We are in a startup Gold Rush era where small companies are growing at an unprecedented rate due to the fast cycle of innovation and exponential adoption of new technologies like Artificial Intelligence (AI) in the market. According to the complete list of unicorn companies published by CB Insights, there are more than 700 unicorns around the world as of July 2021. Popular former unicorns include Airbnb, Facebook, and Google – now large corporations themselves.
Venture capital activity exploded to new highs in Q2’21, with worldwide funding jumping 157% compared to Q2’20. In the next decade, the term unicorn will likely get replaced by decacorn (a company valued at over $10 billion), and eventually by hectocorn (a company valued at over $100 billion). SpaceX and Stripe are two recent examples of startups that have achieved the hectocorn status as private companies.
A key broader market-level impact driven by startups is that they create technologies that shift the mindset of customers. The same customers then expect a similar level of technology development and velocity of innovation from big companies too. This is typically hard for a large company to achieve. With startups growing so well, large companies need to reinvent themselves to stay competitive and attract customers. To do this, corporations are adopting various innovation models to improve R&D and production capabilities. The closed-door innovation model has worked for only a few corporations in the United States consistently for decades, for example, Apple. Most corporations struggle to find the next big disruption internally. They are primarily tweaking the product (or at best, entering adjacent markets) that gave them the initial success. There are several reasons for the lack of sustained innovation in big companies, the most prominent ones being rewarding mechanism tied only to success instead of failure being worn as a badge, lack of risk-taking, decision-making embroiled in the hierarchy, and mindset of the workforce being like employees rather than self-driven founders. Hence, larger companies lose their way because they were thinking too much inside the walls versus outside, which is the easiest way to get out-innovated.
To solve this problem, corporations are increasingly looking externally for sources of innovation to complement their internal efforts. Hence, they are adopting strategies like venture capital investing and open door innovation to increase the pace of business. Let’s look at these innovation models that corporations utilize to expand their business horizons.
One of the common strategies companies adopt is the Open Innovation policy. It entails developing internal as well as external ideas to spur a firm’s innovation. To enable this, the firms organize an innovation team internally or hire a new team with experience in driving such innovation projects. But there are barely any examples of companies that have made this strategy a successful one for driving the corporate innovation engine. The new ideas, once prototyped, typically don’t get the same level of resources and attention as the existing revenue-generating business units. In addition, transferring the nascent product line to embed them in an established product group for the next phase of growth is often faced with the not-invented-here syndrome. Due to these reasons, scaling the newly developed ideas in a large corporate setting has proven to be an insurmountable challenge.
Another notable innovation model is the Corporate Venture Capital (CVC) strategy. It is a growing trend for Corporations to create their own CVC or to outsource that effort to a firm that offers Venture Capital as a Service. Corporations are realizing that doing their own CVC isn’t yielding the desired strategic and financial returns. Barring a handful of CVCs who have pursued Venture Capital for over a decade, the financial performance of the CVC ends up being sub-par. This is primarily due to a couple of factors: low quality of investment deal flow and the often-failed balancing act of managing strategic versus financial returns. . Even if the CVC gets access to high-quality deals, it is typically at too late a stage of the startup to drive outsized Venture Capital-style returns. These issues with the CVC model have created a trend where corporations are increasingly partnering with an outside firm for Venture Capital as a Service (VCaaS) model. This VCaaS model gives them access to top-notch deal flow at all the stages of the startup lifecycle while driving strategic returns. The firm providing Venture Capital as a Service can drive the investment strategy while keeping both the financial and strategic needs in mind. Besides driving agility of decision-making, this strategy also provides excellent exposure to the internal product teams to external innovation. This expands the horizons of the internal executives in terms of how fast and innovative the startups can be.
A growing need in the Corporate world is to access startup innovation in technology hubs like Silicon Valley. corporations want to learn about new technologies as well as novel business models emerging in these meccas of innovation. For this, corporations often think about setting up innovation outposts in Silicon Valley. Venture Capital as a Service model fulfills this need very nicely by providing a seasoned team of investors who have the breadth and depth of Silicon Valley network. Another really neat thing about VCaaS is that the corporations benefit from the wisdom and guidance of the VCaaS team. Dupont and several other corporations have adopted this model to find AI startups.
A supporting proof point for the evolution of the CVC space and the need for Venture Capital as a Service model is that corporations are either spinning off or creating an entirely standalone CVC – a term I would coin as SCVC. These SCVC’s often are set up with a name untied to the mother corporation to portray a complete sense of disengagement. Recent examples of such untethered Venture Capital firms formed as a result of this trend are Next47 by Siemens, SE Ventures by Schneider Electric, GV and Gradient Ventures by Alphabet, and Decibel by Cisco. All of these Venture Capital firms are solely backed by their respective corporations but don’t even carry the name of the corporation in their naming. These Venture Capital firms have their own management company and personnel with the ability to make independent governance decisions. Unlike a typical VC firm, these SCVC’s can pull on a corporation’s resources as needed – its engineering expertise, customers, go-to-market capabilities, etc.
In summary, corporations must adapt to the fast-changing market landscape, consumer demands, and technology trends. The pace of new product adoption has increased manifold hence putting pressure on the innovation velocity of a corporation. It has been well proven that corporations often struggle to grow the top line by focusing solely on internal innovation. Hence, they adopt various external innovation strategies like Open Innovation, Corporate Venture Capital, and Venture Capital as a Service. With these strategies, corporations can better embrace their startup counterparts and drive much-needed innovation agility.