Innovation Partnerships Need Preparation
Corporate innovators can use this checklist before closing business development deals with startups
Prior to becoming a Venture Partner at Touchdown Ventures, I co-managed the venture program at 20th Century Fox, working with Touchdown’s team including the firm’s co-founder Scott Lenet. I was responsible for the strategy and implementation of commercial relationships with startups. As Scott and I have highlighted in Shifting Gears and Five Case Studies For Commercial Transactions Between Startups & Corporations, leveraging commercial partnerships is a unique way corporate VCs (“CVCs”) can get to know startups before, or in parallel to, an investment.
Before we closed our first commercial deal together, I asked a question that Scott now jokingly calls Kearns’ Law — “does this startup have enough funding, or might the company go out of business in the middle of our pilot?”
This is an obvious question, but it was critical for us to know before we closed the deal. And it made us consider what other questions we needed to address with the startup and our own corporation before entering into an agreement.
As a result, we developed a framework to prepare for commercial deals. Clearly, we couldn’t require the same level of research and diligence that we would for an investment, but many of the general topics are the same, and we agreed that any commercial deal would benefit from a deliberate approach.
There are a few key reasons why this is important:
You need to ensure your resources are deployed on the most promising opportunities. Your organization benefits from having the time and budget to negotiate, implement, and manage these deals successfully. It’s not possible to pursue commercial deals with every startup you meet, so diligence and preparation can help you prioritize among these opportunities.
Avoiding preventable failure
Avoiding embarrassing mistakes wherever possible is a good thing, especially if they could have been identified through basic research into financials, management team, and customers. Limited cash runway, lawsuits, lack of leadership, culture mismatch… these are things you’d want to know before starting a commercial deal that could reflect poorly on your program.
Aligning for success
The right amount of preparation can set the stage for the commercial deal to be successful. It is critical to articulate the goals of both parties to avoid misunderstandings and to ensure resources are available on both sides to achieve those goals.
Choosing the right transaction type
Adding the rigor of preparation to commercial deals can help you decide if you also want to make an investment, or potentially engage in M&A discussions instead. Without some basic information that can be discovered through the process I’m about to describe, you might be guessing what type of transaction would best benefit your corporation.
The key components of the framework include 1. Goals, 2. Scope, 3. Startup Readiness, 4. Corporate Readiness, and 5. Deal Structure. For each component, an initial thesis should be defined, and then that thesis can be evaluated during the deal and after the engagement is complete. As we all know, post-mortem analysis can help us understand what worked, what didn’t, and how we might approach similar engagements in the future.
Setting goals is an essential first step for any external innovation effort. Without clear strategic objectives and quantifiable measures of success, it’s very easy for business development deals to go astray.
- What strategic objectives will the partnership address? Why is this deal necessary? Why should this be a priority compared to other deals that could be done?
- How might this deal support the goals of the CVC program, if at all?
- What does the startup want, besides being in business with the parent company? Can the parent company realistically deliver that? Remember, these deals should be mutually beneficial.
- What metrics will be used to evaluate success? Increased revenue? Cost savings? Access to new customers? Something else?
- If it is initially a pilot, what triggers would justify expanding the deal?
Clearly articulating goals from each party can create accountability for the success of the transaction. After determining why you want to do the deal and how you’ll measure success, the next step is to answer what you’ll be doing:
- What business unit will be involved in the partnership? Why is this a priority for them?
- What products or services will the partnership cover?
- Is this partnership territory specific or global?
- Is this a small pilot or will it be launched at scale?
- Can the relationship be extensible? What other business units or products or services might be logical next steps, if the initial deal succeeds?
3. Startup Readiness
It’s reasonable to expect that you will be taking some risks when you execute a commercial deal with a startup. But the risks should be assessed, and undertaken consciously. By understanding these risks, you should be able to address some or all of them with the right commercial terms. While you don’t want to put a startup through the gauntlet of full venture capital or M&A due diligence for a business development deal, it would be irresponsible not to ask some basic questions before executing a commercial contract. These include:
- Whether the startup has sufficient funding to make it through the term of the deal?
- Does the startup have the internal people resources needed to execute the partnership?
- Is the startup competent to address the corporation’s legal, regulatory, safety requirements or other “big company bureaucracy” that is likely a requirement at your company, that a startup may not have considered?
- Have you done any references on the startup’s relationships with other business development partners? How have they performed?
4. Corporate Readiness
As corporate VCs, we are often focused only on whether the startup is ready to work with us. This was another key lesson learned as we prepared for that first commercial deal at 20th Century Fox. In our role between the corporation and the startups, we also have to make sure that the corporation is prepared to work with the startup. These partnerships should be designed for mutual benefit, and that means the corporation needs to be prepared to engage and execute effectively.
This section will help your organization define the process and resources needed to successfully engage with startups.
- Does the corporation need to allocate additional funds to execute the partnership? Which P&L will cover the cost?
- Who from the corporation needs to be involved? Who will own this relationship?
- How much time do employees need to devote to the initiative?
- Does your corporate culture encourage and reward its employees for engaging with startups?
As a side note, this is good advice for any of your portfolio companies interested in working with corporations other than your own. Your portfolio companies should assess whether the partner is nimble enough to move at the pace necessary to execute.
5. Deal Structure
Finally, your corporation should reflect all of the previous preparation in your proposed deal structure, to ensure that what you’re putting in place has the greatest chance of success. Even if a business unit executive is ultimately responsible for the execution of the commercial deal, your corporate venture team can play a role coordinating between the startup, your internal champions, and external legal counsel.
- Is the deal structured to achieve the specific goals you’ve identified?
- Is the deal mutually beneficial?
- Are the key metrics for success described in the deal structure? Are milestones clearly defined?
- Are the risks you’ve identified addressed through the terms of the deal?
- Under what circumstances might it make sense to negotiate warrants for equity, or other rights that would deepen the relationship between the startup and your parent company?
- Are the legal requirements in your term sheet appropriate for startup engagement? Can the term sheet drafting and negotiation be streamlined in any way so that your company can act at the speed of a startup?
- How can your CVC team help support the deal?
The commercial deal readiness framework is just as much about assessing your own organization as it is about investigating a potential external innovation partner. At the highest level, corporate innovators should ask, “What does my parent company need, and what are we capable of? What does this startup need, and what is it capable of?” We encourage corporate venturing executives to customize this framework to meet the unique needs of your own corporate innovation and investment programs.
And of course, if you are running a startup pursuing a commercial relationship with a corporation, you can use this same framework to set your partnership on a path to potential success.
Thanks to Scott Lenet for his contributions to this article.
Beth Kearns is a Venture Partner with Touchdown Ventures, a Registered Investment Adviser that provides “Venture Capital as a Service” to help corporations launch and manage their investment programs.
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