Last year there was a surprising level of initial public offerings (IPOs) and merger and acquisition (M&A) activity for venture capital-backed start-ups.
By some accounts, the number of transactions was twice that expected at the end of 2009.
Looking at just IPOs, there were 51 technology IPOs in the US out of a total of 150 transactions, making 2010 the strongest year for technology IPOs since 2005.
Forecasts for this year indicate a continued upward trend for technology exits with a record backlog of strong and profitable start-ups heading for the public markets and a resulting lift in M&A transactions, both in terms of volume and value.
Over the past four years, the venture capital (VC) industry has experienced a long-needed return to its roots -resulting in fewer firms with less capital under management and a renewed emphasis on the importance of operational knowledge and experience when it comes to building companies from ideas.
At the same time, the competitive environment in which VC-backed companies findthemselves innovating and growing has become significantly more competitive, particularly when it is time to go to market.
Fifteen years ago, a young Silicon Valley-based tech-nology company would focus its initial commercial efforts – the first three years – targeting its local US market. In roughly year four, Europe would come into focus, with Asia, principally Japan, following in year five.
The capitalisation process would support this orderly expansion of sales and marketing operations through subsequent rounds of financing – tied to commercial success.
Today, young companies must think and act globally from the outset, knowing that competition can and will emerge from multiple geographies as soon as there is minimal market validation and traction.
Since their inception, corporate venturing programmes have been driven by the need for large established corporate brands to tie into the centres of innovation that are at the heart of the VC ecosystem.
Since 1981 there has been a steady and significant shift in research and development (R&D) spending in the US from large established corporate R&D centres to the more agile and efficient domains of smaller organisations.
In the period 1981 to 2005, the level of R&D activity by large corporations fell by almost half, whereas small organisations have seen an almost four-fold expansion in their R&D investments to a level that now exceed the investments being made by the corporate powerhouses.
For the past 15 years, corporate venturing was driven by the need for large corporations to secure innovation faster and at a lower cost in increasingly competitive markets, declining profit margins and shorter product life cycles.
These pressures are likely to only increase as markets continue to globalise and product life cycles shorten.
For the re-emerging VC industry, corporate partnerships hold new promise to address the increasingly competitive environment confronting their companies. Start-ups need to do more with less and learn to do it faster, particularly in the areas of distribution, sales and support.
While start-ups have signifcant time and economic advantages when it comes to innovation, these same advantages are lost when they go to market – particularly when confronting global competition.
Capital can be hard to come by and in most cases rep-resents signifiant equity dilution. Execution risk can be substantial when building out sales and distribution infrastructure from scratch.
And, in the event of an M&A exit, in many cases the acquiring company will devalue the start-up’s investments in sales and support infrastructure where there is redundancy with its in-house resources.
Whereas the VC industry has historically viewed corporate investors as "partners of convenience" willing to add capital to a round of financing with less concern for valuation, there is a growing appreciation for corporate partnerships as a game changer when the time comes to launch and expand a start-up’s commercial activities.
Accessing customer by renting or leasing the brand and distribution channels of corporate partners can give a young start-up a significant competitive advantage and help reduce risk and lower the costs of building a distribution and support organisation.
Properly structured, these relationships can also lower the overall capital and reduce the time requirements for building a successful technology company – resulting in higher rates of return on investments, particularly in an environment where M&A transactions are likely to play an increasingly important role in start-up exits.
While potentially compelling for VC, corporate partnerships pose their own risks. A start-up partnering a corporation is often betting its future on that partnership.
A corporation’s definition of fast moving can seem glacial to a start-up, potentially resulting in strategically costly delays in getting into markets. Strategy drift is a fact of life in most corporations but can be catastrophic for young strategic partners.
An exclusive strategic partnership can put a young technology company at a competitive disadvantage in markets if they are perceived as captive to a particular corporate brand.
To be successful in engaging with the VC community and their portfolio companies, it is essential corporate venturing units understand the goals (maximise the return on investment from their deal) and concerns (reduce capital requirements and risk while accelerating growth) when approaching a potential partnership. Failure to do so is likely to result in a failed partnership.
Consistently failed partnerships will leave the corporate investor with a very short dance card of partners from which to choose. Venture capital is an industry where success builds on success – long term.
A lack of success or inability to commit to the long term are both viewed as warning signs and partnerships to be avoided within the VC community. For years now, the logic and value in collaboration between corporations and VCs has been overwhelmingly compelling.
Yet corporate venturing programmes, for the most part, have failed to defineand defend a sustainable place for themselves in the venture ecosystem.
With M&A transactions likely to play an increasingly important role on the VC road to liquidity, and with venture capitalists under pressure to develop new strategies for taking their companies global, the stage may be set for a true renaissance in corporate-VC partnerships.
Whether this opportunity will be realised will depend largely on the ability of corporations to demonstrate they can consistently add value over the long term to VCs and their portfolio companies. For those that can, a sustainable competitive advantage and membership in the venture club will be the prize.
Those that cannot will find themselves marginalised – sitting on the periphery and looking in.