According to a 2017 INSEAD study, the average corporate venture capital program lasts only four years. In their book The Venture Capital Cycle, Paul Gompers and Josh Lerner of Harvard Business School identified three weaknesses to explain why these corporate venture programs fail, including lack of well-defined missions, insufficient corporate commitment, and lack of alignment in compensation schemes.
Based on our collective experience at Touchdown Ventures, where we manage venture capital funds for corporations, we have also identified practical reasons that can cause venture capital programs to fail. Here are our top five:
1. Lack of objectives and overall strategy
As Gompers and Lerner note, it is important to think through the strategy and business plan for the corporate venture program before launching and executing against that plan. I wrote “Measuring Success in Corporate Venture Capital” to discuss how to establish and measure goals. While the financial returns from corporate venture capital can take seven or more years, strategic returns can be realized much sooner if firms have thought through strategy and timing prior to launch. Corporate executives, who tend to focus on short-term progress, typically want to see results sooner than a decade. We have seen examples of well-run corporate venture capital programs realizing strategic returns in the first two years. For example, Bess Chapman of Jet Blue Ventures discusses multiple examples of commercial partnerships between Jet Blue and its portfolio company startups within the first two years of launching the Jet Blue venture program.
The goal setting and associated KPI process described in my “Measuring Success in Corporate Venture Capital” article provides a framework to demonstrate to senior executives at the corporation that the corporate venture fund can make an instant impact.
2. Inexperienced Team
Scott Lenet, my co-founder at Touchdown, wrote about the importance of hiring an experienced venture capital team in his Forbes post “How to Staff a New Corporate Venture Capital Effort.” Scott notes that according to INSEAD, “hiring at least one experienced venture capitalist correlates with ongoing success.” Hiring a team without prior VC experience would be the equivalent of asking someone to perform surgery without proper medical training and experience. On the other hand, an experienced VC has the “ability to assess entrepreneurs, identify key risks, understand business models, and avoid errors derives from the experience of reviewing thousands of businesses.”
3. Rushing To Make Too Many Investments
On average, a venture capitalist can review 100 deals before making a single investment. If you close five investments, your team should probably review at least 500 investment opportunities. To review 500 investments will likely take time and resources. Venture capitalists that rush to make too many decisions too quickly will likely have investments that lacked adequate diligence both from financial and strategic lenses. Further, a lot of deals that are reviewed in year one could provide a pipeline for investments in years two and beyond. As any experienced investor would tell you, once you make an investment you “own” that investment for a long time so you want to be disciplined to ensure that you have the best chance for success. So please do not rush this.
4. No Financial Discipline
There are some corporations that focus solely on strategic returns, ignoring whether the investment will generate a financial return. This creates several potential issues. First, this likely creates mis-alignment with the management team and the other financial investors, who are all focused on the financial return. Entrepreneurs often seek investors that are focused on the shared outcome of financial success. Second, if financial diligence is inadequate, it is hard to understand whether the company could be a good commercial partner. Corporate VCs should — at minimum — conduct financial diligence to help business units understand the health and viability of a prospective partner or vendor. Finally, a portfolio of venture capital investments that lose money will not provide confidence to senior executives at the corporation, which could certainly lead to the end of the venture program. As many people in our industry have stated “it is never strategic to lose money.”
5. No Budgets For Follow-on Investments
In another of Scott’s articles, “Pro Activity,” he writes about why structured programs outperform ad hoc programs. One of the characteristics of a structured program is building a portfolio, which should include a budget for follow-on investments. Venture capital is different than public equity investing where there is often a single investment transaction. In venture capital, start-ups may need several rounds of funding to reach cash flow breakeven and this reality forces the venture capital investor to budget for future investments into their portfolio companies. As Scott notes, professional venture capitalists “build — what else? — a portfolio model. This model shows a projected size and pace of transactions that is nearly always wrong, but presents a budget and sets expectations with the c-suite.”
There are many other reasons why corporation venture capital programs fail beyond these five. Ultimately the right formula is: hire the right team, set-up the program with the right goals and strategy, adhere to best practices, and be “friendly” to founders and start-ups. If you follow these steps, you can lower the risk that your program will be shut down.
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David Horowitz is the CEO and co-Founder of Touchdown Ventures, a Registered Investment Adviser, that manages venture capital funds for corporations. Thanks as always to my co-Founder and President Scott Lenet who helped contributed to this article.
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