Article

Four keys to corporate venturing success

Now that the Internet and biotechnology markets have hit the hard ground of reality and the hopes of making fast money have dissipated, corporate venturing is more and more driven by strategic motivations.

著者：Dr. Ekkehard Franzke

First published on 6月 01, 2001
min read


The first big corporate venturing wave surged up as early as the 1970s in the US. Corporations such as Exxon made disproportionately high profits on investments in promising, externally generated business ideas. Since the end of the 1990s, when euphoria over the new economy was close to reaching its zenith, big companies in Germany also started to be attracted by the phenomenal returns that can be realised in the venture business. In the meantime, there are over 20 corporate venture funds in Germany alone. Among the most well established are Siemens, Deutsche Telekom (T-Venture), and Bertelsmann, and they have also set up the largest investment funds. Now that the Internet and biotechnology markets have hit the hard ground of reality and the hopes of making fast money have dissipated, corporate venturing is more and more driven by strategic motivations: ENSURING THE FUTURE OF CORE BUSINESS by investing in neighbouring markets and appropriate technologies. The objective of this type of corporate venturing (CV) fund is to add to the existing range of products or to create new demand potential in order to exploit existing markets or to create new ones. Intel, for instance, invests in e-business start-ups that are in a position to trigger an increased demand for Intel processors, and in starts-ups in the wireless and optical communications technology sector with a view to releasing the semiconductor company from its dependence on the PC market. STRENGTHENING INNOVATIVE POWER of the parent company by opening windows on new technologies being developed by dedicated young enterprises and by diminishing structural obstacles in the corporate innovation process. This type of CV subsidiary invests the major part of the capital provided in promising in-house ideas in order to bring them to market maturity faster by means of corporate spin-offs, without consideration to the interests of a specific division and without the burden of short-term profitability targets and corporate overheads. Innovation-oriented CV funds also invest in external start-ups in order to stimulate the internal R&D activities, or to incorporate competing ideas. Siemens, for instance, is one of the companies that regards its CV operations mainly as a motor for innovation. In addition to equity financing, corporate venture capital offers most attractive additional services for start-ups. Openings for cooperation with the parent corporations are of particular importance for example, in the field of R&D as well as the use of their marketing expertise, distribution channels and corporate networks, e.g. for opening up international markets. Strategically oriented CV funds are also under less exit pressure than independent VC companies, which, in view of their investors' profit expectations, are pressed to achieve the fastest and most lucrative exit possible, preferably via the stock market. Especially in times when the finance markets are weak, start-ups therefore appreciate the staying power of corporate venture capital. These benefits contribute towards the extraordinary rise in corporate venture investments in the US since the beginning of the year 2000, while the growth rate of independent VC financing has declined. In view of the rising popularity of corporate venture capital, international management consultants, Bain & Company, has investigated the question of how such a fund should best be managed in order to use its strategic potential to full advantage. It discovered four factors crucial to success: integration into the corporate structure, CV process, remuneration systems, as well as the general venture capital success factors. 1. An appropriate CV structure It is above all crucial to CV success to find the strategically correct balance between structural proximity to and distance from the core business and thus between the necessary latitude for the start-up to unfold, and the best possible exploitation of the potential for cooperating with the corporation as a whole. CV funds that are dedicated to assuring optimum leverage for strategic investments in start-ups should be organised centrally by being placed directly under corporate management ideally directly under the CEO with the division formally included in the process of investment selection. For reasons of strategic coordination, at Intel Capital, one of the 18 corporate divisions is allocated to each Investment Executive. Dell Ventures has chosen a similar organisational pattern: each division has appointed a member of staff responsible for the integration of investments. Innovative funds, on the other hand, should be as decentralised as possible and located at division level from an organisational point of view. Siemens has therefore set up a CV fund of its own in each of the core business segments that is restricted to its own core competence particularly with regard to technologies and markets. Siemens Venture Capital functions as a coordinator for these units and carries out investments that are of strategic importance to the corporation as a whole. 2. Selective CV process The venture capital process can be broken down into the following stages: deal generation, due diligence, portfolio management and exit management. The design of the individual levels of value creation should be geared to the strategic objectives of the CV fund. In order to obtain optimum strategic leverage, CV investments must focus on the company's core areas of business. Moreover, the divisions should be deeply involved in the investment process, particularly during the due diligence phase. At Dell Computers this process takes place in three phases: after the initial screening by Dell Ventures, the business divisions assess whether the investment fits in strategically with Dell; however, the final decision as to whether an investment is actually made, lies with Dell Ventures. In case of innovation strategy procedural emphasis is placed on the inclusion of the respective business divisions and of the R&D department during the entire investment process. In addition to the classic exits by going public or being sold, integration into the parent company is also an alternative. 3.Appropriate remuneration for CV management In order to maximise the rate of return of investment, the management of independent VC companies will receive a fixed percentage of capital gains, the so-called carried interest. However, it will be difficult to justify such generous profit-sharing schemes to the staff of the parent company. For this reason, in strategic CV programmes (including the innovation type) remuneration is frequently equivalent to that in the parent company. This carries the risk that top staff may leave the company, while experienced VC managers from elsewhere are hardly prepared to work for such modest pay. It is, therefore, advisable for strategic CV funds to install a hybrid pay system that contains certain elements of a classic VC profit-sharing scheme, for instance in the form of a bonus corresponding to the performance of the investments, combined with the basic pay rate of the parent company. 4. Classic VC success factors If they intend to be successful, corporate venture funds should also observe certain basic rules that have proved their worth in classic VC business. First of all, the focus of investment activities requires clear definition. A CV fund should concentrate on attractive and strategically suitable market segments. On the basis of the experiences of the past year and in particular the problems incurred by pure Internet funds the classic portfolio approach, whereby a strict system of selection is maintained, has regained a good deal of ground. Bainlab, the business builder of Bain & Company , has developed a two-stage process of portfolio analysis especially for CV funds. In a first step, the investments are entered in an evaluation matrix featuring value creation potential and ease of implementation as its criteria. By combining the two dimensions each portfolio company can be classified into one of four categories: "Stars", "High Potentials", "Quick Hits" and "Watch out". The second step is to investigate for the portfolio companies in each investment category whether they constitute a strategic fit with the corporate divisions or business segments. The purpose of this analysis is to divest oneself of less successful investments as early as possible, while supporting clearly discernible and potential portfolio stars with all available funds and management resources. Disposing of investments that do not meet up to expectations or fulfil the criteria set and thus focusing on potential winners is one of the features of pro-active portfolio management and one of the key factors to VC success. It is also important to give specific thought to the exit period and to the manner in which exits should take place even before investing in a company. In some cases during the past years investments were made in companies with very little exit potential (Trade Sale or IPO). Furthermore, successful VC companies or funds are characterised by extremely flat structures and short decision-making processes. Next to well-conceived evaluation, time and speed are essential criteria for success if one wants to hold one's ground in the international VC market.

The first big corporate venturing wave surged up as early as the 1970s in the US. Corporations such as Exxon made disproportionately high profits on investments in promising, externally generated business ideas. Since the end of the 1990s, when euphoria over the new economy was close to reaching its zenith, big companies in Germany also started to be attracted by the phenomenal returns that can be realised in the venture business. In the meantime, there are over 20 corporate venture funds in Germany alone. Among the most well established are Siemens, Deutsche Telekom (T-Venture), and Bertelsmann, and they have also set up the largest investment funds.

ENSURING THE FUTURE OF CORE BUSINESS by investing in neighbouring markets and appropriate technologies. The objective of this type of corporate venturing (CV) fund is to add to the existing range of products or to create new demand potential in order to exploit existing markets or to create new ones. Intel, for instance, invests in e-business start-ups that are in a position to trigger an increased demand for Intel processors, and in starts-ups in the wireless and optical communications technology sector with a view to releasing the semiconductor company from its dependence on the PC market.

STRENGTHENING INNOVATIVE POWER of the parent company by opening windows on new technologies being developed by dedicated young enterprises and by diminishing structural obstacles in the corporate innovation process. This type of CV subsidiary invests the major part of the capital provided in promising in-house ideas in order to bring them to market maturity faster by means of corporate spin-offs, without consideration to the interests of a specific division and without the burden of short-term profitability targets and corporate overheads. Innovation-oriented CV funds also invest in external start-ups in order to stimulate the internal R&D activities, or to incorporate competing ideas. Siemens, for instance, is one of the companies that regards its CV operations mainly as a motor for innovation.

In addition to equity financing, corporate venture capital offers most attractive additional services for start-ups. Openings for cooperation with the parent corporations are of particular importance for example, in the field of R&D as well as the use of their marketing expertise, distribution channels and corporate networks, e.g. for opening up international markets. Strategically oriented CV funds are also under less exit pressure than independent VC companies, which, in view of their investors' profit expectations, are pressed to achieve the fastest and most lucrative exit possible, preferably via the stock market. Especially in times when the finance markets are weak, start-ups therefore appreciate the staying power of corporate venture capital.

These benefits contribute towards the extraordinary rise in corporate venture investments in the US since the beginning of the year 2000, while the growth rate of independent VC financing has declined.

In view of the rising popularity of corporate venture capital, international management consultants, Bain & Company, has investigated the question of how such a fund should best be managed in order to use its strategic potential to full advantage.

It discovered four factors crucial to success: integration into the corporate structure, CV process, remuneration systems, as well as the general venture capital success factors.

1. An appropriate CV structure

It is above all crucial to CV success to find the strategically correct balance between structural proximity to and distance from the core business and thus between the necessary latitude for the start-up to unfold, and the best possible exploitation of the potential for cooperating with the corporation as a whole.

CV funds that are dedicated to assuring optimum leverage for strategic investments in start-ups should be organised centrally by being placed directly under corporate management ideally directly under the CEO with the division formally included in the process of investment selection. For reasons of strategic coordination, at Intel Capital, one of the 18 corporate divisions is allocated to each Investment Executive. Dell Ventures has chosen a similar organisational pattern: each division has appointed a member of staff responsible for the integration of investments.

Innovative funds, on the other hand, should be as decentralised as possible and located at division level from an organisational point of view. Siemens has therefore set up a CV fund of its own in each of the core business segments that is restricted to its own core competence particularly with regard to technologies and markets. Siemens Venture Capital functions as a coordinator for these units and carries out investments that are of strategic importance to the corporation as a whole.

2. Selective CV process

The venture capital process can be broken down into the following stages: deal generation, due diligence, portfolio management and exit management. The design of the individual levels of value creation should be geared to the strategic objectives of the CV fund.

In order to obtain optimum strategic leverage, CV investments must focus on the company's core areas of business. Moreover, the divisions should be deeply involved in the investment process, particularly during the due diligence phase. At Dell Computers this process takes place in three phases: after the initial screening by Dell Ventures, the business divisions assess whether the investment fits in strategically with Dell; however, the final decision as to whether an investment is actually made, lies with Dell Ventures.

In case of innovation strategy procedural emphasis is placed on the inclusion of the respective business divisions and of the R&D department during the entire investment process. In addition to the classic exits by going public or being sold, integration into the parent company is also an alternative.

3.Appropriate remuneration for CV management

In order to maximise the rate of return of investment, the management of independent VC companies will receive a fixed percentage of capital gains, the so-called carried interest. However, it will be difficult to justify such generous profit-sharing schemes to the staff of the parent company.

For this reason, in strategic CV programmes (including the innovation type) remuneration is frequently equivalent to that in the parent company. This carries the risk that top staff may leave the company, while experienced VC managers from elsewhere are hardly prepared to work for such modest pay.

It is, therefore, advisable for strategic CV funds to install a hybrid pay system that contains certain elements of a classic VC profit-sharing scheme, for instance in the form of a bonus corresponding to the performance of the investments, combined with the basic pay rate of the parent company.

4. Classic VC success factors

If they intend to be successful, corporate venture funds should also observe certain basic rules that have proved their worth in classic VC business.

First of all, the focus of investment activities requires clear definition. A CV fund should concentrate on attractive and strategically suitable market segments. On the basis of the experiences of the past year and in particular the problems incurred by pure Internet funds the classic portfolio approach, whereby a strict system of selection is maintained, has regained a good deal of ground.

Bainlab, the business builder of Bain & Company , has developed a two-stage process of portfolio analysis especially for CV funds. In a first step, the investments are entered in an evaluation matrix featuring value creation potential and ease of implementation as its criteria. By combining the two dimensions each portfolio company can be classified into one of four categories: "Stars", "High Potentials", "Quick Hits" and "Watch out". The second step is to investigate for the portfolio companies in each investment category whether they constitute a strategic fit with the corporate divisions or business segments. The purpose of this analysis is to divest oneself of less successful investments as early as possible, while supporting clearly discernible and potential portfolio stars with all available funds and management resources.

Disposing of investments that do not meet up to expectations or fulfil the criteria set and thus focusing on potential winners is one of the features of pro-active portfolio management and one of the key factors to VC success.

It is also important to give specific thought to the exit period and to the manner in which exits should take place even before investing in a company. In some cases during the past years investments were made in companies with very little exit potential (Trade Sale or IPO).

Furthermore, successful VC companies or funds are characterised by extremely flat structures and short decision-making processes. Next to well-conceived evaluation, time and speed are essential criteria for success if one wants to hold one's ground in the international VC market.