The Return of Corporates

Venture Capital Journal

VCs say they have seen the rising interest first hand. Nat Goldhaber, managing director of Claremont Creek Ventures, says seven of his portfolio companies have received interest from corporates in the past three months. At this time last year, none had.

August 8, 2011  source: Venture Capital Journal

Corporate VCs are more active again as flowers in Silicon Valley. But is a bubble forming?

Corporate VCs, like the locust, follow cycles. When times are good, they come in droves to munch on the growing like leaves inside technology and medical startups.

When times are bad, they return to their solitary habits.

Times must be good again because by all accounts corporate venture investors are back in action. They are chasing what many describe as a new flowering of startup innovation in Silicon Valley and, to a lesser extent, elsewhere in the United States.

On balance, the trend is good for and the venture community. More cash is available for deserving companies in a tight money market. Corporate brands also lend an air of credibility to startups, and their labs offer valuable product advice.

But dangers lie ahead. Taking corporate money can limit business options and opportunities, as potential partners and acquirers see corporate-backed aligned with a competitor and stay away.

VCs also question whether strategic investors, who often consider financial gain a secondary goal, can deliver on promises of support, especially when many corporate venture programs were dormant during the past decade and lost in-house expertise.

On top of that, excesses are starting to appear. The first quarter saw almost 10% of venture dollars invested in the United States come from corporate VCs, a 9-year high that suggests a bubble may be forming.

Yet, there is little denying a powerful trend is gaining momentum.

“We are now seeing more corporate VCs across the board,” says Arvind Sodhani, president of corporate investor Intel Capital. “More corporates either co-invest with us in many of our deals or compete with us on some of our deals.”

There are understandable reasons for the growing interest. After cutting R&D for several years during the global recession, big companies are chasing growth. They see pent up demand from customers who throttled back their own spending. And they seek innovative products from startups, especially now that social media, mobile technologies and all pose disruptions to traditional markets.

“This is a time when Silicon Valley is starting to move again,” says an enthusiastic Michael Harries, senior director of the software developer Citrix System’s Startup Accelerator. “The pace of change in the market has become quite substantial.”

Corporations, meanwhile, are flush with cash and eager to use it.

In the first quarter, their contribution of 9.9% of all venture dollars invested was up from 8.5% in all of 2010 and 7.4% in 2009, according to the MoneyTree Survey by the National Venture Capital Association and PricewaterhouseCoopers, based on data from Thomson Reuters (publisher of VCJ). In 2000, at the peak of the dot-com bubble, their contribution was 15.4 percent.

What makes the trend even more powerful is that more than half the money went to in just three markets: energy (cleantech), software and biotechnology, according to an analysis of 2010 and first quarter 2011 data.

Further, corporate VC spending is heavily concentrated in California. A total of 57% of all corporate venture dollars has gone to companies in the Golden State. The second most active state is Massachusetts, which received 9.5% during the period.

The new interest in investing is attracting corporations from North America and overseas. Such longstanding players as Intel Capital, Comcast Ventures and Motorola Ventures remain active. But so, too, are the less well-known venture arms of some other companies, such as Salesforce.com, Best Buy Capital, Chevron Technology Ventures, Citi Ventures and Adobe Systems.

AOL Ventures opened its doors in January 2010 and looks to fund seed and Series A deals. Japan’s Mitsubishi is said to be active, and Chinese and Indian firms are playing harder, as well.

In June, Chinese search engine Baidu put $306 million in travel site Qunar. From across the Atlantic, BMW i Ventures, a new entrant in the field, started operations in February with a war chest of $100 million.

“We are now seeing more corporate VCs across the board. More corporates either co-invest with us in many of our deals or compete with us on some of our deals.”

Arvind Sodhani President Intel Capital

Another new player to make a splash is General Motors. It turned the key on GM Ventures in June 2010 and has backed seven companies in the past year from a $100 million fund.

“The primary mission is to identify new technologies that could lead to a strategic benefit to our product development teams,” says Byron Shaw, managing director of GM Ventures. “I think it is pretty important.”

General Electric also re-emerged in recent years with new vigor. In January, GE partnered with ConocoPhilips and NRG to create a $300 million pool of capital to invest in early stage energy and cleantech companies. Then in June, the industrial giant awarded $63 million of Ecomagination to 10 cleantech startups, part of a $200 million effort involving Emerald Technology Ventures, Foundation Capital, Kleiner Perkins Caufield & Byers and Rockport Capital.

Citrix Systems brought a fresh approach to its corporate venture team. The software developer opened its Startup Accelerator in December and offers between $100,000 to $400,000 in seed money to startups. The accelerator has done four investments so far with a target of 12 in a year.

“This is a way for us to do a more effective look ahead,” says Harries, and it could influence internal product development.

Nvidia “only wants to be in deals that are strategic for us and for the company,” says Jeff Herbst, vice president of business development at Nvidia, who says that the company’s GPU Ventures Program does a couple of deals a year. For instance, in May, the company invested $1.5 million in the Israeli startup Rocketick.

“We’re not necessarily about finding every opportunity financially,” he says.

Nat GoldhaberVCs say they have seen the rising interest first hand. Nat Goldhaber, managing director of Claremont Creek Ventures, says seven of his portfolio companies have received interest from corporates in the past three months. At this time last year, none had.

Numerous deals already have been done. In late June, home automation software developer iControl Networks closed Series D of more than $50 million with Cisco Systems, Comcast Ventures and Intel Capital, along with Charles River Ventures and Kleiner Perkins.

Amazon.com provided the lion’s share of an early July round in Silicon Valley database developer ParAccel Inc. The Series E round of about $15 million also attracted existing investors Menlo Ventures, Mohr Davidow Ventures, Bay Partners, Walden International, Tao Venture Capital Partners and Silicon Valley Bank.

But along with the new money comes dangers for portfolio companies and venture firms. A deal with a big corporate investor can have a chilling effect by chasing away other potential corporate partners, according to Goldhaber at Claremont.

“It’s truly on a case by case basis that you need to do the analysis,” he says.

“We do get insight,” adds John Dillon, CEO of San Francisco-based cloud platform company Engine Yard. But “you have probably poisoned the water hole for partnerships with someone else.”

And have to be careful about transferring too much of their intellectual property and business plans, he says.

Dana Stadler, general partner at Matrix Partners, says corporate investing doesn’t make sense for early stage companies. Early stage firms should keep their distance from possible acquirers to keep from appearing too closely aligned.

Another pitfall is that a gap can develop between a corporate investor and an internal corporate line manager or sales team making it hard for the investor to deliver on promises. Stadler found this to be the case with Respond.com, the company he co-founded in 1998. American Express joined the Series C round, and Stadler wanted to do a co-marketing program. “We ran into all the resistance we should have expected,” Stadler says.

Corporate investors similarly can unreasonably drive up valuations by increasing the competition for later stage deals. Many are not price sensitive when they decide a technology can have a big impact on their product lines. That can inflate prices other VCs pay and lead to the possibility of down rounds in the future.

It may be too soon to gauge the impact corporate investing will have on venture as a whole. It isn’t yet clear whether this latest cycle of corporate interest will have staying power. In the past several cycles, corporate investors fled the market once times turned bad, as in 2001.

“Early stage firms should keep their distance from possible acquirers to keep from appearing too closely aligned.”

Dana Stadler General Partner Matrix Partners

But if the new interest isn’t a flash in the pan, it could provide a tremendous boost of money, expertise and credibility for startups.

Mark Boslet can be reached at mark.boslet@thomsonreuters.com and on Twitter at @mgboz.

Disclosure: Mark owns common stock in General Electric, Exxon, Cisco Systems, Citigroup, Comcast and Intel.