The drive for growth of recent years has seen some large companies rediscover the promise of new-venture units (NVUs), which develop start-up enterprises that can plant a company’s flag in fresh markets or test and launch innovative products and services. But unlike a large corporation’s venture capital arm, which invests in the undertakings of entrepreneurs outside the company,¹ an NVU creates businesses from within.

Corporate new venturing isn’t a novel idea; companies have pursued variations on the model since the 1970s. But the NVUs established recently by Coca-Cola, First Data, J. P. Morgan Chase, McDonald’s, Mellon Financial, and Nokia, among others, are different both in their structure and management and in the nature of their activities. Companies launching NVUs now make them separate from any operating business so that they can focus on entrepreneurial activities without pressure from business units. These companies also ensure that the fledgling businesses developed in the NVUs get a jump start by giving them ready access to corporate resources such as customer channels and infrastructure.²

That is the theory. Are NVUs delivering on their promise? After all, most companies launched them during the boom years, when venture capital firms were poster children for the new economy and valuations for start-ups and spin-offs soared. Today’s risk-averse environment isn’t receptive to start-ups of any kind.

The short answer is that new-style NVUs are no fad. Many companies have found that the units, though still wet behind the ears in most instances, are already meeting their potential for promoting growth. During the past few years, we have not only studied more than 30 companies that launched or are launching NVUs but also worked closely with many such companies on the design and operation of these units. As for their specific task—building new businesses—the early returns of some pioneers have been highly promising. Lucent Technologies’ NVU, since it was launched in 1996, has created 35 ventures, 3 of which have "graduated" in a successful IPO or sale to another company. This NVU boasts an 80 percent internal rate of return on funds invested.³

We also see signs that NVUs are playing a broader organizational role, acting as catalysts for the development of business-building capabilities within the wider company. NVUs are magnets for entrepreneurial talent, which is often difficult for big companies to recruit, and many employees forge networks outside the company that bring in funding, technology, and venture expertise. Experienced NVU business builders at one financial-services company have moved into product roles in the core businesses.

Still, not all NVUs perform equally well: while a few are emerging as leaders of the pack, some have stalled or failed altogether. The distinguishing factor, we find, is the ability to focus on a select set of business-building activities and a few crucial operating principles. NVUs can head down all sorts of paths: they can develop businesses that are entirely new for the company; businesses that extend the offerings of a core division; or start-ups, spin-offs, and joint ventures based on the company’s technologies and capabilities. NVU managers who address a mixture of these opportunities end up juggling a portfolio of businesses with potentially conflicting operational requirements.

Not your father’s NVU

NVUs have evolved from catchall centers for entrepreneurial activity into focused organizations that serve their companies’ needs

The NVUs of most companies today bear only a passing resemblance to those launched during the 1970s and 1980s and even the mid-1990s. In essence, the NVU has evolved from a catchall center for entrepreneurial activity within a large company into a focused organization that serves the company’s specific growth needs. In addition, NVUs now use the strengths of the companies that created them in ways not seen in the past.

First-generation NVUs were generally engines for stimulating a broad array of ideas, either through employee workshops or business-plan competitions. Ideas were evaluated and, if promising, funded as well. Emerging initiatives were led and staffed solely by company insiders, often including the ideas’ originators. The results of these early efforts were largely disappointing. Competitions and workshops rarely yielded good ideas. Employees who developed fledgling ventures often came from research units and lacked both the business-building skills needed to turn an idea into reality and the ability to network inside the organization to secure the right resources. Moreover, the ventures themselves often didn’t fit the broader growth agendas of the companies that founded them. Many first-generation NVUs thus closed their doors.

The second generation has a decidedly different look and a more focused, disciplined approach to business building. Today, most NVUs are based at corporate headquarters, report to the CEO, and are led by small teams of six to ten portfolio managers from outside as well as inside the company. Insiders have credibility with senior management, understand the organization, and can marshal its resources to support the best new opportunities. Outsiders—hired from investment banks, consulting firms, and start-ups—supply new skills and experiences, external perspectives, and access to unfamiliar networks. The COO of Mellon Financial’s NVU, Kit Needham, for example, comes most recently from a banking-industry organization, while Steven J. Heyer, the head of Coca-Cola’s new-venture activities, was formerly president and COO of Turner Broadcasting System.

First- and second-generation NVUs differ in other ways too. Rather than just waiting for ideas to bubble up and then financing the likely ones, today’s portfolio managers go hunting: they look for ideas in targeted areas and command the business-development skills needed to recognize likely opportunities. The NVU of Capital One Financial, for instance, is studying customer data, including credit card usage, for ideas about new financial products, services, and marketing alliances. Meanwhile, the NVU at another financial-services company is examining its customers’ emerging needs that haven’t been met either by its core businesses or by other companies.

When today’s NVU managers find an idea, they don’t run with it straightaway; they shape and develop it, seeking feedback from experts inside and outside the company—a more iterative development process than the one followed by first-wave units. And while first-wave managers tried to expand their businesses from within, their counterparts today make small acquisitions to help scale up promising newcomers quickly.

Finally, while first-generation NVUs allowed a thousand flowers to bloom and chased a wide assortment of product ideas, today’s NVU managers strive to create portfolios of related ventures. Coca-Cola’s new-venture unit, for example, is building a portfolio of businesses based on technologies that Coke has developed to transport its products. Some of these ventures tap proprietary refrigeration technologies; others are turning Coke’s massive distribution network into a broader business platform.

Focus counts

The more successful new-generation NVU managers concentrate on certain kinds of business-building activity. Our research has turned up three principal strategies: building new businesses for a company, devising new products or services to enhance its core businesses, and tapping its intellectual properties to create spin-off ventures in noncore markets, often in alliance with outside partners. Successful managers pick the strategy that serves the specific growth needs of their companies.

About half of the second-wave NVUs we studied are developing new businesses. A unit belonging to a chemical company, for example, is exploring biologically derived products, any of which could serve as the basis for a new division. NVUs of this type are usually found in companies whose core businesses can’t develop fresh growth opportunities for themselves, because they are preoccupied with external threats or with improving internal operations or because their culture favors incremental thinking.

A few NVUs are coming up with products or services to be folded back into existing businesses. Managers at a financial-services NVU, for example, are studying long-range trends that might affect the industry—such as changing socioeconomic demographics and the possible privatization of US Social Security—in order to understand the opportunities they could generate for the company’s core businesses. This NVU has already absorbed one venture back into a line division and transferred a technology developed by a start-up to another division. Such NVUs are found in companies whose core businesses require a defense against attackers targeting marginal activities and in companies that seek to explore opportunities crossing the lines of powerful business units.

Some NVUs take licensing a step further by building new businesses themselves, thereby gaining more value from a ’sunk investment’

Finally, a rapidly growing number of NVUs are, in essence, taking traditional corporate licensing a step further. Rather than simply licensing a technology or a capability, NVUs of this type develop the initial business, often with external partners, and thereby gain more value from the "sunk investment." For businesses they sell, spin off, or launch as joint ventures with partners, they seek returns in just one or two years. To give an example, Delphi Technologies (the NVU of the first-tier automotive integrator Delphi) went into partnership with a handful of incubators to create spin-off businesses. In the telecommunications and consumer electronics markets, for instance, they commercialize technologies that Delphi developed for use in automotive products.

Each of these three approaches requires different processes for sourcing opportunities, different ways of financing ventures, different reasons for tapping the company’s capabilities, and different exit strategies. Yet we have found that the portfolio managers of one in five NVUs, believing that strength comes from diversity, try to straddle more than a single strategic aim. In reality, though such managers can run one or two dissimilar early ventures themselves, any more forces them to balance different operating requirements. In such hybrid NVUs, start-ups grow slowly or not at all, and talented employees hired to run the start-ups become frustrated; some leave.

More important, managers of hybrid NVUs juggle portfolios of opportunities that sometimes lack strategic coherence. A certain hybrid, for example, let a thousand flowers bloom after the fashion of first-generation NVUs and is now going through a difficult pruning period, selling or shutting down ventures that don’t fit with the company’s strategic-growth agenda.

One group of NVUs—about half of those we studied—is outpacing the rest by directing resources and management attention to new businesses that fit a defined strategic agenda. These focused NVUs are starting to see concrete results, including early-stage businesses that are delivering (or will soon deliver) real value to customers. The remaining 30 percent of NVUs have been launched too recently for us to gauge their achievements.

Large companies can pursue all three paths by launching three separate NVUs to ensure that each remains focused. Delphi, for instance, has two separate units with a common reporting structure: Delphi Technologies, the unit that develops intellectual assets with outside partners, and the New Markets group, which builds new businesses for Delphi to retain.

Designing an NVU

In our experience, when companies consider launching NVUs, two questions soon arise: to whom will the unit report, and how many people will be involved? As a result, these companies shortchange planning for their NVUs’ operating design.

NVUs that build new businesses

A company launching an NVU to develop new businesses must establish processes and incentives to ensure that line managers understand and support the efforts of the unit. Its promise will be thwarted if the company that creates it fails to harness the skills, assets, and channels needed to give it a better-than-average chance of success.

Yet at some companies, line managers, having little incentive to do otherwise, give a low priority to the NVUs’ requests for IT capabilities, introductions to customers, and help in exploiting relationships (with distributors, for instance). The more successful companies, by contrast, use structured incentives to benefit not only the NVU team but also the company’s key stakeholders. One large US regional medical center did so by giving its line managers credit for revenues generated through its NVU and by not penalizing these managers for the costs they incurred in cooperating with the unit.

An NVU that develops businesses in areas new to a company will have to build alliances with outsiders to tap missing skills or market knowledge—and to manage the financial risks of venturing. One company, violating this principle, tried to use its internal IT skills to build out a new venture, only to discover months later that the scale and speed required to bring the business to market were beyond the capabilities of its in-house staff. Lucent, by contrast, forged partnerships with financial-capital firms that were knowledgeable in venture areas unfamiliar to the company. Besides capital, the partners brought experience in judging such ventures, networks of talent, and relationships with potential suppliers, partners, and customers.

All NVUs, and particularly those that build new businesses, must regularly reappraise the potential of each business in their portfolios

All NVUs, particularly those that build new businesses, must regularly reappraise the potential of each individual business in their portfolios. The goal of such an NVU should be to build growth platforms—sets of small wagers on opportunities, in targeted areas, that could eventually develop into sizable new businesses. For a large corporation, the target of a new growth platform ought to be more than hundreds of millions of dollars in revenue. At the end of five years, if the corporation is left with only many relatively small though profitable businesses, the NVU hasn’t done its job.

One or two successful NVUs routinely bundle or rebundle businesses into broader themes to determine how those businesses might fit with the overall corporate strategy. These NVUs divest some ventures as growth platforms evolve and acquire others to scale up promising platforms quickly.

NVUs that enhance core businesses

The risk for an NVU that seeks to enhance the core business is excessive reliance on it for ideas; such an NVU was established, after all, to fill a gap in its capabilities. The NVU of J. P. Morgan Chase has avoided this pitfall by enlisting the help of customers and industry experts in the search for ideas—especially ideas connected with Internet-based investment banking and brokerage.

Because the core business scales up and commercializes the ventures launched by this type of NVU, leaders on both sides must work together closely from the start, which means more than just using business units to source capabilities. Ventures must be shaped so that they can eventually be integrated with core businesses, and these relationships can be made or broken by the way companies staff them. One NVU we examined lured talented outsiders, but despite the new skills they brought to the company they failed to build political credibility within it and therefore couldn’t tap the core effectively, so their businesses floundered. By contrast, Mellon Financial has organized its processes for generating, screening, and developing ideas in a way that encourages the senior staff of its NVU and the company’s line managers to work together. Furthermore, the NVU won’t pursue an opportunity unless a division of the main company is also on board.

NVUs that tap intellectual property

Managers of an NVU that seeks to create business out of their company’s technologies or capabilities look beyond their own industry for help in understanding the broader possibilities. Procter & Gamble, for instance, used a network of industrial experts to help it assess applications and markets for Olestra, a fat substitute, and found strong commercial potential for the product’s use in cosmetics, waxes, and the treatment of industrial waste.

Because value needs to be captured quickly, the more successful NVUs of this type also seek external partners to develop and scale concepts. A company could, for instance, outsource to a private equity firm almost all of the activities involved in developing a new business, from recruiting the management team to establishing industry relationships. In this way, it could reap the benefits from the venture by contributing only the intellectual property to a start-up and then allowing a venture capital firm to do the rest.

There is little need to link the core business to this kind of NVU, which should be as free as possible to decide the fate of different technologies. One such NVU, having failed to establish its independence in these matters, found itself moving slowly when a core business unit argued that any outside application of a particular technology could be a potential threat. To avoid such problems, Ford Motor, for example, has given its intellectual-asset group— which is not, strictly speaking, an NVU, though it undertakes comparable activities—control over all technologies for nonautomotive applications.

Some companies have even set up such NVUs as separate legal entities so that they can have different capital structures and management incentives, as well as broader participation by external partners. For example, eMac Digital, a joint venture that McDonald’s and the investment firm Accel-KKR set up to pursue a number of e-business opportunities—in effect, an NVU—is organized as a separate company, with its own management team, board, and capital structure.⁴

Any company that launches a new-venture unit as a quick fix to gain growth premiums in capital markets faces disappointment. So does any company in which the business-building skills seeded by an NVU fail to take root and spread throughout the wider organization. But a company capable of making its NVU an integral part of its broader growth program—along with internal product development, business development, acquisitions, and licensing—might find itself with an extra engine to drive that growth.