The Rise of Corporate Venture Capital (TWTR, FB)

Corporate venture capital (CVC) is a subset of venture capital wherein corporations make systematic investments into startup companies, often by taking an equity stake in an innovative firm tangentially related to the company’s own industry. They often also provide marketing expertise, management, strategic direction, and a line of credit.

The largest CVC players are Google Ventures, Intel Capital, Salesforce Ventures, Comcast Ventures, and Qualcomm Ventures. One look at that list and it is apparent that technology companies are at the forefront of corporate venture capital. This is not surprising, because venture capital in general has largely focused on technology-driven startups since they have the fastest growth potential and relatively low overhead costs. Other industries such as biotechnology and telecommunications are also popular with CVCs. The types of funds are often not only industry-specific but also stage-specific. There are CVCs that specialize in early-stage financing, seed capital funds, and expansion financing. In contrast, there are also more broadly operated CVCs, with the only investment prerequisite being a strategically positioned startup in a large developing market. Overall corporate venture capital is a rapidly growing market space, with over 475 new funds started between 2010-2014 and over 1100 currently operational.

CVCs have grown in popularity and have special appeal to entrepreneurs. In addition to a prestigious name brand, CVCs can also offer industry expertise, a strong balance sheet, a bevy of connections, and an ecosystem of already successfully developed products. An investment from a corporate venture capital fund can also lead to a partnership with the CVC’s parent firm. These types of partnerships often times instantly boost company valuations, function as inherent advertising campaigns, and increase interest from competing CVCs and VCs. (See related: Which industries can benefit the most from venture capital?)

They also lend the additional benefit of less micromanagement and scrutiny. Whereas a micro VC might follow a company’s every move closely because the investment constitutes a large part of its portfolio, a corporate venture capital fund will often be more hands-off and more understanding of month-to-month fluctuations in a startup’s growth outlook. This is an often overlooked aspect that many entrepreneurs and founders greatly value; time spent constantly justifying strategies to investors is time not utilized towards building the business.

For the corporations, the purpose of CVCs is to increase the flexibility and entrepreneurial spirit of otherwise large, bureaucratic, multi-billion dollar companies. CVCs essentially act as a supplement to internal research and development. In this way, investing in small companies serves as a gateway for possible acquisition. Similar to how an internship is a test-run and can lead to a full-time job, a minority stake in a company allows the firm to evaluate the potential acquisition more in-depth and often times offer a buyout.

CVCs are also leveraged to scope out potential up-and-comers that can potentially disrupt the parent company’s line of business. The process of identifying and purchasing a portion of these startups functions as a hedge against the future failure of the parent company. This is another reason why technology companies abundantly use CVCs. The entire technology industry is easily disrupted, with small companies exploding onto the scene and overtaking giants every couple years. A few particular examples are Snapchat and Instagram (now owned by Facebook), both of which are infringing on the traffic to established social media sites like Twitter Inc. (TWTR) and Facebook, Inc. (FB). Before that, Facebook and Twitter effectively turned MySpace into an outdated vestige of the web. 

CVC funds utilize the cash reserves of their firm, which is why only businesses with stable cash flow can afford the luxury of a venture capital arm. CVCs are also different from traditional venture capital in that there is a built-in safety net; the CVC fund normally can draw upon additional cash from its parent company. Additional benefits are that CVCs don’t have clients to answer to, can afford a longer time horizon, and don’t need to spend time prospecting for more investors.

Corporate venture capital is an increasingly popular diversification and hedging tool for many large corporations. The success of Google Ventures, which has funded startups like Uber, 23andMe, Nest, Slack, and Jet, has also undoubtedly inspired firms to follow in its footsteps. Additional CVCs will only add to the growing competition for funding the best startup ideas, but whether other CVCs can have the same magnitude of success is yet to be determined.