JLL Spark’s CVC series, part 2: Achieving financial and strategic returns
In a recent blog post, JLL Spark introduced our corporate venture capital (CVC) series, and discussed why corporations establish CVC units. In the second part of this series, we’ll talk about how to structure a CVC unit to achieve maximum value for the parent corporation (Parent).
CVC units are created to deliver the dual mandate of financial returns and strategic returns by investing in startups and driving outside-in innovation through collaborations with the business units (BUs). In theory, it seems easy to achieve the dual mandate, but in practice many CVCs fall short of one or both goals. This is usually because incentives, responsibilities, and resources are not correctly allocated between the Parent, the CVC unit, and the BUs.
The problems start for most corporations when they focus their investments purely on the “strategic” side, meaning the investments focus on collaborations, rather than the financial aspects of investment. Strategic CVC units tend to be driven by the goals of the BUs, and often require a BU sponsor and a collaboration to make an investment. But since the BUs don’t know how to make venture capital (VC) investments, collaborations take time (more time than the best startups need to raise money) and resources to bear fruit, and the VC team is not empowered to make the best investments, strategic CVC units tend to miss a lot of good opportunities and make a lot of bad investments. Many corporations look back five or six years later and wonder why their investment track records are so poor.
On the other side, and lower in number, are the purely financially focused CVC units. They tend to have much better investment track records than their strategic counterparts, but they often don’t foster the collaborations that are necessary to create strategic value. That’s also not ideal for the Parent.
Fortunately, there is a solution. In the last 20 or so years since CVC has become a big thing, a clear body of evidence has emerged that supports a winning strategy to achieve the dual mandate. This strategy has been followed successfully by CVC units from top global corporations like Google, Salesforce, Siemens, Bosch, Schneider Electric, and Hitachi, just to name a few. There are a few key principles for success that need to be followed to make this winning strategy work.
First, the CVC unit must invest like a proper venture fund. Practically, that means the ideal CVC unit will have (i) investment independence within strategically relevant business areas, (ii) a proper fund structure with dedicated funding, and (iii) a carried interest plan to incentivize the professionals to make investment profits. VC is a difficult asset class, but with this structure in place, the CVC unit will achieve solid long-term investment results.
Secondly, the CVC and the BUs need to be incentivized to promote and achieve successful collaborations with startups. The CVC unit needs to show relevant startups to the BUs and get graded and incentivized (usually as part of bonus payments) based on the deal flow it brings to the BUs. The BUs, on the other hand, must decide on and implement collaborations, ideally with portfolio companies. Often BUs are resistant to work with startups, and that can be for many reasons such as lack of funding or lack of motivation. This is where the Parent needs to help. It is very useful for the Parent to provide funding for proof of concepts with startups which does not hit the BU’s profit and loss statement (usually this funding comes through the CVC budget), and secondly to give financial incentives to the BU managers to achieve successful collaborations. When those tools are in place, the CVC and BUs are aligned and properly incentivized, and wonderful collaborations will happen.
In conclusion, there is a relatively simple recipe to follow to achieve the dual mandate and maximize value for the Parent from its CVC activity. Below we lay out the principles for success in CVC:
Written by Sean Wright, Investment Principal at JLL Spark
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