In the past 18 months a wave of corporate venturing programmes have been started or significantly developed in the utilities sector as strategic imperative drives firms to innovate and deal with entrepreneurs.
The launch or expansion of at least 15 corporate venturing units with about $2bn of committed capital in aggregate, as tracked by Global Corporate Venturing, is reminiscent of the explosion of activity during the dot.com bubble in the late 1990s, when 13 units were launched between 1998 and 2001.
The optimistic among the new wave of venturing units in telephone, gas, water and electric utilities said conditions were more suitable for the latest entrants to survive and contribute to their parent’s and portfolio companies’ development.
This optimism came against the backdrop of previous failure, when 11 of the 13 utility-sector programmes set up around the millennium had been spun off or deactivated by 2006, according to an academic paper, Why corporate venture capital funds fail – evidence from the European energy industry, by Tarja Teppo, co-founder of Cleantech Invest in Finland, and Rolf Wüstenhagen, Good Energies Professor for Management of Renewable Energies at the University of St Gallen in Switzerland. The article was published in World Review of Entrepreneurship, Management and Sustainable Development in 2009.
Given such a backdrop of short-termism, the Global Corporate Venturing ranking of most influential manager in the utilities sector has been awarded to Deutsche Telekom’s T-Venture unit in light of its long-term performance since 1997 and developed strategy. (click for table)
The optimism about the latest wave has two main drivers.
There is a huge need to spend on the physical infrastructure that underpins the world’s economy, coinciding with innovative products and business models, and the latest wave of venturing units are starting to invest after the financial crisis between 2007 and 2009, rather than just before it as happened in 2000.
The first mega-trend affecting utilities was laid out by accountancy firm Ernst & Young in its report, Infrastructure 2011: A Strategic Priority, released in May, which said expenditures for global infrastructure requirements over the next 25 years were estimated at $50 trillion.
Effective infrastructure underpins economic activity, and Christopher Sutton set out in a paper for the Economic Opportunity Series the role of the power and water utilities sector in expanding economic opportunity. Sutton’s paper said at least 1.2 billion people worldwide lacked access to water, at least 2.6 billion lacked access to basic sanitation and at least 1.6 billion lacked access to energy.
Sutton said: "The scale of unmet need for water, sanitation and electricity is enormous. In urban areas especially, a confluence of factors suggests strong potential for growth.
"First, most forecasted population growth will take place in the new megacities of the developing world. The UN estimates the urban population in these countries will double by 2030; in Asia alone, there are likely to be 903 cities with populations over one million.
"Second, the urban poor tend to spend much more on water than their rural counterparts who can rely more easily on surface water and wells.
"Third, population density reduces the cost of providing service to large numbers of people through traditional, grid-based systems."
Especially in rural areas, where infrastructure is minimal and cost-prohibitive to build, innovative dispersed or offgrid water and energy solutions (desalination, disinfection, filtering, low-voltage micro-networks) and business model innovations are emerging, such as hybrid public-private funding models to bring in investors requiring different types and levels of return at different stages and community partnerships to administer utilities, he added.
The demands on the infrastructure of telecommunications operators is also increasing with the number of mobile phones expected broadly to match the 7.2 billion people in the world by 2015, according to equipment maker Cisco.
An estimated seven trillion short-messaging service texts are expected to be sent this year, according to data provider ABI Research, while telecoms equipment supplier Nokia Siemens Network (NSN) said data traffic was increasing by 60% per year.
NSN said by 2015 data traffic would, across mobile networks alone, exceed 43 exabytes, equivalent to 6.3 billion people downloading two digital books every day, while peer Cisco said video now made up more than half of this traffic.
This explosion of traffic is driving global innovation trends. As David Thodey, chief executive of Austrialia- based phone operator Telstra, said when announcing its corporate venturing unit: "As faster broadband becomes available to more Australians, we expect an explosion in innovation and the development of new locally developed media-rich applications.
"Telstra’s Applications & Ventures Group will invest and partner with other companies and government agencies at the forefront of innovation to provide a new range of digital services for business and consumers, including in health and education."
And, outside the US, "in most of the developed world and in many emerging markets, countries have committed to fulfilling infrastructure agendas as essential for sustaining or enhancing living standards in an increasingly competitive global marketplace", the Ernst & Young report said.
But the picture was less promising for the US, the world’s biggest economy that last month teetered on the brink of default on its sovereign borrowings. Maureen
McAvey, executive vice-president of non-research research organisation Urban Land Institute, added from the Infrastructure 2011 report that as "$2 trillion was needed to repair and rebuild deteriorating roads, bridges, water lines, sewage treatment plants and dams, the [US] nation’s infrastructure woes will only get worse, as the politically fractured government erodes support for both existing upgrades and new initiatives".
Public spending on transportation and water infrastructure as a share of US gross domestic product peaked at 3.1% in 1963, then declined steadily to 2.4% in 2007, according to US Congressional Budget Office data cited by Ernst & Young.
McAvey said: "America’s unwillingness to confront its infrastructure challenges is undermining the ability of our urban areas to compete globally. If we persist with short-sighted decisions, we will lose talented workers and companies to nations and cities overseas that are committed to infrastructure as a vital component of liveability and economic viability."
Among other developed economies, South Korea leads the world in the United Nations-developed Digital Opportunity index, which shows people’s access to information and communications technology. Last year, one of the country’s main phone operators, KT, set up a KW1trillion ($830m) Mobile Korea Renaissance Fund managed by Woongjin Capital to encourage application developers to operate in the country by providingmoney for entrepreneurs.
The fund is similar to a $100m Android fund managed by venture capital firm DCM in which Japanbased KDDI committed to earlier this year.
The Android fund, which also has commitments by China’s largest internet services provider Tencent and online games developer Gree, is looking to encourage developers to create applications for the opensource Android operating system for mobile phones. Developed after an acquisition by search engine provider Google, Android is competing against consumer electronics manufacturer Apple’s proprietary iOS software and together the two operating systems are helping drive the explosion of data traffic across smartphones.
In general, corporate venturing units among telecom operators, such as KT and KDDI, have concentrated on investing in entrepreneurs providing products and services that might shape and increase demand that the investors’ parents are then able to understand and service as well as the equipment manufacturers able to cope with the traffic that ensues.
Corporate venturing units said they were usually able to access the syndicates providing money to the entrepreneurs they wanted as supply of cash in capital-intensive or unfashionable business sectors had failed to meet demand from a wave of entrepreneurs.
The lack of competition, if not occasional difficulty in finding enough syndicate partners from venture capital firms, has meant the starting point for many corporate venturing investment programmes has been better timed than historically – when they entered later in the economic cycle. This is because prices are usually lower than at the end of a bull market and portfolio companies often have greater chances of earning stronger revenues as economies grow.
Rob Trice, head of SK Telecom Ventures, the corporate venturing (CV) unit of the eponymous Korean phone operator, said: "Our investment pace is picking up and we are pleased with the innovation we are seeing."
And the new corporate venturing units have also started dealmaking to take advantage of the apparent opportunities, with Singapore-based SingTel’s S$200m ($150m) Innov8 unit already striking at least eight deals, including ones round the world, in less than 12 months, according to Global Corporate Venturing’s database.
Trice said: "I think Singtel is a very interesting telco CV unit to watch right now. They are coming into the market guns blazing, really making a name for themselves with the pace of their investing."
But fears of a double-dip recession in developed economies and overheating in the faster-growing economies, such as China and India, means the global prospects are still relatively uncertain. In addition, in US-based, internetrelated software and services start-ups, access to investment consortia is seen as more challenging for corporations and prices for these businesses are higher.
Boutique investment adviser Go4Venture said in last month’s VC Bulletin: "Investors in general are getting fascinated by what is happening at the internet end of the market, which seems to enjoy near supernatural scalability and speed of execution. There is a sense of feeding frenzy, fed by generous amounts of cash sloshing around in search for alpha, and by desperation for return so as to be prepared to take the tech risk [in backing these private companies before and after they try to float]…
"Internet investors are dropping all notion of capital efficiency in exchange for sheer land grab, the scourge of Bubble 1.0 [around the millennium]."
But the frenzy and technological change driven by the entrepreneurs is a factor leading corporations to consider investing in the third parties, either for financial or strategic returns, particularly in the telecoms sector.
Liberalisation of the telecoms market and the internet and the success of start-ups with different business models has meant corporate venturing has become almost a prerequisite for established utilities as well as some successful emerging providers, such as online phone operator Skype that has also begun investing in third parties.
France-based academics Jean-Sebastien Lantz and Jean-Michel Sahut in their recent paper, Corporate Venture Capital and Financing Innovation, found telecom providers had the highest proportion (80%) of minority equity investment units among the 142 largest companies in the US and Europe. Energy and equipment makers, however, were bottom, the academics added.
The proportion among energy utilities, however, is starting to rise given the commitment of US-based utility NRG Energy to the $300m Energy Technology Ventures fund launched at the start of the year. This fund also drew commitments from industrial conglomerate General Electric and oil major ConocoPhillips. Other utilities, such as Ireland’s ESB and UK-based Centrica, have also started or reinvigorated their corporate venturing programmes in the past 18 months (see table).
Centrica has restarted its British Gas Ventures unit, first introduced in 1986 with £30m ($50m) following the company’s privatisation from the UK state.
Centrica’s strategy of marrying gas production with its sale to consumers – ratepayers in the jargon – has allowed it to benefit from rising energy prices from the former division even if the costs cannot be fully passed on to the utility division’s customers despite proposed 18% rises.
As Peter Voser, chief executive of oil major Royal Dutch Shell, said while posting profits of $8bn between April and end-June as crude prices hit more than $110 a barrel: "In the longer term, you will clearly need higher oil and gas prices, or energy prices."
Centrica’s strategy of balancing cashflows through its complementary divisions, therefore, provides greater financial stability to meet planned investments by the corporate venturing units.
However, the sector’s reputation for volatility remains. Despite the surge in corporate venturing around the world, a number of units have been closed after two to five years of operation, including India-based Bharti Airtel’s Innovation Fund late last year and after American peer Sprint Ventures was shut, according to the latter’s head, Scott Ford.
In October, Amit Yadav, manager of the Airtel fund, left to become vice-president of India-based conglomerate Religare’s global asset management and group mergers and acquisitions team, while Srinivas Chakravarthy left Bharti shortly afterward to join media group Network18’s Capital18 corporate venturing unit as a senior associate, they said on their LinkedIn social network pages.
By contrast, other utilities are putting in place structures to provide greater certainty over their future and provide reassurance to entrepreneurs, whose business plans can take more than a decade to mature and products come to market.
Last year, RWE, a Germany-based utility, created a separate legal structure for its corporate venturing unit, Innogy Venture Capital, after two years of making renewable investments.
Putting in place the governance structure of a traditional independent venture capital fund, with management team organised as general partners and the money coming from limited partners with specific rights and obligations, allows a corporate venturing unit to seek third parties to leverage the parent’s own commitments.
Denis Champenois, chief executive of Innovacom, a corporate venturing unit at France Telecom, said the trend was toward more specialised funds with more corporations as investors.
Innovacom, the longest-established inhouse corporate venturing unit in the utilities sector having been established in 1988, is understood to be looking to focus its next fund towards specific areas from its traditionally broad-based mandate and potentially take in third parties as a result of this thinking.
Innovacom has also shaken up its team with a number of departures, including Denis Barrier, Jacques Méheut and Emmanuel Puga Pereira, but hired Jérôme Faul as a senior investment director and taken on a back office of support staff, including a chief financial officer and head of investor relations.
Innovacom’s structured approach has been used by a number of other firms, including Netherlands-based utility Delta’s commitment to SET Venture Partners and Canadabased phone operator BCE when its corporate venturing unit became independent in 2007 and was renamed Summerhill Venture Partners.
BCE, which remained a minority investor in the C$175m fund that Summerhill raised on becoming independent, has just reaped a payout from the sale of portfolio company Radian6 to online sales management service Salesforce for at least $326m.
Gary Rubinoff, Summerhill’s US-based managing director, told news provider Canadian Business that Radian6 was its biggest exit and was part of a strategy to back serial entrepreneurs in expectation of better returns.
Given Summerhill’s prior incarnation, BCE Capital, was formed in 1987, the firm has had nearly 25 years of building these relationships with portfolio company chief executives – an indication of how long venturing units can take to prove their worth.