Co-investing with corporate venture is not without its pitfalls

With successful recent fund closings by VC firms including Cherry Ventures, Blue Yard Capital and E.Ventures, the DACH region's venture scene enjoyed a good start to 2016. Equally, the overall development of corporate venture capital (CVC) is positive as well. While $16bn was invested globally in 2013, that figure multiplied to $72bn in 2015, according to GCV Analytics.

VCs and CVCs often back the same startups, but their co-investment can be toppled by clashing interests. Says Florian Schweitzer, partner at venture capital firm b-to-v partners: "In some cases we found out during our due diligence that a CVC had a strategic interest that would eventually force the company to pursue a path different to their own. That has been a reason for us not to invest."

Although lines are often blurred, there are two main groups of CVCs. The first allocates funds of their corporate parent mostly independently and, as with VCs, aim to maximise their return. One example from Germany is Tengelmann Ventures, which backs startups on behalf of the eponymous retail consortium.

In some cases we found out during our due diligence that a CVC had a strategic interest which would eventually force the company to pursue a path different to their own. That has been a reason for us not to invest" - Florian Schweitzer, b-to-v Partners

The second group consists of strategic CVCs, whose main focus is not necessarily to maximise IRRs or cash-on-cash. Sascha van Holt is CEO and head of investment management at SevenVentures, the investment arm of media group ProsiebenSat.1. Though von Holt claims his CVC is mainly focused on returns, he sees very different motivations behind most of the others: "Often, the key motivation is to buy into companies cheaply and to acquire them wholly later on. They also buy into innovative businesses where they want to understand the concept, because this is important for the future of the corporate parent."

One example is MairDuMont Ventures, which belongs to the German travel-focused publishing house and invests from the corporate's balance sheet. Its investment committee is made up of two external people from the VC market, in addition to the group's publisher and director. It exclusively targets startups in the travel sector and so aims to keep track with the industry the publishing house is focused on.

But when investors value strategy over returns, things can turn tricky. Take the inclusion of restrictive clauses in contracts with startups, with which they gain veto power. It could allow CVCs to block capital increases because they aim to buy companies themselves.

Problems can also be caused by investors that buy into startups in order to appropriate ideas and knowledge. Both scenarios potentially harm the interests of other backers.

Add-on value blessings
On the other hand, a corporate investment arm can provide unique support that helps to increase returns for all parties. Schweitzer names b-to-v's recent co-investment with Intel Capital as one example. Together, they backed Berlin-based software company Data Artisans in March 2016. In the case of Intel Capital, the investment team acts independently from its corporate parent, which is important for b-to-v as a co-investor. At the same time, the startup is free to take advantage of opportunities provided by the corporate. "The support follows the needs of the startup and does not follow a corporate agenda," Schweitzer says.

SevenVentures says that the additional support it offers can benefit all investors. In the case of American shopping app Shopkick, van Holt claims SevenVentures helped realise its European market entry by setting up a team on the continent and helping with the marketing - an advantage he says VCs cannot deliver.

However, SevenVentures has to coordinate its investments with ProsiebenSat.1, since its capital comes from the group's balance sheet and it provides the media company's services, such as advertisements, as a bonus to its portfolio companies. Despite the CVC's return-focus, ProsiebenSat.1 has wholly acquired some portfolio companies in the past - the most recent being online fashion shop Stylight.

This shows that despite a distinction between strategic- and return-orientated approaches, CVCs usually adopt a tailored strategy that best suits their own corporate structure. While it can be a blessing for VCs to have them on board in order to increase their portfolio companies' funding rounds, a watchful eye on their strategic interests is a sensible precaution.

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