This is part 4 of a multi-part series on corporate innovation. Part 1 and part 2 focused on how to structure a CVC to function as effectively as a traditional VC fund and part 3 discussed the right investment stage for a CVC and how it can access the same quantity of innovation for half the investment. The series continues with how to actually double the innovation on half the investment and to make the CVC the investor of choice for the hottest startups.
All too often, a corporate venture capital (CVC) will over-negotiate from a position of strength and demand nonstandard terms. For example, a CVC may demand a right of first refusal on sale. From the corporation’s perspective, this is a reasonable way for them to protect their innovation advantage. From the startup’s perspective, this deters other buyers from bidding on their startup, the startup is limited to extend resources if the corporation can exercise a right of first refusal. Senior management may also seek to block the startup from selling to competitors, limiting the startup’s ability to grow. At best, these demands slow the process down; at worst, they kill the deal… or the startup.
Instead of over-negotiating from a position of strength, a CVC needs to take the startup’s prospective and structure a strategy that plays to the corporate parent’s strengths.
What do all startups need more than anything else? Customers! A CVC has unique and unfair advantage over traditional VC funds in this respect. Done properly, they can introduce a portfolio company into the organization, generating not only significant revenue but also meaningful proof points that will make the startup itself more investable overall. A smart startup makes room for strategic investors like this.
This means that a "follow-only" strategy may be a viable option for a CVC. Consider this value proposition to a startup, which you can get in writing with either a carefully constructed, but not over-lawyered, Investor Rights Agreement or warrant coverage:
"We will get you a pilot within the organization. If the pilot goes well, we will hard-commit to invest $500,000 in your next round*, as long as it is led by an institutional VC fund. If we cannot get you a pilot or if the pilot does not go well, we will not invest."
It's clear, it's concise, and it's compelling. Climb a hill, plant your flag, and start yelling it from the mountaintop. Startups will come to you.
No capital allocated to follow on investment lets the CVC halve the required fund size from $60 million to $30 million. A pilot-to-invest strategy that only a CVC can deliver on, enables it to double the number of startups it can invest in out of that same half-sized fund.
How do you engage at the right time? The above strategy only works, however, if the CVC gets the timing right. If the CVC engages too late and the startup raises its series A round before the pilot is complete, the effort is lost.
Pilots within a large organization can take six months (or more) to connect, structure, execute, and evaluate. CVCs need to understand what a reasonable timeline is for their organization and then target startups at the appropriate time. Engaging with startups three to six months after their seed round gives them time to complete the pilot nine to 12 months post-seed, which generally coincides with when the startups are beginning to raise their series A.
For additional insights on capturing innovation from startups, register to see my presentation at HIVE, www.hwhive.com.
This story appears as it was originally published on our sister site, www.hiveforhousing.com.
Acknowledgments: I’d like to thank David Coats (Correlation Ventures), David Gerster (JLL Spark), Blake Luse (Ferguson Ventures), David Teten (ask him about his new fund), Linda Isaacson (FPL Global), Jill Ford (Toyota AI Ventures), Stacey Wallin (Numinus, formerly at BD Tech), Ameet Amin (Proto Homes, formerly at Colliers) and everyone else who contributed their thoughts to this article.