Google goes investing

The news that Google is close to launching its own venture capital fund may raise a lot of hopes, but the history of corporate investment isn't fantastic and comes with a heavy price for portfolio companies that win a corporate sweepstakes. It also tells a lot about Google's own sense of its ability to innovate from the inside—that doesn't mean they don't think they can innovate, but that it may be more strategically advantageous to do it from the outside. Because Google's brand comes with baggage that could turn off would-be collaborators and partners.

First, let's look at the reasons Google might take a position in a startup rather than what it has done before: hire an engineer and give them a budget. At their core, all corporate investments are strategic, based on calculations about where the market is going and where the investing company wants to be. I worked with SoftBank back in the mid-90s, for example, where the goal was to be everywhere in the Web market. It was a strategy that paid off through sheer volume of investments, but also cost a tremendous amount in under-performing or lost investments.

A strategic investment by Google will certainly involve the likelihood that the company they back will do one of the following: a.) drive the sharing of personal information and browsing history by users, so that Google can better target its ads; b.) engage in organizing of information, whether through automation or user contributions to a taxonomy, in order to better surface data from the Google index; c.) drive traffic that can be monetized with Google ads, or; d.) provide an underlying innovation that transfers key user experience from the desktop to the cloud. The first three breeds of company can exist outside Google, but the last, the desktop-to-cloud innovators, are on a fast-track for acquisition.

But the problem from the perspective of any of the first three types of companies is that they will have an investor who has services on which they will need to rely for monetization, which relegates them to becoming an appendage of Google Adwords network. It is very hard for a company to tell an investor "no, thank you, we'd rather go with your competitors." it happens, but it doesn't happen easily.

The innovator, on the other hand, will be in a position where the exit price for their efforts is constrained by the Google investment. It isn't necessarily a bad thing, but if you've built, for example, a shared desktop where workgroups can collaborate on files, and Google has integrated that service into its offerings, to the exclusion of Microsoft, Oracle and other would-be acquirers, there's a point where the founder is going to hear an ultimatum from Google, that they are either "with us or against us."

Even if Google avoids all the downsides of corporate investment, the pace of IPOs has slowed so much that it is hard to contemplate any exit other than acquisition by Google. The IPO drought means that, other than constantly going back to the venture capital well, companies have no foreseeable access to additional working capital. At some point, if a company hasn't hit the big time with a lot of revenue, the benefits of being a founder dry up as investors, particularly corporate investors, squeeze more equity out of the company. Because, at the end of the day, corporate investors are responsible to their parent to maximize their returns.

Finally, corporate investment has traditionally focused on later-stage companies, leaving seed- and early-stage companies to investors with greater tolerance for risk. Google could be very smart and make hundreds of very small investments, followed by dozens of larger follow-on investments, but it isn't likely without a substantially larger team than the Wall Street Journal described participating in deal flow, due diligence and deal negotiation. The senior managers who will reportedly be involved have plenty to do, already, so Google will have to bulk up its investment team—which will mean it will also have more overhead on each investment, reducing their overall risk tolerance.

It might be better for the company to simply dole out capital to a group of VCs, who have processes in place to handle deal flow and, therefore, would not be decreasing their risk tolerance. In any case, when a giant goes into strategic investment, the market seldom sees a dramatic change in the number of deals or exits.