David vs. Goliath. Startup vs. Fortune 500. How can entrepreneurs turn perceived enemies into strategic allies? Hint: It is more than just corporate venture capital.
Prior relationships drive up acquisition price.
Almost 10 years ago, I published my first piece of hardcore research. The research explored prior relationships (between startups and their corporate acquirers) and exit valuations. Having invested in several dozen startups, I wanted to know what could be done -- in advance -- to not only increase the probability of a positive exit but to increase the returns on that investment by increasing exit valuations (i.e., the price paid for the startup by the corporate buyer).
The research was an empirical investigation into the effects that prior relationships between buyer and target firm have on the purchase price paid. Forty acquisitions of Canadian and US high-technology firms were examined to determine the effects of industry and inter-firm alliances on the price-to-book ratio. We found that specific combinations of prior relationship types are positively associated with higher prices. Further, our results suggested that prior and preexisting management relationships mitigate information asymmetries in a value-creating manner to increase value in M&A exits.
Corporate venture capital is only the beginning.
As its name implies, corporate venture capital (CVC) comes from the venture arms of large companies, like Google, IBM, Walmart, Apple, Intel, and Comcast. CVC motivation varies, but it most often focuses on innovation ROI. Fortune 500 companies typically invest in startups with the aim of acquiring them -- or at least their technology -- later on. CVC experts assert that it's often cheaper for them to fund an innovative startup and acquire it later than it is to build the same talent in-house.
According to Forbes' Teddy Himler:
From 2011 to 2016, the number of global active corporate investors has tripled to 965. Today, 75 of the Fortune 100 are active in corporate venturing, and 41 have a dedicated CVC team. They represent a growing source of capital as well, participating in nearly a third of all U.S. venture deals and 40% in Asia. Corporate VCs growing role in financing entrepreneurship is undeniable.
But from a startup founder perspective, these are just two ways to leverage large corporate industry heavyweights. Other relationships between startup David and corporate Goliath are equally valuable but are growing in regularity. These include incubation, acceleration, hackathons, platforms, spinoffs, and halo customers.
- Incubation is where resources such as co-working space and access to materials and knowledge are facilitated by the corporation partner, but no financial investment is made. An example is IBM's Innovation Space in Toronto, Canada.
- Acceleration is incubation plus investment. The corporate partner often takes an equity stance, directly or indirectly, as in Barclays' Techstars program.
- Hackathons are short design sprints, often held over a weekend, where unaffiliated entrepreneurs, designers, and programmers focus on innovating around a certain goal or within a specific domain. PennApps at the University of Pennsylvania is a hackathon that focuses on college students.
- Platforms are an opportunity for startups to leverage the existing customer base of large corporate giants. Apple set the standard when its launched its App Store for the iPhone. Now independent developers have a channel to millions of iOS users. This strategy builds adjacent value for Apple, while also driving down the cost of customer acquisition for the developers.
- Channels can turn corporate partners into value-added resellers. This has been key to health care entrepreneur Les Hansen's success at Benetech. In the last 12 months he has added more than 45 percent to his top line by onboarding some of his biggest customers to date. The key to this relationship? "Alignment of common interests," says Hansen. "These billion-dollar organizations already provide service to my end users; my software gives them another thing to sell."
- Spinoffs: Not all the R&D developed inside Fortune 500 corporate labs can be monetized directly by the corporation. Sometimes the innovation is too far from the core competency of the Goliath, or the corporation doesn't see a large enough market. When this happens, an opportunity is born. Sometimes internal employees take the opportunity to market independently; other times corporations auction off their intellectual property.
- Halo customers: if you can't get corporations to fund you or to accelerate you, you can always sell to them. Nothing instills confidence in your product more than having sales with notorious powerful customers like the U.S. Army, IBM, and Google; this gives confidence to other yearly adopters, potential investors, and stakeholders. All that is in addition to the positive impact on future acquisition price.
Don't turn away, turn into it.
Many entrepreneurs try to stay under the radar for fear of awaking a giant to some non-exclusive perceived opportunity. Trust me--more often than not, the giants already know about it. Plus, the benefits of customer enlargement (even with Goliath) far outweigh the potential downfalls. Or, as Hansen put it, "You have to turn into adversity to transform it into opportunity." So instead of hiding, turn into the task. Consider any of the above approaches and start turning your perceived enemies into allies.