Last night I stumbled across a WSJ article reporting that Google is planning to open a venture capital arm (see Google to Extend Reach with Venture-Capital Arm). Who better to comment on Google’s plans than Gary Dushnitsky, one of the foremost scholars on corporate venturing. Gary is a friend and colleague from Wharton; and given his expertise, I asked him to share his thoughts as a guest blogger. Hope you enjoy his perspective. I’m hoping he will chime in from time to time with commentary on strategy, entrepreneurship, and related topics.
Thursday’s news (July 31, 2008) suggest that Google is the latest company to join the Corporate Venture Capital (NYSE:CVC) club. The practice of minority equity investment in entrepreneurial ventures has been around since the 1960s. Corporate venture capital, however, might be remembered by most as a curiosity of the late 1990s, when many leading corporations - Dell (NASDAQ:DELL), Microsoft (NASDAQ:MSFT), and Lucent (ALU) to name a few - entered only to fold their venturing units a couple of years later. Yet there are also anecdotes to the contrary. Intel (NASDAQ:INTC) (Intel Capital) has been a major player in the venture capital space for many years, as has Motorola (MOT) (Motorola Ventures), Johnson & Johnson (NYSE:JNJ) (JJ Development Corporation) and even the Central Intelligence Agency [IN-Q-Tel].
The (yet unconfirmed) news from Mountain View, CA is even more surprising when one takes into account another bit of news from earlier this year. In March 2008, KPCB launched iFund, a $100M fund dedicated to investing in “…market-changing ideas and products that extend the revolutionary new iPhone and iPod touch platform” (see here for details). The interesting observation is that Apple (NASDAQ:AAPL) chose not to pursue this line of investment via corporate venture capital. Moreover, Apple is not a limited partner in iFund. Apple’s actions are somewhat surprising given that (a) it sits on large cash reserves upwards of $10B, and (b) it had experience with CVC investing in the past.
There are many issues one has to consider when structuring a CVC program. Google might have a head start on some of these issues, such as gaining traction with the venture capital community, and carefully managing relationship with entrepreneurs. However, internal issues often prove the most taxing. The topic of compensation, for example, tends to be highly contentious. Independent venture capitalists stand to make millions through ‘carried interest’ (i.e., keeping about 20% of the profits). Traditionally, the compensation package of CVC personnel follows corporate-wide policies – only a handful of CVC programs award ‘carried interest’ to their investment professionals. In a recent study with Professor Zur Shapira (Stern School of Business, NYU), we observe that the lack of ‘carried interest’ is prevalent among CVC programs and critically affects the investment practices they undertake [Dushnitsky and Shapira. 2008. “Entrepreneurial Finance Meet Corporate Reality: Comparing Investment Practices by Corporate and Independent Venture Capitalists,” Academy of Management Best Paper Proceedings].
Whether ‘Google Ventures’ is a good idea or not , only time will tell. The evidence, however, suggests that there is room for cautious optimism. I conducted a comprehensive study of strategic value of CVC investment along with Professor Michael Lenox (Darden School of Business, UVA). We analyzed the innovation output of 247 CVC investing firms, and compared it to that of their industry peers. The results indicate that corporations investing in CVC experience greater patenting output [Dushnitsky. and Lenox. 2005. “Corporate Venture Capital and Incumbent Firm Innovation Rates” Research Policy, 34(5):615-639]. In a related study, we explore the overall financial benefits to the parent corporation. Analyzing the same data, we find that CVC-investing firms exhibit higher Market-to-book value, in comparison to industry peers. The premium, however, is experienced solely by strategically-oriented CVC programs while financially-oriented programs experience a discount [Dushnitsky and Lenox. 2006. “When Does Corporate Venture Capital Investment Create Firm Value?” Journal of Business Venturing, 21(6): 753-772].
The adage goes “If you cannot beat them, join them.” In our entrepreneurial, innovation-driven economy Google is clearly heeding the call. Will Brin, Page, Drummond, and Maris be able to claim “Veni, Vidi, Vici?” That all depends on “How the group will be structured and what sort of investments it is likely to target,” which according to the WSJ still “remain unclear.” Hopefully we will not have to wait 7 years to find out…