How corporate venture capital investing differs from traditional VC

Traditional VCs are known as “institutional” because their investible capital is derived primarily from institutions like public pension funds, university endowments, money management firms that specialize in fund investing and professional family offices. These sources of capital are known as limited partners (LPs), while the managers running the VC fund are known as the general partners (GPs).

In most institutional venture firms, there is a diversified base of LPs. Many professional LPs set policies to compose 20% or less of the total capital commitment for any given fund. This is similar to the way that venture capitalists themselves syndicate start-up investments. It’s not uncommon for a venture capital fund to include somewhere between 10 and 100 limited partners, which limits the concentration of power for any single LP. While there may be a “lead investor” for a VC fund, in most cases, it takes multiple LPs to make changes during the term of a fund.

These institutional funds should be viewed distinctly from “micro VCs” or angel funds, which may be investing the capital of a few wealthy individuals and have neither institutional investors nor a diversified LP base.

In contrast, most CVCs have only one source of investible capital: the CVC’s parent corporation. Unlike Sequoia, which has many limited partners, Merck is the only investor in Merck’s Global Health Innovation Fund ,, and so on.

This key difference in structure results in a massive concentration of power for most parent corporations sponsoring CVC programs, with meaningful implications for how CVCs operate.

Institutional LPs are “limited” in their legal liability for the activities of the fund, especially any problems that result when the fund’s start-ups “move fast and break things.” Keeping their percentage of ownership of the fund below a 20% threshold is one way to limit potential liability.

The LPs in a traditional fund are usually hands-off, which is another way to limit liability. By design, LPs do not approve or manage the investments of a VC fund. In many cases, LPs speak to GPs quarterly and at annual LP meetings, where they get a chance to meet some of the portfolio company CEOs and hear first-hand about the fund’s performance. While some LPs talk to their GPs on a regular basis and try to help with introductions to assist the portfolio, most are quite passive. As a result, the GP is mostly left alone to find start-ups, cut deals, and generate returns. If LPs don’t like the job a GP is doing, their recourse is to decline to invest in the next fund, which may be three to six years away.

Because the capital source for most CVCs is so concentrated, the parent corporation is often heavily involved in the day-to-day of a corporate venture fund. With 100% ownership of the investible capital, there is no limit to liability, so CVC owners are often “all up in the biz” of their captive venture funds. This can include setting and re setting strategy, dictating potential check sizes on a deal-by-deal basis, withholding reserves for follow-on investment, approving or denying transactions, or potentially even shutting down the investment program. Weekly, or even daily, communication with corporate financial sponsors is much more typical than the quarterly cadence of institutional venture capital. The relationship is typically high touch.

The majority of institutional venture funds are structured to last for 10 years, with provisions for two or four one-year extensions with approval by LPs or an advisory committee. The term length contemplates a time for new investments (the “investment period,” often three to six years) and recapturing value from those investments (the “harvest period,” or the remaining years). Once a GP has completed making new investments, the firm usually seeks to raise a follow-on vehicle known as a successor fund, which can result in a GP managing as many as five or six funds simultaneously in various stages of deployment.

Most CVC funds have no fixed term and may not even be structured as funds, instead drawing capital directly from the corporate balance sheet or a company-controlled LLC to make investments. On one hand, an open-ended time horizon may lead a corporation to adopt a patient stance with portfolio companies, and many start-ups require more than 10 years to reach their potential. On the other hand, the lack of a fixed term may result in minimal urgency for corporations, potentially taking them out of alignment with other venture capital investors.

There are certainly exceptions. Following venture capital industry norms, Bill Taranto, who runs the Merck Global Health Innovation Fund mentioned above, was able to secure a 10-year term for the fund from his parent corporation.

CVC best practices also include aligning the corporate C suite on a “charter” that defines key decisions like the budget and time horizon for investments.

As noted, institutional VCs are so named because their investors are institutions, not because of their own organizational design. In fact, most institutional VCs would be properly described as boutiques, with a handful of partners who are also the owners and with headcount ranging between 10 and 50 employees.

These organizations are rarely designed to grow beyond this scale, resulting in the morbid joke that to advance within the firm, a young investor might need to wait for one of the partners to retire or die. In actuality, impatient young investors with a good track record tend to leave to become “emerging managers” and start their own firms, rather than wait for a promotion that may not arrive. The result of this design is that traditional VC firms usually act nimbly, matching what the industry calls “start-up speed.”

Corporate venture structures, however, are corporate: if they are not set up with an effective operating model and proper governance, they can be overly complicated, with unclear accountability potentially impeding the CVC’s ability to make things happen in a timely fashion.

CVC investors may effectively be middle management within the larger organization, in contrast to the partner-owner model of traditional VCs. The teams themselves can be much larger, including a literal “cast of thousands” from the parent corporation's business units; all these employees can have various stakes (and opinions or requirements that need to be addressed) in the success of the CVC program. Of course, all this complexity can also create potential advantages, as discussed in section 7 below.

The structures described above help explain one of the main differences between traditional VCs and CVCs. The institutional VC is a small, specialized group focused on one goal: producing a risk-adjusted return for LPs (and themselves) from gains on private company investments. Fail to make money for LPs, and the firm will be out of business. While there are institutional venture funds that include a “double bottom line” of societal returns or regional economic development, the most important bottom line for the vast majority of VCs is simply financial ROI.

This is where the paths diverge with corporations because there is an entire organization behind the CVC fund with additional needs (and offering potential benefits). In most cases, the corporation sponsoring its own venture capital program has hundreds of millions or billions in annual revenue and objectives deriving from its P&L operations. At the highest level, these include defending the existing business from disruption and innovating to grow into new businesses. While the financial returns generated from the equity gains in start-ups can be quite valuable, these can often be the tip of the iceberg compared to defending a multibillion-dollar business or helping guide an organization down the path of digital transformation.

Quite simply, traditional VCs care about making money, while CVCs need to make money and address critical matters of corporate strategy. If CVCs neglect making money through equity returns in favor of strategy, they risk alienating themselves from institutional VCs and the very entrepreneurs that they backed. This can be the greatest source of friction in VC/CVC relationships.

With only one way to produce returns, and an all-time high of capital in the market to fund start-ups, traditional VCs are somewhat at the mercy of entrepreneurs, though, given current market conditions, there might be a correction soon. The term “entrepreneur-friendly” has entered the venture capital lexicon in the last decade and can be seen on the websites of many venture firms, reflecting the power of entrepreneurs to dictate terms.

Because the venture capital power law requires investors to get into deals that produce top returns, VCs often cater to their entrepreneurs, turning the entire affair into a bit of a popularity contest.

The dominant mentality is therefore to play offense and get into the best investments because there is no other form of value to be generated in the traditional venture capital model. While VCs are in the business of riding the increase in start-up equity value, their own model rarely produces any inherent equity value. This can be seen in the fact that there is no market for buying and selling venture capital firms.

In traditional venture capital, the most you can lose is 1x your money, and, for institutional funds, the vast majority of the money at play belongs to the institutional LPs. This sets the stage for GPs to take big risks.

For corporations, the most you can lose is the entire market cap of your company, which can make all the difference in shaping a conservative culture that could struggle to embrace risk and opportunity.

As a result, CVCs default to a governance mentality in place of seeking popularity. These organizations tend to play defense instead of offense. While fear of missing out guides VCs, the stereotypical CVC operates according to the fear of making errors.

In the spring of 2020, Touchdown investor Greg Bergamesco led a survey of traditional VCs and CVCs to find out how they were planning to adapt to the COVID-19 pandemic. The Touchdown team collected responses from over 100 venture capital firms, about half of which were institutional and half CVCs. The results back up these generalizations about offensive and defensive mentalities . While the market recovered and few of these adaptations occurred in practice, the stated intentions are revealing. The traditional VCs surveyed indicated that they were planning to be aggressive in boosting returns by driving down valuations and improving deal terms. The corporate VCs revealed the desire to minimize losses by performing more extensive diligence and shifting to later-stage deals with lower risk.

Venture capital is seen as a financial profession because the core activity is money management, but practically speaking, there is very little finance in the day-to-day job. The function includes heavy doses of sales (convincing good entrepreneurs to take your capital and other investors to syndicate with you) and general management (helping startups grow quickly and avoid mistakes that could put them out of business). In many ways, those general management skills represent a specialized version of consulting for startups, and that’s what entrepreneurs are buying when they trade their startup equity for cash services.

Those consultative services include financial oversight, recruiting, networking, product advice and assistance with follow-on funding and, ultimately, with exits. We’ve seen firsthand how experienced and dedicated VCs can add value to their startups, whether from a role on the board of directors or simply as an active investor on the cap table.

While CVCs can, and should, emulate traditional VCs when it comes to these consultative services, they can also bring much more to the table. This is where the corporate parent and team behind the CVC can be an asset instead of a liability. CVCs can pursue commercial deals on behalf of their corporate parents, bringing revenue, distribution, marketing, supply chain relationships and product expertise. Whereas many traditional venture firms have tried to imitate Andreessen Horowitz’s “operating partner” model with one or two employees who help with business development introductions, corporations can be the business development partner. It’s a powerful option for the mutual benefit of a startup and a corporate investor.

As noted above in section 5, unlike traditional VC firms, CVCs are generally not exclusively concerned with driving financial returns. CVCs are also focused on strategic returns. Per the EY-Parthenon 2022 Digital Investment Index report, which surveyed over 1,500 executives, 44% of CVC respondents cite supporting new market expansion as their primary objective, further underscoring how corporate investors differentiate themselves from traditional VCs when closing deals with entrepreneurs.

In fact, CVC funds are the venturing tool of choice: 60% of organizations say that a dedicated CVC fund, as opposed to direct investing off the balance sheet (13%) or investing as a LP in a VC fund (27%), produced the best corporate venturing results.

Of course, operational involvement with portfolio companies can go too far. It’s the job of the management team to run the startup and for the VCs and board members to support that effort, not to meddle. But CVCs can leverage their deep industry expertise to give that support, providing a potential competitive edge for startups.

Our experience shows that each model has its strengths and weaknesses. While some traditional VCs still discredit CVCs, we’ve seen first-hand that entrepreneurs are hungry for any source of competitive advantage and are eager to harness the benefits that corporations can bring as investors. But these potential advantages are only as good as the corporation’s ability to follow industry best practices and work constructively with startup founders and traditional VCs.

Entrepreneurs, institutional VCs and corporate VCs should be keenly attuned to understanding the similarities and differences between these subclasses of venture if they are to work together successfully.