How much should companies spend on their corporate venture fund?
Spooked by WeWork’s failed attempt to go public earlier this year, investors and founders are recalibrating their approach to growth. No more growth at all costs — instead a focus on margins, an honest evaluation of long-term operating leverage and a sharpened prioritisation of unit economics.
Large companies looking to build their own corporate venturing initiatives — specifically organisations doing it for the first time — would be wise to be similarly disciplined.
Corporate venture has become an arms race
Across industries corporations are investing earlier in the life cycle of strategically aligned companies. According to PitchBook data, the past decade has seen a continuous increase in both the number of investments and the amount of capital deployed into early-stage (Seed and Series A) funding rounds.
Despite this increased focus on earlier investments, funding rounds including corporate investors are getting larger and more expensive, with 2019 valuations and round sizes at their highest points ever.
“Median CVC fund size has exceeded $75m every year since 2014”
Over time corporate venture capital (CVC) units have grown larger and more aggressive. In a market where the median CVC fund size has exceeded $75m every year since 2014 and the median assets under management (AUM) for active CVC units is edging towards $200m, a recent recommendation by 500 Startups — $50m as the minimum commitment required to build out a “useful” corporate venturing initiative — hardly seems like enough to make an impact.
The unit economics of corporate venture capital
Perhaps counterintuitively in the face of rising competition, bigger funding rounds and higher valuations, companies pursuing a venture-enabled growth strategy should smart small. In fact, they should stay well below the “recommended” $50m and forego the grandiose announcements (i.e. executive ego-stroking) that often accompany the launch of new innovation initiatives.
“Companies need to avoid the ‘foie gras effect’”
The last few months have served as a stark reminder that pouring too much capital and hype on top of companies with shaky operational and cultural foundations can have disastrous consequences. The same “foie gras effect” applies for incumbents building out a corporate venturing capacity and inevitably leads to, as investor David Sacks recently put it, a focus on going from one to N before solving the right zero to one problems.
A corporate venturing operation is a highly complex system, constantly balancing the need to perform both strategically and financially while interacting with a wide range of stakeholders both inside and outside the company. As with any complex system, a scaled out corporate venturing unit must be built from the ground up.
Starting small aligns the venture organisation with a corporate’s business units, enables a market-informed strategy to take root and prioritises a focus on developing the right “product” — all of which serve to create a solid foundation upon which to build a venture-enabled growth strategy that persists and drives value over the long term.
Play in the right strategic sandbox
Most corporations launching a new venture initiative aren’t Amazon and are instead turning to corporate venturing out of some degree of weakness — often the inability to internally develop new business models and technologies or exploit emerging market opportunities.
Companies generally launch corporate venturing groups when top-down strategic initiatives have failed to create a sustainable path to growth.
An oversized capital commitment risks compounding the negative effects of an already misguided strategy by bringing a top-down orientation to the corporate venture group’s strategy — few corporate boards would approve $100m without centralised agreement and control over how that capital was being spent.
“Most corporations aren’t Amazon and are turning to corporate venturing out of weakness.”
This top-down approach inevitably leads to a venture “shopping list” that approaches the market far too narrowly. The strategy becomes too closely tied to the core business and not creative enough to capture value from emerging opportunities that fall outside what is readily understood by top brass.
Corporations should instead prioritise optionality and maximise venture ecosystem surface area by writing small “collaboration capital” checks to buy mindshare from a venture without overly committing the startup or the corporate to a confining development path.
Instead of determining investment size based primarily on ownership requirements or other similar financially-focused criteria, a corporation should write the smallest check possible that buys enough attention from the venture to enable the exploration of a strategic relationship. In many cases corporations are surprised to find that a $150k cheque goes just as far in establishing collaboration buy-in from a venture as a $500k cheque.
One of the most destructive forces in corporations is “not invented here syndrome” — the institutional mindset that external partners are incapable of reaching a company’s standard while paradoxically believing that they represent a threat that should be avoided at all costs.
Oversizing a corporate venturing arm too early can make this cultural tension worse.
“A smaller starting point creates a lower-stakes environment where trust can be built.”
Committing too much capital to an unproven, externally focused initiative is often seen as an admission from the C-suite that internal teams aren’t capable of delivering on a company’s next phase of growth. This can create jealousy, distrust and an incentive for resistance.
A smaller starting point creates a lower-stakes environment for a corporate venturing arm to build trust with business units and develop a more collaborative and integrated approach to growing its capital base and stature in the broader organisation.
Develop product-market fit
All this will set the scene for the core value proposition a strategic investor is supposed to bring to the table: post-investment collaboration.
Too much capital too early for a corporate venturing units causes stakeholders to view the input itself as the end game — the commitment of some large pool of capital is incorrectly viewed by decision-makers as evidence of innovation.
“Too much capital too early causes stakeholders to view the input itself as the end game.”
A smaller initial commitment combined with well-understood success metrics links growth strongly to internal cooperation. It helps develop ventures relationships that, to paraphrase Shopify Plus general manager Loren Padelford, “create happy portfolio companies, not contracted ones”.
In corporate venturing — like in company building — simply deploying more capital is never the core driver of sustainable success. Incumbents unable to grasp this will inevitably fail to build the crucial combination of strategic insight, cultural commitment and market reputation required to avoid irrelevance and build a strong platform for future growth.
Brett Bivens is a Paris-based venture investor at TechNexus, a company that helps large corporations collaborate with and invest in startups.