JONES DAY TALKS®: Corporate Venture Capital Investing
Podcast: Play in new window |
SUBSCRIBE TO JONES DAY TALKS®
Subscribe on Apple Podcasts
Subscribe on Android
Subscribe on Google Play
Subscribe on Stitcher
Read the full transcript below:
Dave Dalton:
You might not be aware that sources of venture capital funding are much broader than just the established funds and institutional investors. Corporations around the world continue to play a major role in venture capital transactions. Jones Day Partners, Tim Curry and Taylor Stevens are here to talk about corporate venture capital or CVC. You'll hear about market trends, who's investing, and the types of transactions they're making, and the special considerations CVC investors should take into consideration. Stay here. Should be a great discussion. I'm Dave Dalton, you're listening to JONES DAY TALKS®.
Jones Day partner, Tim Curry, based in Silicon Valley and San Francisco has for more than 25 years represented startup, emerging growth, and public technology companies and public offerings, venture capital, and growth equity financings, as well as mergers and acquisitions. He also represents leading VC firms and growth, equity financing, as well as investment banks and public equity offerings.
And Taylor Stevens, an active participant in the San Diego and Silicon Valley communities, has advised clients for more than 25 years in the areas of venture capital, M&A, and capital markets transactions. His practice focuses on the representation of emerging growth and established technology and life sciences companies. And Taylor has extensive experience in the full lifecycle of the company from formation through financing and exit transactions. Tim, Taylor, thanks for being here today.
Tim Curry:
Thanks so much for having us. Great to be here.
Taylor Stevens:
Yeah, absolutely. Thanks for having us, Dave. And before we get started, let me say it's great to be here with Tim Curry too. I started working with Tim back in Palo Alto in the late 90s. Which not to date ourselves, but he's really a great practitioner, great colleague, great friend. So to be here 25 years later at Jones Day speaking on these topics, this is great. So thanks, you guys.
Tim Curry:
It's our 25th anniversary tour, Taylor.
Taylor Stevens:
Yeah, right.
Dave Dalton:
So you guys have been working together 25 years and only now we've been able to drag it together to do a JONES DAY TALKS® podcast. I don't know if I should feel honored or slighted, but somehow we should have done this before. Right?
Taylor Stevens:
Indeed.
Tim Curry:
It won't be the last, I'm sure.
Dave Dalton:
Hope not, hope not. But we've got a great topic today, corporate venture capital or CVC. We've been wanting to do something like this for a while, so I can't think of a better two lawyers in the firm to tell us what's going on in the market currently, what trends you see developing, what would be CVC investors should look for and so forth. So, let's dive right in. Before I get too far ahead or out over the skis, as they say, Tim, for people who maybe aren't entirely familiar, explain what exactly corporate venture capital or CVC is.
Tim Curry:
Thanks, Dave. So corporate venture capital is venture capital, but rather than being done by venture capital firms like we traditionally think of, its venture capital minority investments made by corporate companies, by actual operating companies. And we've really seen a huge increase in the prevalence of corporate venture capital, CVC deals over the last five or 10 years. It used to be something that was primarily large cap tech and life sciences companies.
And now it's something that I would say most large corporations are doing, or at least considering. And it's in a really broad range of industries, from industrial companies, to consumer product companies, to blockchain digital asset companies. It's really all across the board and certainly not something that only large tech and large life science companies are looking at.
Dave Dalton:
Sure. And to pick up on that point, are there particular trends you've noticed in terms of CVC investing over the past five, 10 years? Where's this going?
Tim Curry:
Yeah, we'll get into some of the market data a bit later, Dave. But the biggest trend really is just the prevalence of it and the number of deals that involve CVCs, and then the number of companies that have CVC pieces to their business. It used to be deemed that CVCs were almost tourists in the venture capital industry. Now they're a really important part of the venture capital ecosystem. And I'll repeat this later, but 25% of all venture capital deals evolve as CVC investment. And that's remained very steady over the last five years or so. But I would say that that data would've been far lower 10 years ago, 15 years ago, or 20 years ago.
Dave Dalton:
25% of the activity is not a small chunk. I mean, as you said, they're not tourist anymore, they're major players.
Tim Curry:
Yeah, absolutely. And there's even a slightly higher prevalence of lead investments by CVCs. I'd still say that's the vast minority. We'll get into all this. But CVCs tend to follow venture capital investors, but we are seeing a slight uptick anyway in CVCs actually leading deals, which is a pretty major trend.
Dave Dalton:
That's a development, for certain. Let's go over to Taylor Stevens for a second. Taylor, thank you again for being here. I guess the next or obvious question is, why? Why do large corporations tend to make these investments? What's in it for them potentially?
Taylor Stevens:
Yeah. Thanks, Dave. Particularly as Tim was saying, when we're seeing more and more CVC investment activity, why are corporations making these types of investments? And look, I think at the root of every investment is the opportunity for return on that investment. That's the cornerstone of the venture market. And financial returns matter for CVCs too. And we'll talk about this a bit more, but some CVCs structure their investments and they see themselves more like traditional VCs. There's certainly a movement in that direction. So look, a return on investment continues to be a big focus. No entity wants to lose money. But unlike traditional VC funds, there's a lot of other drivers for CVC investment activity. So, let me touch on a couple of them here.
Dave Dalton:
Sure.
Taylor Stevens:
So first off, these types of investments allow corporations to gain insight into the ecosystem and see new technologies. So it provides headlights, so to speak, and visibility into market trends. Look, when we think about the competitive landscape these days, no longer do we see just a handful of main players. We have a wide spectrum of early stage companies, many of which have raised significant funds. They're scaling, they're developing. It's a rapidly changing market. And in order to identify new technologies and maintain competitiveness, I think it's really important for corporations to know what's going on in the marketplace and to have these headlights, and being a part of that ecosystem is really critical.
I'll also say that by funding new technologies, these CVCs may actually help create a market. And that's what we're seeing with certain disruptive technologies now like FinTech and gen AI. And it's what we've historically seen in other industries like networking and chips and data storage. You think Intel and Cisco creating markets and gaining Intel through their CVC programs.
Dave Dalton:
Is this what economists used to call vertical integration? Are they looking for synergies to add to their core business? Are these side bets or can it be both or some combination? What are the investment officers that a company thinking when they're involved in this?
Taylor Stevens:
Yeah, that's a great question. And it depends on the strategic objectives of the specific CVC, but it could be both. It could be getting deeper into an existing market or it could be an entry into a new market. And so, I think it could be both. So I think there's a lot there, but we could kind of put an umbrella over this topic and say, "Look, these are headlights into the ecosystem and creating new markets." That's one of the first drivers.
So, what's the second driver for CVC activity? I think these types of investments can be a cost-effective way for these large corporations to support R&D and boost growth. And it's a lot less expensive than the M&A path, right?
Dave Dalton:
Sure.
Taylor Stevens:
It costs a lot to go out and buy a company, not so much to make an investment. So when you look at some of these bigger public companies, they're not always positioned from a cost perspective or from a timeline perspective to develop some of these new technologies internally. So, this external innovation becomes pretty important. So, it's an alternative to the traditional R&D to boost growth. And it provides these companies with access to technology and to talent that otherwise may not be available.
Tim Curry:
Yeah. And Taylor, let me add one thing to that. That's a really great point. And I think one thing that really illustrates that is the AI market. The AI market, artificial intelligence market, is one of the most popular areas for CVC investment. It really illustrates a trend where almost every company in every industry is figuring out how to incorporate AI into its product or solution or into its internal operations. But a lot of these companies are not AI companies, some of them are not even tech companies. And so by investing in and then being around these really innovative smaller private AI companies that are cropping up all over the place, they're able to figure out what AI is, where it's going, and how it might benefit their business. They'll probably never acquire these companies, but they may well use these companies solutions. And they're certainly learning a lot from the R&D and the technology that these companies are developing.
Dave Dalton:
That's where I was going to go, exactly. It's like learning, it might be an expensive tuition in some context at least, but geez, it's much cheaper than a straight M&A play, right?
Tim Curry:
Yeah.
Taylor Stevens:
Yeah, absolutely. That's an interesting segue into another driver for CVC. Look, not only do these types of investments provide insight into new technologies and developments, but it can in some circumstances provide potential acquisition targets. And we'll talk about this in a little more detail when we talk about deal structure and deal terms, but some CVCs are making initial investments. And they come in and they negotiate certain acquisition rights in connection with that investment so that they can acquire the company down the road, if the technology is promising and it looks accretive to that CVC's strategic goal.
So in some respects, this can provide an important first look or first in line acquisition opportunity for these CVCs. And in that same vein, I think it also helps hedge bets and de-risks M&A by allowing them to get in early, right? They get early access to these companies and it helps them identify which ones are promising, which ones look like the winners. And they can do that early on. So, that's another advantage and another driver for the CVC investment activity.
I'll finish with a fourth driver, which is these types of investments can help corporations expand product offerings, and support and fund commercial relationships with private companies. And as we talked about, even enter into new and adjacent markets. So in addition to the headlights and boosting R&D and identifying potential acquisition targets, there can be some real commercial advantages here as well.
Dave Dalton:
Sure, sure. And I love the way you summarized that with the four different drivers. And that makes complete sense and clarifies why a corporate entity will want to look at this way.
Taylor, let's stay with you for a second, but I want Tim to chime in too, if he can. Every deal is unique, every transaction's different, every situation has its own challenges, risk, et cetera. But having said that, in terms of a basic structure, are there things that typically happen in a CVC arrangement? How do these things typically look?
Taylor Stevens:
Yeah, you bet. We look at it in two buckets, and I'll go over those. There are some similarities to your traditional VC deal. And in some ways, a CVC investment looks and feels a lot like a traditional VC deal where you have investors, they're coming in and they're purchasing preferred stock from these startup emerging growth companies. And in large part, you have the same suite of investment documents, but there can be, and there typically are, bespoke terms. And we'll touch on that when we talk about side letters and some of these other aspects of the deals.
But when we think about the primary financing documents here, Dave, there's a lot of similarities. You have a charter that lays out the rights and privileges and preferences of the preferred stock that they're purchasing in the deal. And you have a purchase agreement that contains customary and market reps and warranties from the company together with closing conditions and certain mechanics around initial and subsequent closings. And then you have other financing documents that detail out specific investor information and reg rights and rights of first refusal. And then voting and board composition as well. So when you look at it in all, you have a pretty well established suite of financing documents for a typical preferred stock financing. I will say that the deal terms here that you see in these documents, it's really going to vary, depending on two things, one, market conditions and two, the relative leverage that the parties have.
So look, not to take us too far back in the timeline here, but I mentioned starting my practice in Palo Alto with Tim back in the late 90s. Look, during the .com boom, it was an amazing time. Entrepreneurs were coming in off the street with an idea and a term sheet. And Tim and I still talk about those days and former companies that we worked with. All the rounds seemed to be up rounds, and there was this real frenzy. And then came the .com bust. And so, we started to see down rounds and pay to plays and recapitalization, and really the emergence of more investor favorable protections.
Then we moved into, what we call the great recession, the 2008, 2009, where fundraising and investment activity really started to fall by huge percentages. And that presented some unique considerations. And then you had that period that was followed by pretty much a robust investment market as far as valuations and dollars invested, all the way up through 2021. And then we get to last year, 2023, where the market was well capitalized, but pretty cautious. And we'll talk a little bit more about market terms. But in all, when you look at the different cycles over the decades here, you start to see the boundaries of the company favorable and investor favorable terms that are embedded in these financing documents.
And Tim and I talk about this a lot. We follow these trends pretty closely, maybe too closely, but the cyclical nature is pretty interesting. And I'd say that the CVCs largely fall in line with these general market trends and these fluctuations. But the participation level has changed. As we mentioned in the beginning of the program here for CVCs, we're seeing the participation level continue to grow. So we'll touch on that a bit later, but that's the general framework for the investment, if that's helpful. They think about the standard financing documents and how we think about the general terms.
But what about a CVC's approach to investing? What does that look like? And the answer there, Dave, really depends on the strategic drivers for the particular corporation. So the more the CVC is going to be focused on ROI, the more you're going to see larger checks and even later participation. And Tim touched on that. But when you see CVCs more focused on gaining insights into the ecosystem, identifying disruptive technologies, potential acquisition targets, then you may see investments being made perhaps with smaller checks into a lot of different companies, and particularly at the earlier stages. And doing that could carry a greater strategic benefit. And that's really what we've been seeing in the market, particularly going into last year.
Dave Dalton:
Talk more about that. I mean, in terms of the current climate, are the CVCs coming after targets or the targets shopping themselves, as we sit here in early 2024, are they looking for obvious value? Or you talked about before the .com boom, "Hey, we've got an idea, we need money." "Oh, sure. How much do you need?". Where are we in the cycle right now? Is it more of a buyer's or seller's market, to use a worn out cliche? Where do you think we are?
Tim Curry:
Let me address a couple of points on that, Dave. In terms of how do the CVCs get involved, I think that's an interesting thing to think about. The CVCs oftentimes will have either their own fund that they've set up, which has their own executives running it. Or more likely they just have a BD arm that looks for acquisitions and investment opportunities. And most of these BD arms will develop relationships with other VCs, with actual fund VCs. And they'll follow those same VCs oftentimes, into those deals. Because it's the job of the fund VCs to scout deals and to typically do the due diligence, and oftentimes provide the term sheet and set the terms of the investment. And the CVC is oftentimes coming in after the close to fill out the round and provide some strategic perspective to the target company.
But because of that dynamic, they're coming in after the VCs oftentimes. And so, they're reliant in some ways on the VCs to identify these targets and to make these investments. But they're also out there, I mean, these BD arms are talking about commercial relationships like Taylor mentioned. And they're keeping their own eyes on the market for both M&A and investments. So, they'll approach companies on their own. Or companies that are looking for funding, we'll come to them and look to either fill out a round or maybe even get a CVC to lead a round when they're on the fundraising trail.
Dave Dalton:
Sure, sure. Taylor, anything you want to add? We were going to talk about recent market developments, but is there anything you want to-
Taylor Stevens:
Yeah. Yeah, I mean those are all great points. And look, when we step back and we ask ourselves, which is a great question, why is CVC activity increasing so much? There are a few reasons for that. It highlights the importance, not only do the corporation's strategic objectives, but also the benefits to the startups themselves. So in addition to the money and experience that seasoned VCs can bring to the table, the CVCs are bringing these other strategic benefits to the startups as well.
And another consideration, when we look at market data, which we'll get into in a minute, particularly last year, when you look at traditional VCs moving to the later stage investments to help bridge their existing portfolio companies. When you have these tougher market conditions and exit opportunities are not quite as robust, the traditional VCs may be funding the later stage. And as we talked about, there are particular reasons why CVCs may be investing in earlier stage companies. So in some respect, there could be market opportunities here for CVCs to step in and fill the gap, so to speak. As some of the traditional VC dollars are moving to the later stage, there could be more of an opportunity then to invest in the earlier stage for the CVCs.
Dave Dalton:
Interesting. We'll round back up to that, but we did want to get into what we were calling our market developments or recent market developments. Let's talk about those trends. Tim, where is the CVC investment market now versus the last few years? You talked about it a little bit in the introduction, but talk to us about deal flow and so forth, over the last couple of years.
Tim Curry:
Yeah, thanks, Dave. One of the key take homes is that the CVC market is almost exactly tracking the VC market. So even though 2023 was not a great year for venture capital in general, the CVCs are not leaving the market, they're hanging in there. And the deals that they're investing in are largely tracking the same deals that the VCs are investing in.
And so, a couple of data points. The participation by CVCs is held steady at about 25% of deals over the past several years. So it's not a case where 2023 was a tough year, and so the CVCs pulled back and only participated in 10% of the deals, or something like that. They're hanging in there at 25% of all deals through the good times and the bad, which I think is a really strong indicator of the importance of CVC investing to these CVCs.
Another data point is that the number of CVC deals peaked in Q1 2022. And there were nearly two times the number of deals than there were in Q3 of 2023, which is the last complete quarter that we have good data on. But while that doesn't sound great, that also follows the overall decline in venture deals during that same period. So again, the percentage of CVC participation is holding steady at 25%. It's just that the number of VC deals has also gone down quite a bit between Q1 2022 and Q3 2023. So, CVCs are right there with the VCs in terms of their level of activity.
Taylor touched on this, but the other important trend has been that CVC investments are being done at earlier stages now than they were just a couple of years ago. In 2021, 60% of CVC deals were mid to late stage deals. In 2023, 60% of the deals that CVCs are participating in are early stage. So, it's flipped completely from 60% late stage to 60% early stage. But I think that's also consistent with the VC market in general.
As Taylor alluded to, a lot of these high-priced late stage deals are seen as being overvalued in the market. And it's been harder for those late stage companies to close rounds in 2023. And so, the CVC data is really just tracking that, that as the VCs potentially pull back and primarily invest in their own portfolio rather than new deals at the later stage, the CVCs are doing the same thing. And these early stage deals are taking precedence.
Dave Dalton:
But it seems like the CVC component is pretty stable and will be. I think, if I'm understanding you guys correctly, it's going to hang in there at 25 or 26%.
Tim Curry:
No, I agree. And it just shows that the CVCs are here to stay, they're not running for the hills when there's a cyclical downturn. They're sticking it out like the VCs are sticking it out. It's just that the overall number of VC deals has dropped in 2023 while the percentage of deals involving CVCs is remaining steady at 25%. So, they're just tracking the overall VC market.
Dave Dalton:
Sure, sure.
Taylor Stevens:
Tim raises a really great point. When you look at the participation level, it's not varying just based on market conditions. They're really sticking in the space and continuing to participate despite market conditions.
Tim Curry:
And that's a big difference from I would say 15 or 20 years ago, or at least what people thought happened then and thought might've happened now, is that if CVCs were merely tourists, as we mentioned, like maybe they were more so in 15, 20 years ago, the tourists are the ones who are going to bail when times get tough. They haven't bailed, they're still involved in 25% of all deals. So they're a part of the ecosystem, and their fortunes and their number of deals are going to largely track venture capital trends in general.
Dave Dalton:
I don't see any possible downside in that. If you've got 25% of your participation that's in for the long term, that sends good signals out there regardless of where the money's coming from. We'll talk about that in a second, or where we're investing. But if this is a stable component, that's got to be good for everybody.
Tim Curry:
Yeah. And it shows that CVCs are getting the benefits of their investment that Taylor outlined earlier today, that they're achieving their objectives. Whether it's ROI, headlights, market trends, commercial relationships, they're achieving that. And they see that as highly valuable and they're not bailing out just because the market is a little tougher.
Dave Dalton:
Sure, sure. Let's switch focus, but just a little bit. I want to ask Taylor another obvious question. People want to know, where's the money coming from?
Taylor Stevens:
Great question, Dave. So look, when we look at global CVC deal activity, we see that the U.S. is remaining the leader in deal value to the tune of 325% more than any other region globally. So when we look at the data from last year, and the most recent data's from Q3, we'll see that just north of 8 billion was invested across 260 deals in the U.S. And then when we look at Asia, we saw for the same quarter, about 2.5 billion invested across 305 deals. So lower deal value, but about 20% more in deal count than in the U.S.
Dave Dalton:
That's interesting.
Taylor Stevens:
Yeah. And then you look at Europe and they followed with 2 billion in deal value spread across about 150 deals. I'll say, Dave, that these numbers do vary quarter over quarter. And we can see some fluctuations here. But the data from 2023 definitely helps frame where the money is coming from and there's not enormous changes from a regional basis.
Tim Curry:
And I think the other thing that this always reminds me of, is it's the same when Taylor and I look at VC data, is that the U.S. has a large number of unicorns and, what I'll call, monster deals, and a few of those monster deals like Microsoft's investment in OpenAI should really skew the data, right? You throw a billion dollars into something, it really changes the numbers. And the U.S. has always led when it comes to big cap private company funding, on both the VC side and also the CVC side.
Dave Dalton:
So as you say, the outliers, the giant deals can skew data, and that certainly makes sense. All right, so there's where the money's coming from. Let's talk about where it's going. Hey, Tim, currently here in 2024, in late 2023, looking back a little bit, which industries are receiving the most interest right now in terms of CVC activity?
Tim Curry:
Yeah, it's pretty stark, Dave, when we look at the data on this. It's dominated by AI and climate tech, and they have the same drivers. We talked already about AI. And then the same drivers in climate tech. Climate tech's become a major focus for many, many companies and many industries. And again, these are not necessarily climate tech companies, but they need to figure out how to incorporate climate tech into their business models and strategies. And so again, they're looking to these smaller private companies as ways to do research and development, and to get headlights into those industries. So those two are pretty stark, in terms of the leading industries that CVCs are investing in right now.
Dave Dalton:
But I want to talk about special considerations in terms of deal terms for corporate VC investors. Let's go back to Taylor. Are there key terms that CVCs should consider, different than those of what a traditional VC might look for? How are these deals potentially different?
Taylor Stevens:
Yeah, you bet. And it's a great question. We talked about the universe of financing documents and how in large part, the CVCs are investing on the same terms as the VCs. But there are some different rights and it's really important. And I think this is where it gets interesting, from our perspective. And remember, the CVCs have different objectives for investing. It's not just the ROI.
So in order to achieve those objectives, these rights have to be crafted and put somewhere. And so we typically embed these in a separate standalone agreement that we call a side letter. And that will capture these bespoke terms. So, what are these rights? What are the CC rights that are going to be different? There's a few of them. Let me start with information and management consulting rights. So this ensures that the CVC is going to have access to important financial information, access to management, be able to talk about the company's operations and strategic considerations.
And these terms aren't unique to investors, and these information rights are going to be provided in the investor rights agreement that's available to most investors. But the interesting thing here is that oftentimes, these rights are only given to major investors, meaning investors that hold a certain percentage of the preferred stock. But when you have a CVC coming in and access to information and management is a key criteria for them and a strategic goal for them, you want to make sure that these information rights are afforded to the CVCs irrespective of their overall holdings. So, here's where you can see a deviation from the terms in the standard financing documents. And you may negotiate out different rights at different thresholds in the side letter agreement.
Dave Dalton:
You know what, I'm getting way out of my lane here, Taylor, but hearing you talk, I'm wondering, how deep does this go? Could this tap into even an intellectual property area or things like that, in terms of fundamental components of what makes a business work? Or is it basically financial and operating data? What's covered here?
Taylor Stevens:
Well, that's a great way to think about it. The financial data is really what's captured here by these information rights. But you raise a great point. It's a good segue into another right, which is observer rights. And here, this is where the CVCs will be able to attend the board meetings in an observer capacity and get the same materials that the board members are getting. And so in these meetings, Dave, you're going to have company overview, some deep dive on IP and all these kinds of things. And this is particularly important for the CVCs when they're looking for visibility in the ecosystem.
And CVCs, it's interesting, not all of them are going to have the bandwidth to sit on a bunch of boards. And they may not want to have the fiduciary duties and the obligations that accompany that, particularly when they're thinking about buying the company down the road. So these observer seats become pretty valuable, and they can be less time-consuming than board seats. So, that's another right that you'll see in negotiated and embedded in these side letter agreements, including termination rights too. So, those two together are pretty important for the CVCs.
Tim Curry:
And Taylor, let me just chime in. I not surprisingly, agree with everything you said. To your question, Dave, on IP, and you wouldn't normally... Well, Taylor's right. By being an observer on the board, you're going to hear a lot about their technology and their technology roadmap. But in terms of really digging in on the IP, companies are going to be pretty protective of that, particularly vis-a-vis a CVC, who at least conceivably is a potential competitor or acquirer. And so companies that have been invested in by CVCs are not going to expose their crown jewels normally, to the CVC.
If CVCs want that, they're probably going to have to negotiate a separate commercial agreement or technology sharing agreement or a license agreement, something more on the commercial side where they start to implement this company's technology. And then you'll get higher level of access to the actual IP. But the observer rights are really critical and do provide you with higher level, but really important information about the company's technology.
Taylor Stevens:
Yeah. And that's a really great point that Tim touches on. When we think about competitive landscape and sensitive information, that brings us to another really important right for the CVCs. And that's to ensure that the rights that they get in connection with the investment, aren't lost because the CVC is deemed to be a competitor of the company. So, this is really interesting because the standard financing documents are going to provide that certain rights, like preemptive rights or some of these information rights. They're only available to an investor that's not deemed to be competitive with the company. So, what does that mean?
That's not always clearly spelled out in these financing documents. And a lot of the times, Dave, it doesn't matter 'cause this is never an issue for the VCs. Right? They're funds, they're not operating businesses, so they don't really bump up against these provisions. But CVCs are operating businesses and they could easily be swept into a broad definition of a competitive company. So when we're looking at the financing documents, it's really important to carefully review these terms and help modify them. And I really see this as a trap for the unwary. And it can really result in the loss of key rights that CVC is getting in the investment.
Dave Dalton:
I was going to say, you explained that perfectly. And suddenly what should have been apparent differences to me in terms of a conventional VC and a CVC, it's now pretty clear in terms of the way they operate and what the longer term plan might be.
Taylor Stevens:
Yeah, the competitive aspect is really interesting. And it brings me to one other aspect of specific rights for the CVC. So speaking of competitors, sometimes the CVC has certain competitors of its own, where it doesn't want to be sitting on the cap table side by side with its number one, number two, or number three competitor. So a CVC may not want to invest in a company, if that company is going to turn around and issue securities to its main competitor. So in these cases, you may need to provide that there are certain named competitors of the CVC that can't become investors in the company without the prior approval of the CVC.
So again, this is very specific. The list is usually pretty short. And sometimes it has a sunset, it doesn't last forever. But it's a term that's unique to CVCs and needs to be thought through based on the specifics of that CVC and its sensitivities.
Dave Dalton:
Does that happen a lot? It seems like it could. In tech and life sciences, things like that, everybody knows who the players are. And everybody knows who's driving towards the same long-term goals or product introductions, whatever. I think that might be not that unusual.
Taylor Stevens:
Yeah, it's a balancing act. There are some CVCs that we work with a lot that are very sensitized to this and others that are not. And so I wouldn't say there's a market for it, but I've certainly navigated these issues quite frequently. And we've constructed different sort of protective provisions to suit the sensitivities of the particular CVC.
Tim Curry:
And let me add something to that, Dave, which is just that the headlights are a lot more valuable if you're the only company in your industry that are getting the headlights. If everyone else is getting the headlights, it's valuable, but then it's not a competitive edge. So, that's a lot what drives exactly what Taylor's talking about.
And let me add one other thing just from a company perspective. I always counsel the companies that we work with when they're dealing with CVCs that it's more complicated and something that they need to be aware of when you're allowing a CVC into your company and then giving them many of these rights that Taylor's been describing. And it's because we all know what drives VCs. VCs are driven purely by return, and so they're very easy to predict. They're going to go along with acquisition proposals or financing proposals that are driving return on their investment. Very simple calculation.
CVCs, rightfully, have differing motives. I was going to say dual, but it's really multi-headed motives. It's ROI as Taylor's mentioned, but it's also headlights and all the other things that we've talked about. And so when a company's looking at a CVC, they do need to be themselves, a little bit wary. And then CVCs need to be aware that these companies are being wary in the rights that they're asking for because CVCs have different motives.
And you could see a situation, for example, where selling to a competitor of the CVC would be great for the VCs because it results in a huge return on investment. But the CVC might be better off flushing its 5 million investment and not allowing this company to get into the hands of their competitor. And so, one of the things we always look for on the company side is trying to minimize the control that CVCs have over M&A or other areas, just because they do have these dual motives, they're not purely profit seeking.
Taylor Stevens:
Yeah.
Dave Dalton:
And I'm thinking, hearing you two talk, people tend to think short or intermediate term. The scenario that Tim was just describing, you better be thinking long-term strategically in terms of this, and who you're letting in, and who the CVC is investing with and so forth. There's a lot to think about. It's like a chess game, I guess.
Taylor Stevens:
Yeah, you bet.
Tim Curry:
One of the things that really illustrates this, I think, is that in the older days, the beginnings of CVC, I saw a lot more usage of M&A control rights by the CVCs, rights of first negotiation, rights of first refusal, rights of first notice relating to M&A activities by the target company they've invested in. I'm seeing less of that now. There are still certain companies that are doing it primarily for M&A purposes, and they want to have some control or at least insight into the company's M&A strategy. But more and more as a broader array of companies come into the universe and as companies become wary, to your point, Dave, about the motives potentially of these CVCs, I'm seeing less and less of those kinds of restrictions or those kinds of rights for CVCs.
We always raise them for our CVC clients and we do in every deal. Do you want these kinds of rights? Is that important to you? Is this an M&A play? In which case you might really want to consider that. But it needs to be balanced. And there's competitive aspects and leverage aspects that Taylor's touched on as to whether you can even get those things. But from a company perspective, those can be restrictive on them. And even from a venture perspective, they don't necessarily like the CVCs asking for those kinds of rights. So, it's a game. It's definitely a chess game, and it's certainly a long-term chess game.
Dave Dalton:
Well, I must compliment you both. I've learned a lot, quite an introduction to what CVC does and what the ramifications are, the opportunities, and so forth. But we usually conclude these JONES DAY TALKS® podcast with me asking, is there one key takeaway for listener? And again, you guys have covered so much, so it's almost dumbing it down. But if you had to say, "Hey, here's the one thing I want you to remember from this conversation.", let's start with Taylor. What would you tell listener?
Taylor Stevens:
As a CVC today in this growing market, in this competitive market, I think it's important to focus on two things. One, what are your strategic drivers for the investment? Is it purely a return on the investment or is it identifying acquisition potentials and things like that? And then secondly, what are your specific sensitivities and risk profiles? Is it imperative for you not to sit on the cap table with your number one competitor? And when you look at these two things, I think it really will shape how you invest, where you invest, and what your investments are going to look like.
Dave Dalton:
Great insight. Tim, since I gave Taylor two, you get two. Do you have some takeaways?
Tim Curry:
I'll just take maybe one because I think Taylor did a great job on that, is just that as biz dev teams are looking at CVC investments particularly, maybe their first handful, is do reach out to outside counsel. We'd love for you to work with Jones Day. But these deals, you might be inclined to think, "Well, I'm only putting a million bucks in or 2 million bucks, and so I'm just going to have our in-house team look at it." But there are a lot of nuances, and Taylor particularly as referenced, a lot of those. There's a lot to this, and we would just encourage you to reach out to your outside counsel who has a lot of experience in these areas to make sure that you're keeping your eye on the things that are most important, and particularly these side letters.
As we've said, oftentimes the agreements are done and dusted by the time you're coming in, but the side letter is an open and fertile field. And there's a wide variety of rights, many of which we've touched on, that you can get through those side letters. And so, there is a bit more art and science to this than you might at first think. So, please do reach out.
Dave Dalton:
Well said. Tim, Taylor, we will leave it right there. But I hope we talk again soon. You guys are terrific. So much good information. You packed a lot of content into relatively a short period of time. So, great program. Thanks so much for being here today.
Tim Curry:
Thanks so much for having us. It was fantastic.
Taylor Stevens:
Yeah, absolutely. Thanks, Dave.
Dave Dalton:
For complete bios and contact information for Tim Curry and Taylor Stevens, visit jonesday.com. And I remind you that while you're there, you really should check out our insights page. Where you'll find more podcasts, videos, publications, blogs, white papers, and other valuable content. Subscribe to JONES DAY TALKS® at Apple Podcasts, or wherever else you find your quality podcast. JONES DAY TALKS® is produced by Tom Catalyst. As always, we thank you for listening. I'm Dave Dalton. We'll see you next time.
Speaker 4:
Thank you for listening to JONES DAY TALKS®. Comments heard on JONES DAY TALKS® should not be construed as legal advice regarding any specific facts or circumstances. The opinions expressed on JONES DAY TALKS®, are those of lawyers appearing on the program and do not necessarily reflect those of the firm. For more information, please visit jonesday.com.
