2. To hear them tell it, venture capitalists aren’t too different
from entrepreneurs. They build great companies. They
create jobs. In short, they feel the entrepreneur’s pain.
But one of the first steps to a decent relationship with a VC
is accepting just how different the two of them really are.
It is a fact that compared to entrepreneurs, VCs have
different loyalties, sometimes diametrically opposed
interests, and a lot less at stake.
Having been interacting with VCs for around three decades
now, I thought of sharing with you what a VC will not tell
you
3. So here we go…
1. Savvy VCs understand that less than 1% of venture-
backed technology startups will ever achieve a $1B+ mark
cap. As a result they seek category potential, not current
company performance. They look to identify companies
leveraging technology to build and dominate new market
categories.
If the category is big enough and the category king is
dominant enough, current valuation is almost irrelevant.
The key to making their investment decisions is
understanding category potential and the ability of the
category king to define, develop and dominate the space
over time.
4. As a result legendary VCs study category potential. not
current TAM (total available market).
They ask the question,
“Can this become a giant new space?”
Then they ask, “can this founding team summon the balls,
brains and bucks to become the company dominates this
giant new category?”
if the answer to both is yes, they start drafting term
sheets. If not, you are dead in the water. Bottom Line: If
you haven’t positioned yourself this way, flesh out your
value-proposition accordingly as this is the simplest way to
get your message across.
5. 2. Venture capital is a very rare form of financing. In the
US, the most active VC market in the world, around 1,000
companies get new (as opposed to follow-on) VC financing
per year.
That’s 1,000 investments vs. the roughly 4,000,000
businesses started in the US each year (many of which are
not VC-grade to be fair … and it’s still only a tiny percent of
companies that want VC funding that get it).
The numbers/odds get even worse when you go to
Canada, Europe or Asia. Bottom Line: Venture capital has
huge mind share and mythology.
6. There is a lot more money to be found in family offices and
the pockets of high net worth individuals. If you haven’t
started talking to family offices such as us at Blackhawk
Partners maybe it is high time to start doing so if you want
to access to much less restrictive and more ample capital.
3. As an industry, venture capital’s return on investment is
seriously behind that of public stock market. For the 10
years ended last September, the average internal rate of
return (or IRR) for U.S. venture capital funds was 6.1%
annually, according to data from Cambridge Associates.
During the same time, the Nasdaq rose 10.3% annually,
and the Dow Jones Industrial Average returned 8.6% a
year.
7. Given that VCs skim the first 20% of annual venture fund
profits off the top, pension and stock fund managers who
invest in them — and who are known in the industry as
limited partners — have begun to wonder what they were
paying for. Bottom Line: Time to wake up folks and smell
the coffee and know facts from fiction if you intend to
make the right decisions.
4. VCs have their own investors – their Limited Partners,
or LPs ; and usually have to suck up to them, too. The very
top VCs don’t have to wine-and-dine their LPs. They just
pick up checks. But most VCs have to sell up just like you
do. In fact, they have to do more of it in some ways,
because they probably have to do it to 15-20 core LPs, vs. a
founder who just has 1-4 VCs.
8. 5. VCs, as individuals, aren’t that diversified and don’t do
very many deals. VC firms, as entities, get pretty
diversified. But the average VC partner only does 1-2 deals
a year. Just one or two. Yes, that’s more diversified than
you as a founder, of course.
But not as diversified as you’d think. So their deals really
need to work. So they don’t really want to take much
risk. It’s one reason why it’s harder to get VCs to take a
risk on you than you might think, and why you need to
have 100% of your ducks in a row when you pitch.
6. A smaller VC v/s a larger VC may be one of the most
important decisions you’ll make. The smaller the fund, the
more aligned with you they are.
9. They make less in fees, and more on the carry. And more
practically, they can’t keep up with the dilution, like
you. But because they can’t write the large checks, they
need someone else to. And small VCs also need to buy a
lot for a small amount.
If they can only invest $2-$3m and want to own 15-20% …
that pretty much puts a cap on small VC valuation
potential. By contrast, Big VCs can write a big check.
In fact, they want to. But the return has to be huge to
impact the fund. Fire the CEO, fire the founders, dilute you
to nothing … they care less. But they’ll give you more
money to go big. Both have pros and cons. Pick the one
that best matches how you want to grow.
10. 7. Some other key facts you might want to know…
• The VC industry is a drop in the finance ocean; its share is
quite small
• The IRR is, on average, is far from spectacular. Firms that
do consistently are outliers (thus get more LP money than
they can handle and downtrends)
• Very few VCs invest seed stage. Those that do tend to
invest mainly in their extended networks.
• The majority of Inc 500 companies have not taken
institutional funds.
11. • The chance of getting VC investment through a cold
contact is infinitesimal. Get a warm introduction if not,
don’t even try.
• Each partner and firm has specific investment criteria and
stages despite saying otherwise on their sites and at
conferences. Ask people who know them.
• It’s more art than science – half truth. There is an art to
it, but again, they have their criteria and they have metrics
– they’re just not telling you. Give a vision and a passion to
them, yes, but don’t forget the business model.
12. So next time you go pitching a venture capitalist,
remember those facts and most importantly make sure
you pick the right “partner” or just forget about them
altogether and try rather a “family office“.
• Family Offices have money, and are looking for
investments: this already makes them a good target for
entrepreneurs.
• They don’t advertise openly: this reduces their ‘deal
flow’, which means if you get in front of them, you are
competing against tens of other opportunities, not
hundreds or thousands, as is the case with VC funds and
angel groups
13. • They invest their own money: this means they are willing
to look at investments on their merits. They don’t have to
ask themselves ‘does this investment fit my mandate’ or
‘how will it look to my limited partners’. They can just say
‘do I want to make this investment’.
• They can often decide to invest very quickly: a family
member with influence can simply decide to do the deal,
on their own. Even if other family members disagree they
often have a pool of money which belongs to them and
they can control personally. Compare this to venture funds
or angel groups where multiple people need to agree to
every investment.
14. • Family office money was often made by entrepreneurs:
they can understand what it is like to run a business and
may be able to empathize better than investors with a
purely financial background
Now that you see the whole picture,
share your thoughts…Thank You,
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