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New Era for Corporate Venture Capital

Igor Sill Monday, 14 September 2015.

It would appear that US innovation has never been brighter. Global corporations are spending in excess of $650 billion on R&D annually, most of it on technology advancements. The top technology R&D expenditures are from worldwide corporate giants including Samsung ($13.8B), VW ($13.5B), Intel ($10.6B), Microsoft ($10.4B), Roche ($10B), Novartis ($9.9B), Toyota ($9.1B), Johnson & Johnson ($8.2B), Google ($8B), Merck ($7.5B), IBM ($6.2), Cisco ($5.9), Oracle ($5.2B), APPLE ($4.4B) and HP ($3.5B) representing a cumulative increase of $9 Billion over the previous year, according to Fortune magazine.

shutterstock 268288181This outdated R&D model of the industrial organisation that progresses through internal lab development has been eclipsed by the reality of new, venture capital backed start-ups that achieve far greater competitive advantage through rapid cycles of innovation, customer acceptance and global distribution. IBM accounted for $6.2 Billion of R&D which ironically exceeded all of the annual venture capital industry's investments made. Over this past decade, the rate of technology innovation has rapidly accelerated, challenging those Corporations' ability to maintain a competitive edge. Corporate R&D executives lie awake at night worried that they may be blindsided by innovative technologies they’re not aware exists. The technology innovations and investment returns are obvious, venture-backed technology companies have consistently exceeded every corporate R&D outcome.

Today's corporate R&D is no longer a simple matter of new product introduction, or merely adapting to the new technology realities. Instead, it has become a keenly strategic process that utilises all available resources. Corporate R&D is realising that they must partner with outside ventures in order to stay ahead of the game.

Corporate investments in tech start-ups are growing at an increased pace, according to the National Venture Capital Association. These corporations are eager to optimise Silicon Valley's technology, innovations and talents into their R&D ambitions.

I've noted an interesting trend in the number of multi-national corporations now opening up business development offices to capture access to the explosion of start-ups and the pace at which these deals are happening. During the past four years more than 475 corporate venture funds have started, bringing the worldwide total to more than 1,100, according to Global Corporate Venturing. According to Volans, corporate venture capital surged to 1,068 investment transactions valued at $19.6 Billion last year. Corporate venture arm transactions comprised nearly 20 percent of all these deals.

Of foremost interest to these corporations is venture capital's emergence as an exemplary financial engine for the explosive growth of advanced new technologies that are changing the world while creating entirely new industries. The reasons for venture capital's successes are many. The venture structure encourages innovation and gives entrepreneurs the tools they need to create, develop and launch their innovative ideas globally. In periods of low growth and high strategic uncertainty, venture investments can serve a very distinctively valuable business objective.

It can be a rich source of technological advantage and information about potential transformations in the companies’ core businesses. The more established corporations are increasingly dependent on innovative new technologies in order to remain competitive, thus it would seem natural to incorporate a venture capital model for a portion of technology development. This approach exploits venture capital's efficiency in developing technology, its access to new advancements, its capacity to respond quickly to changing technology, its ability to leverage additional resources throughout the development cycle all while returning favorable financial returns. A corporate venture arm can also serve as an intelligence-gathering initiative, helping a company protect itself from emerging competitive threats. Also, these corporations use their venture capital network to explore sectors of longer term strategic interest. Corporate venturing can provide both an inside look at new developments as well as access to possible ownership, joint ventures, licensing and use of new ideas, responding rapidly to market shifts and demands. As competition intensifies and uncertainty increases, corporate venture can open new strategic avenues and options.

Such an approach has proven successful for companies such as Apple, Salesforce, HP, Facebook, Oracle, Dell, EMC, Google, Cisco, as well as other technology focused companies.

By combining its own capital with that of independent VCs, a corporate venture arm can magnify the impact of its investments. This is particularly beneficial when technological uncertainty is high. In the financial services sector for example, VISA elected to invest in Square, a mobile-payment start-up whose technology transforms smartphones and tablets into credit card payment readers.

Another excellent example is Apple’s iFund, supported by Apple and launched in 2008 by the venture capital fund, Kleiner, Perkins, Caufield & Byers. The iFund provides a very unique leverage; it encourages development of technologies that rely on the Apple’s platform, further increasing demand for its own products. As of September 2015, Apple has acquired over 70 companies while building a critical mass of innovative applications for its iPhone and iPad products. This approach, as well as Apple’s demanding culture, helped it achieve one of the fastest growth trajectories and largest market capitalizations of any public traded company. Given this success, it is not surprising that others have initiated venture investments.

Getting in the venture investment game

The decision making process of either forming a corporate venture arm, co-investing alongside venture firm or engaging a corporate venture investment partner is a critical one. For purposes of this article, I am assuming that many corporations have already recognised the many pitfalls of staffing a corporate venture arm, and have long since abandoned that path. Of course, I'll exclude Intel Capital, which stands out as an anomaly having developed a unique culture and successfully intertwined its venture relationships. Deciding between direct start-up investment, venture capital fund investment, or the more conservative corporate venture partner path should entail a great deal of research and most importantly, compatibility with your long term strategy. Mature corporations are balancing their R&D exposure by funding some of their technology development through partnerships with venture capital teams.

Location, Location, Location

Though there are bright pockets of venture activity globally, the epicenter of premier technology innovation and talent continues to emerge from Silicon Valley. This is a very unique place with a supportive ecosystem ready to back entrepreneurs' requirements for launching startups successfully. The weather is excellent, the lifestyle is wonderful, and the scenery exquisite. Stanford University, UC Berkeley, USF and University of Santa Clara provide an abundance of research and continually spin off new patents along with a steady flow of budding intellectual entrepreneurially driven graduates. Hence, 80 percent of venture capital and angel investors operate in Silicon Valley; and, not surprisingly, 90 percent of the highest venture returns occur here.

Global companies bring a great deal of value to the start-ups they fund in the form of brand reputation, skills, and of course, deep resources—from a vast customer base, global distribution channels to armies of sales professionals. They also change the perception outside investors view a start-ups’ prospects. Institutional investors often anticipate that a corporate-backed start-up will ultimately be acquired by that company, and generally at a much higher valuation, reflecting the strategic benefits that start-ups can offer its corporate investors.

There exists a massive market with a strong rising tide for optimizing this new corporate R&D paradigm, one with increased efficiencies and far better results. The opportunities of advanced innovations, globalisation and the internet's disruptive nature make it a period of significant transformation that is creating extraordinary corporate value. Companies as diverse as BMW, Volvo, GE, GM, Novartis and General Mills are now complementing their traditional R&D by joining with other venture investors to fund promising, strategically aligned start-ups. The logic is indeed compelling. Given the benefits that venture investing provides, the real question is whether corporations can afford not to participate. In an economy where innovation spells the difference between success and failure, corporate venturing can secure its future competitiveness.

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Igor Sill

Igor Sill

Managing Director, Geneva Venture Group
Igor Sill is managing director of Geneva Venture Group and founder of Geneva Venture Partners. Igor has managed his own angel investment fund since 2003 and is also a Limited Partner in Goldman Sachs Investment Partners, Benchmark Capital, Norwest Ventures, Granite Ventures, The Endowment Fund, Fortress Partners and ICO Funds through his Reno, Nevada based Family Office.

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