It’s Never Too Early
Productive venture capital relationships require time & effort
Most people don’t think about college football during the summer, but it is the heart of the recruiting season. Schools try to get a leg up on the competition to attract the best players. Last year, the University of Hawaii even offered a football scholarship to 11-year old Titan Lacaden to jump ahead of other potential suitors.
While the idea of offering a scholarship to a 5th grader seems silly (my 8th grader can barely remember to brush her teeth), it is part of a growing trend. Lane Kiffin, then of USC, made headlines about a decade ago by offering a scholarship to a 7th grade quarterback. Now, all the biggest programs, from Alabama to Michigan, offer scholarships to middle schoolers.
Importantly, these scholarships are non-binding. The team can pull the offer, and the player can decide to go elsewhere until signing in the senior year of high school. What these early commitments offer is a chance to get to know each other better. The coach and player will spend time together in the intervening years, and assess mutual fit.
Many venture capitalists leverage this model, too. Good Series A investors try to get to know companies raising seed rounds. Series B will look to Series A, and so forth. There are benefits of talking to these companies before an investment: the VCs get to feed their deal flow pipelines early, start selling themselves, and develop a more complete view of these companies over time.
Showing Value to Entrepreneurs
Getting into hot VC deals can be as competitive as signing a 5-star football recruit, so it is important for VCs to sell themselves during the process. Smart entrepreneurs will look past firm reputations and valuations and see which investors will help most. What type of advice do they give? Are they able to make valuable connections? Do they follow through with what they say they will do?
This selling process can be just as important for corporate VCs. A key value proposition for corporate VCs is bring value to start-ups beyond just cash, whether it’s as a customer, a distributor, a manufacturing partner, or a subject matter expert. These early interactions give the corporate VC a chance to share expertise during pilots and initial commercial relationships.
With the number of active CVCs tripling from 2011–2016, many corporate VC funds have only recently been formed.¹ So there is less of a reference base with companies these new funds have helped. In fact, in 2017, 186 CVC groups made their first investment.² Some entrepreneurs may benefit from an “extended courtship” to see what these new CVCs are really like.
Learning About Companies Over Time
The flip side is equally important, as these extended interactions present an opportunity for an investor to gain perspective on the company. Due diligence for an early stage company typically takes 4–6 weeks, but sometimes is rushed for a “hot deal.” Early interactions can help VCs make better informed decisions, especially through the pressure of chasing a deal.
Watching a company’s performance over time reveals key information. Do they hit their milestones, financial and otherwise? What are the strengths and weaknesses of the management team? How does the product team deliver? How does the CEO deal with a curve ball? Mark Suster has described these benefits of seeing how a company performs over time in his article Dots vs. Lines.
The learnings during this period can be even deeper for corporations, especially if there is a commercial relationship. How well do the companies work together? Do the products integrate as planned, as there are often surprises transitioning from paper to practice? While fit is clearly important for all investments, it is more pronounced for a corporate VC, where unlocking strategic benefits is often tied to the working relationship of the companies.
Commercial Pilots
Commercial pilots are a good model for both parties. Pilots test hypotheses in a less risky way. If a commercial pilot succeeds, the CVC can pursue an investment in the next round. If the pilot fails, an investment may not have made sense in the first place. It is much easier to unwind a commercial pilot than an equity relationship, since the latter can last for half a decade or more.
In addition to learning how the corporate operates and at what clock speed, these early pilots and commercial deals can help startups gain market traction. These benefits are particularly true for a seed stage company that is looking to validate product-market fit.
CVCs Increasingly Look at Seed
Of course, not all corporate investors like to wait until the next round. One of the biggest misconceptions about corporate VCs is that they don’t make seed stage investments. Not only do many corporate VCs consider seed investments, their rate of seed investing has nearly doubled in the past eight years. According to CVC researcher and professor Dr. Martin Haemmig, “seed funding, which was barely done five, six, seven, eight years ago by any of the corporates is kicking in all over.” While most CVCs invest in companies with products already in the market, the percentage of seed deals with CVC participation has increased from 4.2% to 7.4% since 2010.³
An extended pre-investment relationship can be the best form of due diligence for both VCs and startups. Getting to know each other first can be a valuable way for both sides to assess a long term relationship, while helping young companies grow in the short term. If an investment is ultimately consummated, familiarity should allow both sides to hit the ground running.
Back to college football, these early commitments have helped players arrive on campus more familiar with coaching staffs and systems, able to contribute from day one. As to the original 7th grade QB, he is an example of learning when there isn’t a fit and both parties may be better off. David Sills never went to USC, instead playing at West Virginia, where last year he was an All-American… at wide receiver. And the quarterback that USC did recruit was the third overall pick in the NFL draft this past April.
¹ GCV, 2017 World of Corporate Venturing Highlights.
² CBInsights, The Top 20 Corporate Venture Capital Firms of 2018.
³ Pitchbook data, Touchdown analysis.
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Eric Budin is a Director at Touchdown Ventures, a Registered Investment Adviser that provides “Venture Capital as a Service” to help leading corporations launch and manage their investment programs. He also marks National Signing Day on his calendar, spends way too much time on Michigan recruiting blogs, and went to Rome to see Michigan’s spring practice last year. Olga Belyanina, an analyst at Touchdown, contributed to this article. She isn’t quite as avid a college football fan (tennis is her thing), but she grew up in College Station where there are only two sports: football and spring football.
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