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Abstract
This paper presents an overview of the German Corporate Venture Capital (CVC) market. As such, it can be considered as an industry report of the CVC-industry in Germany including vehicles of DAX companies and major players from Munich and the Ruhr area. The goal is, to give an overview of the CVC-market in 2019 and to describe characteristics of different vehicles. Based on a dataset and a qualitative analysis of ten interviews, the focus lays on how established corporations can benefit from their engagement with startups. The analysis includes dimensions like strategic goals, organizational and fund structures, investment criteria as well as targeted industries. The results show how diversely corporations engage with startups but that the vast majority prioritizes strategic collaboration over financial returns.
Introduction
Corporations constantly seek innovation in order to obtain a sustainable competitive advantage. As Segerstrom already discussed in 1991, especially quality leaders must be at the forefront of innovation to defend their position and offer state-of-the-art products and services in a market economy (Innovation, Imitation, and Economic Growth). The vast majority of German companies aim to be such quality leaders. Famous examples are the four automotive manufacturers from southern Germany Mercedes-Benz, BMW, Audi, and Porsche that offer premium cars at high prices in medium quantities and earn high margins (Curtin, 2015). But also German corporations in the B2B business focus on quality leadership like Siemens that aims to stand for engineering excellence, innovation, quality, [and] reliability (Siemens & mendix, 2018). Hence, German corporations must particularly focus on fostering innovation in their business. Currently, the global pace of innovation is increasing in all three sectors: University, government, and industry (Etzkowitz & Zhou, 2017). This trend is expected to increase further as induced by neoclassical theory (Grossmann & Helpman, 1994). Thus, established companies need to increase their innovativeness to stay competitive.
Since the Dotcom Boom especially innovation from agile startups has increased substantially and raised significant attention. Famous examples for start-ups disrupting established industries are Amazon in retail and Spotify in music and entertainment. Additionally, startups often create a culture that is more likely to foster innovation and agility. Currently, companies of all industries undergo substantial efforts to integrate parts of such collaboration (Ries, 2017).
After the financial crisis in 2008, interest rates for established companies in Germany were remarkably low while the DAX and cash reserves reached records which eases acquiring other companies that can bring supplementary innovation. In fact, mergers & acquisition (M&A) activity was boosted to a constant high level. So, it is no surprise that corporates are the most relevant exit channel for startups (Prüver & Weber, 2018). Unfortunately, standard M&A does not help established companies to use their excess capital in order to gain access to startups in their development phase (Institute for Mergers, Acquisitions and Alliances, 2019).
Hence, corporations are searching for possibilities to benefit from startups. A format that has become increasingly popular is Corporate Venture Capital (CVC). This paper will analyze how established corporations in Germany use such corporate venturing to sustain a window on technology , foster internal cultural change, increase efficiency in research and development, and exploit growth opportunities.
Although Corporate Venture Capital has just reached its preliminary peak in Germany, there have already been some remarkable investments made and financing rounds led by Corporate Venturing vehicle.
For example, Tengelmann Ventures led Zalandos Series A and the seed round of Delivery Hero. It still is invested in one of the most valuable startups worldwide: Uber. Allianz X is a shareholder of N26, Daimler is the majority owner of mytaxi, and Henkel is still invested in ZipJet. This peak preview already shows the significance Corporate Venturing has obtained in startup financing. However, many corporations are not well known for their venturing activities to the public because they focus on B2B businesses where most of the investments are made.
The goal of this thesis is to describe the difference between Corporate Venture Capital units in Germany and traditional Venture Capital. Furthermore, successful case examples will be assessed to determine the factors that contribute to fruitful Corporate Venturing activities. This paper also takes a look at what motivates established corporations to engage with startups in their particular form.
The last comprehensive report about the German Corporate Venture Capital landscape in Germany was published by Christina Weber in 2005. Additionally, Weber examined Corporate Venture Capital activities in Germany over time while this paper will focus on the status quo and include an additional qualitative analysis using semi-structured interviews. Findings of this thesis will be compared with the conclusions of Webers report when applicable.
This paper does not comprise all Corporate Venture Capital firms of German firms but includes two clusters. Firstly, it analyses all Dax companies since they are the most valuable and impactful firms in Germany. Hence, they can potentially have the most impact on the market. Secondly, venturing vehicles of major companies from the industrial hubs of Munich and the Ruhr area are included due to their economic importance.
Introduction to Corporate Venture Capital
Venture Capital
Before Corporate Venture Capital in Germany will be analyzed, it is crucial to understand the basic principles of the investment type corporates are adopting. Traditional Venture Capital is financing that investors provide to startup companies and small businesses that are believed to have long-term growth potential. [&]. [It] does not always take a monetary form; it can also be provided in the form of technical or managerial expertise (Chen, 2019). In practice, Venture Capital firms support ventures along with their way until their exit or an IPO with financial and strategic support.
Venture Capital firms already invest in very young firms and are often the prime provider of substantial financial resources because startups do not have enough assets or history to be granted a loan from a bank. Hence, investments are made as equity contributions which means there is no repayment liability. At the same time, the VC is strongly incentivized to support the venture in its development to increase the equity value. On the other side, VCs can achieve umpteen returns on their investments when the enterprise value rises.
Traditional VC funds follow a business model dealing with great uncertainty. They commit to a large number of investments but only expect that a fraction of those will generate actual returns. Co-founder of the ambitious early-stage investor BECO Capital expects two out of ten carefully considered investments to provide positive returns. Very successful VC funds still manage to yield an internal rates of return[footnoteRef:1] (IRR) in excess of 50% because the potential value increase of a successful placement is enough to cover the losses of the others (Farha, 2016). To achieve such internal rates of return[footnoteRef:2] IRRs, venture capital firms usually seek to sell their stake of an investment at the maturity of the fund at the latest instead of developing the venture further. [1: The IRR is is used in capital budgeting to estimate the profitability of potential investments. The internal rate of return is a discount rate that makes the net present value (NPV) of all cash flows from a particular project equal to zero (Hayes, 2019). A project with an higher IRR is more profitable relative to invested amount of money.] [2: ]
The venture financing market in Germany has been defined by two trends lately. Firstly, quarterly deal volumes have stagnated around $1bn and secondly, the number of deals has decreased to 80 in the fourth quarter of 2018 (Lavender, Hughes, & Speier, 2019).
It might be helpful to understand how traditional VC firms are structured to assess special characteristics of Corporate Venture Capital later on.
Venture Capital firms are usually formed as limited partnerships (Figure XX). The managers of the fund serve as General Partners and are active in the day-to-day business. Mere investors provide funding as Limited Partners and are prohibited from management and control (Zhang, 2017). Directly applied to Corporate Venture Capital, the parent could be the corporation acting as Limited Partner and the management of the Corporate Venture Capital vehicle as General Partners, but this would significantly restrict the immediate influence the parent company has on management of the fund.
Corporate Engagement with Startups
There are more opportunities for corporations to leverage their knowledge and network than Corporate Venturing. Weiblen and Chesbrough (Engaging with Startups to Enhance Corporate Innovation, 2015) categorize corporate engagement with startups and its respective goal in a matrix (fig XX).
The horizontal axis differentiates between inside-out and outside-in approaches. Inside-out approaches do not aim at increasing innovation in the firm but to leverage existing innovation of the firm outside of the company. The vertical axis differentiates between methods that involve equity investments and those that do not.
This paper focuses on corporate venturing which is used to participate in external innovation by the use of equity. Still, this paper will discuss two cases where a Corporate Venture Capital unit also works as an incubator where innovation takes the opposite direction, but the same competencies are required. Additionally, many Corporate Venture Capital units can include Startup Programs in their service portfolio since they build connections to the startup system anyway. Corporate Venture Capital is of such high importance to leaders of corporations because it includes the two most important criteria. Firstly, it involves substantial cash investments and has a direct impact on the financial performance of the firm. Secondly, it serves to bring in innovation and thus, impacts the strategy of the parent company significantly. In fact, all investment committees of the corporations examined in this thesis include at least one member of the board proving the significance of Corporate Venture Capital to corporations.
Corporate Venture Capital
In this thesis, Corporate Venture Capital is defined as an alternative to traditional methods for growing a company in which a company invests in new products or technologies by funding businesses that have a reasonably autonomous management team and separate humans resource policies. The goals can be to develop products to expand the core business, enter new industries or markets, or develop breakthrough technologies (Bain & Company). New products or technologies in the context of ventures are interpreted as startups that are not publicly traded and provide either a new business model or substantial product innovation. This definition requires strategic cooperation. As laid out in Strategies of German Corporate Venture Capital Units, no Corporate Venture Capital unit has only financial goals. This restriction is applied to exclude vehicles that solely focus on investing access cash or capital reserves like the Global Growth pension fund of Siemens. Such vehicles are opportunistic financial investors and not corporation specific.
Nevertheless, it will be discussed to what extent this international, standardized definition is applicable to the German market.
Furthermore, this definition is rather generic because companies interpret their venturing activities very differently. Also, it does not include any definition of the form of funding.
The significant difference compared to traditional Venture Capital is the goal definition. While the prominent goal of those firms is maximizing fund returns, Corporate Venture Capital units aim to achieve strategic goals for the parent company which can be very diverse (Renz, 2019). Usually, Corporate Venture Capital firms do not primarily focus on direct financial success since their investment focus is too restricted for a balanced portfolio. Instead, ventures mostly are used as opportunity for new revenue alongside base business growth, internal R&D, technology licensing, and acquisitions (Winters & Murfin, 1998). Furthermore, Corporate Venture Capital firms are mostly exclusively funded by one parent company (Witzler, 2001). This also contributes to a difference in motivation and operating principles. While General Partners of traditional Venture Capital firms exert significant demand to achieve excess financial returns, corporations as main to sole sponsor are closer connected to their venturing vehicle. Thus, they can actually enforce their strategic venturing plans.
The corporate venture capital market in Germany is growing in size and also its share of venture transactions. The reasons for the latter will be discussed in this thesis. Because the European Venture Capital market is very closely interconnected, reports for size of transactions focus on Europe instead of national submarkets. By the end of 2018, Corporate Venture Capital participation in venture deals was up to 25% growing with a CAGR of 9.6% over the last eight years (Lavender, Hughes, & Speier, 2019). (graphic)
Companies define various, individual goals for their Venture Capital Funds. Firstly, there can be financial goals. A focus on such results can lead to agency problems and moral hazard.
Additionally, there are manifold possible strategic objectives for corporations to fund a Corporate Venture Capital unit, such as:
- Growth Enhancement (Access to new technologies, preparation of acquisitions, safeguarding sources of components/resources, increase demand for (own) core products, extension of product range, observing new markets) Comment by Janka, Niklas: Quelle Inno
- Technology Observation[footnoteRef:3] (Antenna function, exploitation of strategic window, access to carriers of relevant technological knowledge) [3: Often referred to as window on technology which offers earlier and better access to innovations (Financial Times, 2019)]
- Efficiency Enhancement (Access to efficient forms of R&D, synergy creation from complementary capabilities, limitation of technological development risk)
- Entrepreneurial Spirit Problem (Promoting entrepreneurial spirit via access to spin-offs, training and networking for managers)
Furthermore, companies might invest in start-ups for reputational reasons.
Tobias Weiblen and Henry W. Chesbrough (2015) claimed in their widely discussed paper Engaging with Startups to Enhance Corporate Innovation that Corporate Venturing has the opportunity to connect two different ecosystems. Hence, their unique value proposition for the company must be to grant access to entrepreneurial activities.
Advantages of Corporate Venture Capital for Startups
From the viewpoint of a startup, there are four main advantages in taking a Corporate Venture Capital unit as an investor compared to a traditional Venture Capital firm or also a business angel (Winters & Murfin, 1998).
Firstly, established corporations have substantial cash reserves and, more importantly, can commit capital in the long term because they do not have to raise money per fund but invest cash that already is earned.
Additionally, corporations have significant know-how in their respective field. Hence, they can support the startup intellectually. Some traditional Venture Capital firms operate as company builder which means they provide not only funding but also contribute significant operational assistance. More precisely, such firms support their ventures by deploying their executing employees directly in the startups. Corporations have a considerable advantage to support startups operationally since they have multiple times the workforce of any company builder and often include operational collaboration. Hence, no traditional Venture Capital firm can match the broad knowledge base of an established, multinational company.
Thirdly, the corporate name and the connected image is an asset. For the start-up, a highly respected shareholder can signal credibility to other investors and ease subsequent financing.
Finally, small firms cannot possess comparable marketing and distribution networks due to limited time, capital, and human resources. Thus, utilizing the system of an established player can accelerate growth and traction significantly.
Currently, there is a liquidity surplus on capital markets and, hence, Corporate Venture Capital firms differentiate by solving the most important challenge of start-ups to scale fast. Potential investors cannot stand out by their liquidity alone. (Brigl, et al., 2018).
Methods
To assess the landscape of Corporate Venture Capital in Germany, all Venture Capital vehicles of DAX 30 companies were assessed. Additionally, Tengelmann Ventures, Vorwerk Selling Ventures, Check24 Ventures and Holtzbrinck Ventures as representatives of the economic centers Ruhr area and Munich are included in the analysis.
In the first part, a comprehensive list (fig XX) was created comprising relevant information along the definition of Corporate Venture Capital by Bain & Company.
This thesis focuses on corporations that established vehicles that are responsible for equity investments in startups[footnoteRef:4] in order to create a common ground for comparability and develop recommendations for operating such vehicles. Overall, the following Corporate Venture Capital units were included: Hydra Ventures, Allianz X, BASF Venture Capital, Leaps, BMW i Ventures, Tech Invest, DB1 Ventures, Lufthansa Innovation Hub, Deutsche Telekom Capital Partners, E.ON Ventures, Fresenius Medical Care Ventures, Henkel-Ventures, M Ventures, innogy ventures, Sapphire Ventures, Next47, Tengelmann Ventures[footnoteRef:5], Evonik Venture Capital, Vorwerk Selling Ventures, Check 24 Ventures, Holtzbrinck Digital. [4: According to Stanford professor Steve Blank, a startup is an organization formed to search for a repeatable and scalable business model (Ready, 2012). This definition is applied in this thesis.] [5: Tengelmann Ventures is included in this analysis despite its dissociation from Kaisers Tengelmann during the takeover by REWE and EDEKA in 2016/17 (Mehringer, 2017). By the definition used in this thesis, it is not a Corporate Venture Capital anymore because it is not operating for a corporation. Hence, it is not included in the quantitative analysis but used for case examples.]
An exhaustive table of German corporations and their Corporate Venture Capital units included in this thesis can be found in German Corporate Venture Capital Units and Their Investments.
Some corporations engage with startups using other types of vehicles. Software giant SAP created the SAP Startup Accelerator that also enables young firms to connect with the company and provides similar advantages for SAP as a Corporate Venture Capital do. For instance, they collaborate with digital freight-forwarder Instafreight and are integrating its platform for booking shipments into the market-leading SAP enterprise resource planning (ERP) product. Thus, SAP can offer an increased service level. However, while goals are similar there is no equity investment and hence, it is no Venture Capital.
The key factors of Bain & Companys definition of Corporate Venture Capital are the parent companys growth objective, the innovativeness of the targets, the financial funding aspect and a to some extent autonomous management and team. Firstly, Corporate Venture Capital units of DAX companies and additional significant German Corporate Venture Capital units was be categorized along with these levers. Additionally, their fund and investment size[footnoteRef:6], target industry, and the extent of cooperation with ventures will be compiled. [6: When necessary, USD where converted to EUR at the rate of 1.12 USD/EUR on April, 1.]
The data were gathered on the respective funds website. Additionally, the Bloomberg Profiles and primary interview research was used to collect data.
Secondly, interviews were conducted with employees and General Partners of those funds in order to develop a deeper understanding. A rather qualitative than quantitative approach was selected for several reasons. Firstly, there is a limited sample size of less than 40 venturing units which means a very high response quota is needed to generate significant results. Secondly, the goal of this thesis is to assess what defines Corporate Venture Capital in Germany and what are its success factors. Therefore, Webers approach to categorize influencing factors on subjective scales did not seem to fit for these questions. For this research paper, subjective scales were used because the relevant issues were mostly qualitative.
The interviews contained but were not limited to the following questions:
- Does the focus of your fund in the selection and development process lay rather on integration or financial success?
- How does your fund collaborate with ventures? How close is the supervision? Do you collaborate operationally? Are other business units engaged in the collaboration?
- What is the position of the investment vehicle in the organizational diagram of the corporation? Does the parent company individually permit investments or is there a distinguished fund? Which accountabilities are in place?
- When have you experienced advantages as a Corporate Venture Capital Fund in comparison to a traditional Venture Capital Fund?
- Which challenges do you face in collaboration with the parent company and ventures?
The interview was extended to cover additional questions or experiences the interviewee brought up. Hence, the format was semi-structured to cover relevant information but was flexible to adjust for additional insights. The planned duration of an interview was between 15 and 30 minutes.
The interviews were conducted via phone, video call or face-to-face and audio recorded. For Holtzbrinck Ventures and Vorwerk Selling Ventures, single questions were answered via electronic communication. A detailed overview of all interviews conducted can be found in the appendix.
Results
German Corporations with Venture Capital Units
15 of 30 Dax companies have at least one vehicle that matches the definition of Corporate Venture Capital in this thesis. Interestingly, there is no apparent correlation between the industry of the parent company and activity in the field of Corporate Venture Capital. The average fund size of the selected Corporate Venture Capital units is ¬530m. However, few Corporate Venture Capital units have distinct funds but often invest firm money as they see fit. In these cases, money actually invested was considered as fund size. Hence, in comparison to traditional VCs, funds are underestimated for the vast majority of the vehicles that do not have a fund since only money actually invested was considered as funding.
However, ¬530m of average fund size is a remarkable number and again shows the importance corporations attribute to their venturing activities. This also enables corporations to make an impact on capital markets for startups.
Strategies of German Corporate Venture Capital Units
Traditional Venture Capital firms focus their strategy on achieving an IRR on funds that justifies the risky investments. Corporate Venturing can pursue either financial, strategic or a mixture of both goals since their funding is provided by one principal that has a distinctive strategy. Hence, a corporation can use its Corporate Venture Capital unit as part of its strategy.
Interestingly, there is a significant correlation* (fig XX) of 0.72[footnoteRef:7] between the development of the EuroStoxx and the total amount of Corporate Venture Capital invested in Europe[footnoteRef:8]. Both indices peak in the economic boom of 2017. While the amount of money invested decreased slightly afterwards, Corporate Venture Capital still increased its share of the deal count showing the growing importance of this type of funding for startups. This suggests corporations either see Corporate Venturing as an attractive option for financial returns in times of excess cash or they could not utilize strategic investment opportunities when cash was short. The graph also visualizes that the relative change of invested money is a multiple of stock price development showing investments into ventures is rather a bonus than a necessity to many corporations. Because stock price is only one of many influencing factors, linear, polynomial, logarithmical, and exponential regressions result in R2 below 0.6. [7: n=36; t=2.1; p
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