital deployed, therefore not making any difference or impact internally or externally. At the other side of the spectrum, if it is to open and blurry, nobody knows what the CVC is looking for, and will be very difficult to get access to the Startups that you really want to work with.?
- Think about the venturing activities of a CVC as a collaborative, added value, board member, co-founder, insightful and advisory mixed role, it is not just deploying capital. Therefore, the CVC must have the proper resources and enough fire power.
- Think if your Corporation is open to collaborate with the CVC or it is something that will fly independently. It is always better if all the Corporation is onboard and collaboration on whatever each individual can, but we know that daily business, meetings, customers, execution, commitments, quarter reviews, results and many other issues sometimes make very difficult for employees to collaborate with the CVC. Also, a CVC that cannot add value on top of the capital is not paved for success. If you cannot access the Corporate resources, at least plan having some dedicated ones at the CVC or an hybrid approach.?
- The head of the CVC should be someone that understand about the business and sector of the Corporation, what deep tech Startups need, and how venture capital works. Also, should be able to fit the Startup needs and capabilities into the Corporate scene and be able to help those Startups to develop and growth.
If you are thinking about Open Innovation, whatever is a new chapter in your company or you want to review and reshape what is already on place, we at WWW.ARCHECOMPANY.CO can help you making this project happen. Join us!
