Corporate Venture Capital (CVC)

Corporate venture capital (CVC) is an equity investment by an established corporation in an entrepreneurial venture. In contrast to individual venture capitalists, who are purely focused on financial returns, most corporations seek strategic benefits in addition to financial returns.

Introduction

Corporate venture capital (CVC) is defined as an equity investment by an established corporation in an entrepreneurial venture. Corporations made $2.3 billion in CVC investments in 2012, and 15.5 percent of all venture capital rounds that year had at least one corporate investor. While down from its peak in terms of absolute dollars, corporate investors have accounted for about 15-20 percent of venture capital activity every year for the past 15 years (NVCA).

In the past, corporate venture capital activity exhibited substantial ebbs and flows, where a of CVC  programs were set up only to be terminated within a couple of years. There have been a number of such CVC waves since the first wave of the 1960s. Interestingly, the majority of CVC programs during the most recent (4th) wave of the mid 2000s have been active for four years or longer, a sharp departure from the one- to two-year longevity of CVC unit during earlier waves (Dushnitsky 2012). The increase in program longevity suggests that corporate venture capital is becoming an integral part of firms' innovation strategy. In contrast to VCs, who are purely focused on financial returns, most corporations seek strategic benefits in addition to financial returns.

We suspect that CVC has grown, in part, because of the increasingly important role that small firms and startups play in developing innovation. For example, small firms' share of R&D spending grew from 4.4 percent in 1981 to 24.4 percent in 2009 (NSF 2012).

Corporate investors hope to leverage that innovation with an eye toward stimulating development of complementary products and services, gaining a window on novel technologies, or identifying new market opportunities.

From the investee perspective, the goal again extends beyond obtaining more capital to deriving knowledge resources and benefiting from the reputation and connections of the investor.

The tradeoff is that ventures are often concerned about misappropriation of their technology by corporate investors. There are some limited actions they can take to prevent such behavior such as selecting investors wisely and limiting their ownership stake and access; however, relatively little is known about how ventures can manage their relationships better with corporate investors to derive greater benefits from these relationships.

Finally, we have an idea of some good investor practices, such as investing in a syndicate, making related investments, adopting a nurturing attitude towards portfolio companies, and seeking access through Board memberships or observation rights.

Discussion

Strategic Gains

Why do established firms invest in entrepreneurial ventures? Early surveys reported that the pursuit of VC-like financial return was the main objective for most CVCs, yet a large minority also emphasized the role of strategic objectives (Siegel, Siegel, and MacMillan, 1988). More recent surveys (e.g., Ernst & Young 2002, 2009) find that firms explicitly balance strategic and financial objectives, with the fraction of solely financially orientated CVC units on the decline. Large sample analysis of actual CVC investment patterns substantiate the strategic facet of CVC activity (Basu, Phelps, and Kotha 2011) (Dushnitsky and Lenox 2005a) (Basu, Phelps, and Kotha 2010) (Dushnitsky and Lenox 2005b) (Gaba and Meyer 2008) (Sahaym, Steensma, and Barden 2010).

In short, researchers now agree that it is not just financial gain, but also strategic returns that drive CVC activity (Wadhwa and Kotha 2006) (Dushnitsky 2006) (Dushnitsky and Lenox 2006).

In particular, CVC investment may be used to identify novel products, services, or technologies to replace existing corporate offerings (i.e., targeting potential substitutes). In most surveys, firms listed "gain a window into new technologies and new markets," "import or enhance innovation within existing business units," and "identify potential acquisition opportunities" as key strategic objectives for investing.

Alternatively, CVC investments may complement corporate businesses by funding ventures that increase the value of the corporate ecosystem (Brandenburger and Nalebuff 1996) (Riyanto and Schwienbacher 2006) (Gawer and Henderson 2007) (Dushnitsky and Shaver 2009). For example, several academic studies suggest that firms' CVC investments make their internal R&D efforts more productive (Dushnitsky and Lenox 2005a) (Keil, Maula, Schildt, and Zahra 2008) (Wadhwa and Kotha 2006).

Despite this wide range of strategic goals, strategic benefits are difficult to measure, and so CVC programs are frequently evaluated solely on their financial performance.

Investor Outcomes

Research examining investor outcomes from CVC activity has mostly examined corporate innovation (or transfer of technical knowledge) of investors. Researchers rely on patent citations to measure innovation or knowledge transfer (Dushnitsky and Lenox 2005b) (Wadhwa and Kotha 2006) (Schildt, Maula, and Keil 2005). Researchers have generally recognized the need for CVC units to carefully manage relationships with the corporate parent (Block and MacMillan 1993) (Keil 2004) and with portfolio companies (Basu, Phelps, and Kotha 2011) (Dushnitsky 2006). The nature of the relationship with the corporate parent determines the support and resources available to the CVC unit, while the relationship with the portfolio firms determines how the investor benefits from investments.

Investee Outcomes

A few studies have looked at the relationship between CVC investments and performance outcomes from a venture perspective. Some researchers have shown that ventures that are able to access investor knowledge grow more rapidly (Weber and Weber 2007) and, relative to VC-funded ventures, likely result in an IPO (Gompers and Lerner 2000).

Corporate investors provide access to critical complementary assets. As a result, CVC-backing is associated with a unique impact on advancements startups' innovation. Consider, for example, recent evidence from the life sciences. The introduction of a cutting-edge drug faces multiple hurdles, including a high level of uncertainty, ever-increasing investment amounts, and longer time to market. Accordingly, the sector attracts fewer independent venture capitalists. Corporate venture capital proves instrumental in driving innovation in the sector. 

Alvarez-Garrido and Dushnitsky (2016) find that CVC-backed biotechnology startups are more innovative than their independent VC-backed peers. The superior innovation performance manifests itself both in terms of startups' scientific publication track record, as well as their patenting output. The evidence suggests that corporate venture capitalists not only select innovative ventures but also nurture them to success. Specifically, the percentage of VC–backed ventures that evolved from a position of innovation-laggards to that of innovation-leaders is only half of that for CVC-backed peers. Further investigation indicates that the benefits to the startups are associated with preferential access to corporate advanced facilities, skilled R&D personnel, and manufacturing and regulatory know-how. These are resources that are uniquely characteristic of VC funds that are part of large organizations.


Defense Mechanisms

There is some research examining the mechanisms implemented by ventures to defend their resources from corporate investors (i.e., reducing investor ownership stakes, secrecy, timing, and refusing board seats). Although defense mechanisms and safeguards can protect a venture's resources, they also restrict its ability to learn and collaborate with its CVC investor (Maula, Autio, and Murray 2009).

CVC Participation

Researchers have examined industry- and firm-level factors on why some firms and not others participate in CVC activity (Basu, Phelps, and Kotha 2005) (Tong and Li 2011). Interestingly, we also have pretty good models at predicting which firms will start making CVC investments (at least for U.S.-based firms) (Dushnitsky and Lenox 2005b).

Comparison to VCs

Although independent VCs will often refer to CVC investors as "dumb money,"[1] it's not clear how accurate that characterization is. For example, several studies indicate that that their portfolio companies are as likely to have successful exits as those funded only by private VCs (Ivanov and Xie 2010) (Maula and Gordon 2002) (Park and Steensma 2012).  

However, there is some evidence that corporate investors pay a premium to be in a round, and this leads them to experience a lower internal rate of return (IRR) (Allen and Hevert 2007). Also, as with independent VCs, it seems that the high returns are concentrated in the most successful investors, with the majority of investors at best breaking even or losing money.

CVCs tend to be different from independent VCs along a couple of key dimensions; for example, it tends to take them longer to close a round (than independent VCs), and they tend to be less actively involved with their portfolio companies.

However, portfolio companies interact more with their corporate investors with whom they share greater overlap. Because of concerns about misappropriation, though, the startups are more likely to employ safeguards (i.e., surrender lower equity share, bar a board seat from its CVC investors, or wait before raising money from corporate investors until a patent has been filed or the product is developed.)

Finally, corporate investors rarely give their CVC group a "carried interest" (i.e., allow them to take equity in the startup). Because of that, CVC managers can't make nearly as much money as successful independent VCs can. Therefore, if the CVC managers become successful, they often jump ship and leave for jobs at independent VC firms.

Relationship to other Lit

The CVC literature is related to the corporate entrepreneurship and spin-out literatures. The former, also known as intra-preneurship, refers to various internally oriented activities, including investment in internal divisions, business development funds, etc. (e.g., Hill and Birkinshaw 2008, Guth and Ginsberg 1990, Thornhill and Amit 2001, Zahra 1995). 

The two literatures diverge on a couple of fronts. First, a CVC unit targets external entrepreneurs, while corporate employees are funded by intra-preneurship initiatives. Second, a CVC competes and invests along with other investors (e.g., independent VCs, angel investors, etc.), whereas intra-preneurship focuses on initiatives that do not consider competing sources of capital.

The CVC literature also differs from the alliance literature. Both serve a similar purpose:  a mechanism for two or more independent firms to exchange resources. That said, they are distinct in the nature of the relationship and its organization (Dushnitsky and Lavie 2010)

Alliances imply mutual dependence of otherwise independent firms that engage in interactive coordination of various value chain activities such as joint R&D and marketing initiatives. Corporate venture capital, on the other hand, sees innate asymmetry between an investor and a funded venture, and involves a unidirectional flow of capital to a venture that independently performs its value chain activities. Indeed, the two activities are managed via separate organizational units aimed either at alliance management (Dyer, Kale, and Singh 2001) or venture capital investment (Keil 2002) (Dushnitsky 2006) (Maula 2007). This divide reflects managers' views of alliances and CVC as separate activities, and is also manifested in distinctive staffing practices (Dushnitsky and Shapira 2010) (Block and Ornati 1987).

[1] For example, see the recent Forbes interview with Bob Ackerman of Allegis Capital: "Corporations should be approaching Silicon Valley by establishing trusting, long-term relationships. Corporations are in and out all the time of the economic cycle, always at the wrong time. So they get used as cannon fodder. It's just the nature of how things get done…. There's so much history of venture capitalists abusing corporations and the corporations saying 'it's different this time' when it's not.

Future Research

Trajectory of Field

We note that more CVC studies have been published in top academic journals over the last decade than in the previous four decades combined. Moreover, the topic draws interest from various disciplines including economics, entrepreneurship, finance, organizational theory, strategy, and others. The growth drivers are twofold. First, the CVC phenomenon became more prevalent with many corporations across different sectors and continents pursuing CVC activity. Second, the introduction of the VentureXpert databases enabled rigorous statistical analysis, which resulted in higher level of generalizability of CVC research as studies address a wider set of causal factors and tackle unobserved heterogeneity. Equally important, robust analyses have led to further theoretical development.

Industries

Although we know much more about corporate venture capital nowadays, there are a number of issues that merit further investigation. Many existing studies focused on the telecommunication sector and, to a smaller extent, the biotechnology industry. Future work should investigate the impact of corporate venture capital in other settings, such as chemicals and medical devices, as well as rapidly growing sectors such as clean energy. Future studies could also systematically compare CVC patterns across sectors. Cross-industry comparisons are well positioned to highlight important boundary conditions. 

There is evidence to suggest that the higher the level of competition in its industry, the more inclined a firm is to pursue innovation through corporate venture capital (e.g., Dushnitsky and Lenox 2005a, 2005b; Sahaym et al. 2010). Other industry-level factors are also known to be associated with the pursuit of corporate venturing. Specifically, industries experiencing greater level of technological ferment, or weaker Intellectual Property regimes, are more likely to be home to CVC-investing firms.

International: U.S. corporations investing abroad

Over the past decade, the venture capital market expanded outside the United States (e.g., Jeng and Wells 2000; Mäkelä and Maula 2005; Wright, Pruthi, and Lockett 2005; Guler and Guilien 2009). Corporate venture capital investments parallel these broader trends; it is increasingly more likely to observe corporate investors backing European- or Asian-based ventures. Future work should investigate what factors stimulate CVC investment across the globe. Scholars could also distinguish between those factors that are driving firms' investment behavior (i.e., originating CVC), and those that attract corporate venture capital (i.e., receiving CVC). Other questions include:

  • Which firms are most likely to begin investing overseas first?
  • What are some of the additional complications involved with making investments overseas? How have firms responded to these challenges?
  • How do the returns (in terms of both strategic and financial benefits) compare to the firms' U.S.-based investments?
International: non-U.S. corporations

Until now, the lion's share of CVC research has studied U.S.-based firms making investments in U.S.-based startups; however, over the past few years, corporate venture capital has become far more international, with non-U.S. firms willing to invest in startups (whether in their own country or elsewhere). Outstanding questions include:

  • How do such firms differ from U.S. firms in their propensity to adopt CVC programs?
  • How do rules regarding corporate governance, minority shareholder rights, and intellectual property (among other things) affect the willingness of firms to make CVC investments (and for startups to accept them?)
  • Are international firms different from U.S. firms regarding the structures they adopt, the type of firms they invest in, and how they compensate their CVC managers?
Misc.

Research should examine how changes in the institutional environment affect CVC activity, since these can significantly enhance the attractiveness of CVC activity to a corporate parent. While studies have examined the effect of a firm's internal R&D and the number of alliances in which it participates on CVC activity (Dushnitsky and Lavie 2010), we know less about how acquisitions or diversification impact the propensity of firm to undertake CVC activity. 

Research could directly examine how knowledge transfer occurs in the investing firms studied to provide more insight into conditions under which investors actually derive exploratory learning benefits from such relationships (Narayanan et al. 2009). More research should focus on how investors manage their relationships with portfolio companies and the specific processes used by CVC programs to build and nurture such relationships, especially in light of the different motivations for CVC activity. From a venture perspective, researchers could also examine how internal characteristics (e.g., management-team composition, marketing and technological capabilities), and external conditions (e.g., the availability of VC funds) influence a venture's perception of the costs and benefits of CVC funding. Research should also examine how investor characteristics influence venture outcomes and the roles played by different investors in impacting a venture's performance. 

Finally, the question of whether defense mechanisms or safeguards are beneficial in the long run needs examination. Although it is recognized that trust between an investor and portfolio company can substitute for formal safeguards (Weber and Weber 2007), the approach used by ventures to gain trust is not well understood.

Methods

These new research questions underscore the need for broader methodological approaches to the study of corporate venture capital. Case studies and survey-based work could, once again, play an important role in advancing CVC research. The study of corporate venture capital was first stimulated by the evidence reported in Siegel et al. (1988); McNally (1997); Chesbrough (2002); Birkinshaw, Murray, and van Basten Batenburg (2002); Keil, Autio, and George (2008); and others. The insights gleaned through these approaches offer rich and detailed information regarding the new issues and challenges facing corporate investors in the 21st century.

Similarly, formal approaches could further advance our understanding of corporate venture capital. Formal models have been instrumental in deciphering the ever-complex CVC phenomenon. A small body of work already tackles important issues such as the role of CVC in facing downstream rivalry (e.g., Fulghieri and Sevilir 2009), seeding complementary markets (e.g., Riyanto and Schwienbacher 2006), attracting and retaining top talent (e.g., de Bettignies and Chemla 2008), and innovation efforts across the business cycle (e.g., Jovanovic and Rousseau 2014). Formal work has been particularly effective in unpacking the opposing forces a corporate-entrepreneur pair experiences in the market for capital and product markets (e.g., Hellmann 2002, Dushnitsky 2004), as well as the subtle interactions that shape the internal organization of innovation and CVC efforts (e.g., Aghion and Tirole 1994, Anand and Galetovic 2000, Anton and Yao 1995, Gans and Stern 2000, Hellmann 2007, Klepper and Sleeper 2005, Mathews 2006, Robinson 2008). As CVC activity becomes more embedded with other firm activities, there are subtle interactions that can be further illuminated through formal approaches.

Data Sources

Sources that require a subscription

Thomson's VentureXpert (now called ThomsonOne Private Equity)[1] and Dow Jones VentureSource (sometimes referred to in academic papers as VentureOne)[2] are the two primary venture capital databases that have been used in prior academic studies. Both are subscription-based and are quite expensive.

Prior to the year 2000, most CVC studies were based on case studies or small sample cross-sectional surveys (<50 respondents). At the turn of the century, we saw an increase in large-sample econometric analysis following the introduction of the commercially available database; VentureXpert. The database was offered by Venture Economics (now part of Thomson One) and focuses on comprehensive transactional data, namely the characteristics of the investment and the parties to it. Data is collected through multiple sources including the investment banking community, surveys of general partners and their portfolio companies, government filings, and industry associations (European Venture Capital Association, National Venture Capital Association, etc.). Because each investment generates a unique record, the database contains full history of investors' investments in each venture. While the data is not without limitations, it is among the most comprehensive record of private equity activities in general, and venture capital investments in particular.

Free sources

The National Venture Capital Association (NVCA) releases aggregated data on a quarterly basis, and this data can generally be broken out by state, country, region, stage of development (early stage vs. later stage), and type (corporate venture capital vs. state programs vs. independent VC). This data can be viewed by going to http://www.nvca.org/ and then clicking on the "Stats & Research" tab.

Crunchbase is an open contribution database (i.e., the VCs and entrepreneurs update the data themselves) that is overseen by TechCrunch. Crunchbase is good at providing specific transaction-level detail (i.e., how much did startup X raise last year, or what are Kleiner Perkins' most recent investments?), but not for higher level, aggregate data by industry (i.e., how much did cleantech companies raise last year?). Geographical aggregation is possible, but must be undertaken by the user.

Business School Cases

The following are business school cases that cover corporate venture capital (sorted by year). As you can see, most were written in the late 1990s or early 2000s. All are available (and are free to educators after registering). More cases can be found on Gary Dushnitsky's website as well.

Case - Year - Case Number

News Sources
Industry & Government Reports (free to download)

Footnotes

[1] Venture Economics (and its database, VentureXpert) is the official data partner of the National Venture Capital Association (NVCA). The company and the VentureXpert database were subsequently acquired by Thomson Reuters.

[2] The research firm VentureOne introduced their VentureSource database in 1987. Dow Jones purchased the firm in 2004.

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