Financial Times: Know the limits of corporate venturing

Financial Times: Know the limits of corporate venturing

By Julian Birkinshaw and Andrew Campbell

Published: August 9 2004

With growth back on the agenda after a period of austerity and cost cutting, it is worth reflecting on the lessons arising from similar periods in the past.

In the late 1990s, more than three-quarters of companies in the Fortune 100 and an equivalent number of FTSE 100 companies set up corporate venturing units as part of their search for growth. For example, BAT, the tobacco company, set up two units: Imagination, to search for new ideas, and Evolution, to develop the ideas into new businesses. While these units helped the company explore a number of areas, they failed to develop any significant new businesses.

Recent research into corporate venturing units and corporate incubators by both Ashridge and London business schools concluded that less than 5 per cent of corporate venturing units created new businesses that were taken up by the parent company. Moreover, many failed to make any positive contribution.

So why do corporate venturing units fail to help their parent companies find new legs? There are three reasons.

First, early stage venturing is a tough job, even for professional, independent venture capital companies. Many VC companies earn less than their cost of capital unless they are fortunate enough to invest in one of the rare big winners. Angels, another form of independent investor in early stage ventures, also frequently fail to earn a good return on their investments. Without some advantage, corporate venturers are unlikely to beat these odds.

Second, corporate venturers rarely have an advantage over the professionals. Those business opportunities where the company does have a clear advantage are normally dealt with through the strategic planning process. At BAT, for instance, acquisitions of tobacco companies in new regions would not be allocated to a corporate venturing unit. Instead, BAT’s venturing focused on areas such as e-commerce, where its sources of advantage were questionable.

Further, individuals ina corporate venturing unit rarely match their independent competitors. They may include some of the most entrepreneurial managers in the company, but they do not usually have the accumulated experience of seasoned venture capitalists.

Third, the new ventures that start up within a corporate venturing unit often attract little attention or commitment from the core of the company. Because they are developed within a separate unit, they are not part of the strategic planning discussions that drive resource allocation.

When the parent company is short of resources, either because of an economic downturn or because the new activities begin to compete with existing businesses, the new ventures lose out. Since it takes longer to nurture a new venture than most business cycles, competition for resources is almost inevitable.

These obstacles to corporate venturing appear to be insurmountable. In our research, we could find no examples of new legs being developed from a venturing unit that passed the test of being “significant, permanent new businesses” – meaning that they are profitable, are part of the parent company’s portfolio and amount to 20 per cent of sales or $1bn in value. Even when the research was extended back to venturing units set up in the 1970s or 1980s, none of them spawned a new business that passed our significance and permanence tests. Corporate venturing units do not, it appears, deliver growth.

Managements looking for new growth have two routes: strategic planning (thinking through the options and choosing one or more with reasonable chances of success), or opportunistic investments (reacting to events or external proposals when they appear sufficiently promising).

In a separate strand of research, we assembled a database of companies that had created new businesses that passed the significance and permanence tests. In only one of these cases did the new business begin its life in a corporate venturing unit or corporate incubator. Two-thirds were the result of carefully considered strategic decisions and one-third were more opportunistic.

So, if corporate venturing does not create new businesses, does it have any place within large companies? The answer is yes. The techniques of corporate venturing can be harnessed for four purposes (see box, above left).

Harvest venturing. This is appropriate when some corporate resources, such as technology, managerial skills, brands and even fixed assets, are surplus to requirements. It uses the techniques of venturing to convert existing corporate resources into commercial ventures, and then into cash.

Lucent New Ventures Group was an example of harvest venturing before it was sold to Coller Capital. Set up to exploit Lucent’s technology, the unit evaluated over 300 opportunities, started 35 ventures and drew in $350m (£192m) of external venture capital.

Ecosystem venturing. This is appropriate when the success of a business unit depends on a community of connected businesses, such as suppliers, agents, distributors, franchisees, technology entrepreneurs or manufacturers of complementary products.

If this ecosystem is short of venture capital funds there is an opportunity for the company to act as a support to entrepreneurs in the community. The benefit to the company is the vibrancy of the community and the impact this has on its core businesses, rather than the prospect of capital gain from the investments.

Intel Capital and Microsoft both use corporate venturing to stimulate their ecosystems. Intel Capital’s early investments were made in suppliers, often to guarantee availability of components. As the component industry matured, Intel switched to investing in software companies and supercomputer makers to promote the use of Intel technology.

Innovation venturing. This is appropriate when an existing function within a business unit, normally research or new product development, is underperforming because there is insufficient energy directed towards innovation. There must also be some belief that entrepreneurial energy is latent inside the company and can be fostered by stimulating “intrapreneurs” or by tapping into external entrepreneurs.

A unit with a venturing approach is set up to take on part of the function that is underperforming. By providing the right conditions, internal or external managers with entrepreneurial instincts will take more risks and invest more energy in developing new technologies or ways of working. Shell’s GameChanger programme was set up in 1996 to increase innovation in the technical function of Shell’s exploration business. The idea was to take 10 per cent of the technical budget and spend it in a “venturing” way. This new approach to innovation was taken up by other divisions in Shell and is viewed as having produced a step-change in some areas.

Private equity venturing. This is appropriate under rather limited circumstances. It is equivalent to a diversification into the private equity business, so the company needs to believe that it has better access to a flow of good deals than independent private equity companies. Also, managers must be confident that the deal flow they are tapping into is in the early stages of an upswing. To make money in the cycle of boom and bust, managers need to invest early and exit before the shake-out.

Nokia Venture Partners was set up to make minority investments in wireless internet projects. As one of the partners explained: “We do not do strategic investments [for Nokia] but the reason we exist is strategic for Nokia.” Managers planning any kind of venturing unit need to be clear about which type they are setting up and why. “New leg venturing” and units with mixed objectives do not work (see figure, below left). Unless managers are clear about which of the four types they want, they will not build the necessary business model or skills to be successful. Companies wanting to do more than one kind of venturing need more than one type of venturing unit.

Andrew Campbell is director of Ashridge Strategic Management Centre and author, with Robert Park, of The Growth Gamble (forthcoming, to be published by Nicholas Brealey). Julian Birkinshaw is an associate professor of strategic and international management at the London Business School.