Why corporate VCs hate startup ‘zombies’
By Gabey Goh May 27, 2015
- Dying startups that cling to life, sucking all your time and attention
- Corporate venture capital growing, making earlier bets on tech startups
“If a company fails and dies, you get over it and move on. The painful ones are the ‘zombies’ that cling to life and suck all your time and attention … the ones that go nowhere and just limp along at a 5-10% growth rate,” said Scott Darling (pic above), president of EMC Corporate Development and Ventures (EMC Ventures).
“Those are the ones that can last for five to 10 years, and the whole time you’re sitting there thinking ‘Gosh, are we one pivot from this thing breaking out?’
“You don’t want to be the partner that gives up on a firm right before it explodes.
“We all have those memories, it’s just part of the game,” Darling said at a rare presentation to media and analysts during the recent EMC World in Las Vegas, Nevada.
Darling was sharing his insights on the rise of corporate venture capital (CVC) investment in the technology space.
There is no question that CVC has arrived and is here to stay. According to Darling, during the early 1990s when corporate venture investing began, involvement was in the single digits as a percentage of the total venture industry.
“You also saw a high degree of volatility, where when the market was good CVCs would jump in; and when the market was bad, they would pull out – but that’s a historical phenomenon and is no longer the case.
“CVCs have become much more sophisticated, and are now an established part of larger VC industry. They now account for nearly 20% of total venture capital invested in the last few years,” he said.
Topping the list of most active corporate venture arms since the start of 2011 was Intel Capital, which invested in over 230 unique companies over the period.
Not far behind were Google Ventures and Qualcomm Ventures, which have both invested in over twice (four times in the case of Google Ventures) as many companies as the next most active investor, Salesforce.com.
CB Insights data shared by Darling showed that in 2014, corporate venture firms participated in 18% of the total of 3,617 venture capital deals, up from 15% in 2013. Corporate investments accounted for US$12.3 billion of the total venture investment amount of US$46.8 billion.
“What’s interesting is that if you look at data, the CVC is now an established part of the larger VC industry. It’s growing and growing rapidly, and here to stay.
“In addition, 30-40% of corporate investments transcends the IT industry as the rate of technology disruption is huge across all industries – even ones you wouldn’t expect – so people are actively investing,” he added.
Darling highlighted an interesting shift in corporate venture trends, pointing out that almost 15% of the deals done by CVCs in the last quarters of 2014 were in Series A and Series B funding rounds.
“This is really a new development and foretells the acceptance of corporate capital investors by the entrepreneurial community, that they like having corporate investors in during the early stages,” he said.
The motivation for CVCs to get in earlier in the game is clear enough, with Darling arguing that it is no longer enough to just respond to disruption as it happens.
“You cannot react on a month-by-month basis. If you respond to disruption ‘at that moment,’ then chances are it’s probably already too late.
“If you haven’t been plugged in for years, monitoring, understanding, and working to build these startups, then your ability to respond is limited and has dire consequences for the business,” he added.
Darling said that no matter how big or dominant you are in a market sector, the reality is that more R&D (research and development) dollars are invested outside corporate walls than inside it, with dramatic and increasing rate of change across industries.
“If disruptive research and development is taking place out there in the market, you have to be in the game from the beginning,” he said.
“For your business to be successful, you have to track this R&D and understand it. Inevitably there will be a disruptive technology that will wash over your industry and even the biggest players must be nimble enough to respond.
“As the saying goes, even elephants have to know how to dance,” he added.
To illustrate his point, Darling pointed to one of EMC Ventures’ own success stories, XtremIO, which has moved the needle for EMC Corp.
EMC Ventures had originally invested in the flash array startup during its Series A round in 2009, and worked closely with the company, with EMC Fellow & Distinguished Engineers assigned to assist it with architectural issues.
“We had investments in other companies in the flash arena and worked together with them,” said Darling.
“We acquired XtremIO three years after investing in it and in 2014, the company reported a US$1.2-billion run rate,” he added.
Darling cautioned that along with successes such as XtremIO are “numerous things that don’t work out,” which is just how the venture game is and an aspect investors have to accept.
“But the point I want to make is, three years before we acquired it, and about four to five years before it even broke into the marketplace, we were already deeply embedded within the company,” he said.
Next Page: Viral entities, the host culture and crazy valuations
Betting on other horses
EMC Ventures was formed in 2011 as a ‘stage-agnostic’ firm that invests between US$500,000 and US$50 million in innovative companies within parent company EMC’s focus areas of storage, security, virtualisation, cloud infrastructure, big data, enterprise platforms, and mobility.
It pursues investments across EMC’s federation of businesses that includes EMC, Pivotal, VMware, and RSA.
Darling (pic) joined the team in 2012 and prior to that, had stints at Frazier Technology Ventures and was vice president and managing director at Intel Capital.
During his tenure at Intel Capital, the team completed more than 300 transactions and achieved an Internal Rate Of Return in excess of 26%, according to EMC.
Darling said that the bulk of EMC Ventures’ investment activity is concentrated in Palo Alto, California – in line with the broader industry trends – but the team also has a presence in Boston and Israel.
It doesn’t look closely at Asia but keeps its ‘ears to the ground’ via EMC Corp’s on-ground presence in the region.
Asked about whether he has found startups to be reasonable with their valuations, given the trend of large and larger sums of money being tossed about, Darling said it was “all over the map.”
“We walk from deals regularly due to the valuation, because we feel they are getting ahead of themselves – but our pace of deal-making has not changed substantially and we’re able to find fairly valued companies.
“Personally, there are definitely companies that are over-valued but I was around investing during the original boom from 1998-2000 and saw a lot of imminent train wrecks … and they were obviously train wrecks.
“There are a lot of companies today that are dubbed ‘unicorn companies’ with billon-dollar valuations, but the majority of these companies usually have hundreds of million in revenue, so I believe that most are rationally valued – but there are exceptions,” he said.
When it comes to evaluating prospective investees, Darling said that EMC’s approach is not much different from traditional venture firms that look for great teams with a proven track record, along with large markets that offer opportunities to build a substantial business.
“We also look at the quality of the syndicate and people we’re investing with, as the typical timeframe before an exit is about eight years and you’re holding it with partners.
“It’s a marriage of sorts, so you have to be comfortable with them and get along – if not, it’s going to be a long eight years,” he said.
Darling said that any firm that is determined, with the right people and a willingness to work hard can build a respectable corporate venture practice.
“But if it’s that mechanistic to build it, why is it many struggle to do it? It has as much to do with the culture of the host company that’s hosting the corporate venture firm as it does with actual venture team you build,” he said.
“The host company has to be knowledgeable and engaged with what’s happening outside its own walls, and the culture itself has to be open and excited about engaging with external ‘viral’ entities.
“You can do all the right things, but if the host doesn’t have the right culture, chances of success are greatly diminished,” he added.
Darling said that in order to drive value from the CVC team, the host company has to be accepting of high risk ventures, with a welcoming attitude to ‘foreign R&D DNA.’ Similar to the immune system of the human body, when a viral agent enters, the typical reaction is to kill it.
“It does take a bit of emotional fortitude and this is important in how you structure your corporate venture team and where it reports,” he said.
“You have to be able to tolerate internal dissonance and all the pressures and stresses that are implied to get to an outcome.
“Sometimes that means betting on horse other than the one you’re riding on, and believe me, that does create tension,” he added.
Gabey Goh reports from EMC World in Las Vegas at the kind invitation of EMC Corp. All editorials are independent.
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