VCs going seed-stage
A friend of mine emailed me the other day asking what I thought of the Charles River Ventures announcement that they were creating a seed-stage investing arm (Quick Start). Great topic - it’s been widely covered already so we are not exactly breaking the story here. However, this news is a good starting point for a discussion on venture capital and the metrics and forces that drive the business.
It seems the trend of “going seed stage” has been going on for awhile. Perhaps it is not so much a trend as a strategy to broaden the reach and open more doors for larger funds. It is also an indication of VCs playing with the model to improve IRR and enhance the ability to impact more companies. There are many differing opinions out there today (some say angel investing is broken, others say the VC model is broken). There is certainly something to be said for being able to place smaller bets and get in early enough to help the founders get on the right track. There are pros and cons to pure early-stage investing, but doing a seed-stage fund in conjunction with a more traditional one seems like a very smart move if you can find harmony between the objectives of the respective funds.
Bigger funds have higher demands on the IRR and have to inevitably place bigger bets. It’s all math at the end of the day, and a large VC fund typically has to produce a 20% IRR over 5-6 years. So every investment has to be large enough and cultivated to potentially produce a “home run” level exit to absorb the ones that return marginally or even crater. The bigger the fund, the higher into the billions the total market value has to be for the fund to perform. NEA is an interesting example. Great firm, impressive track record. Their latest fund, # 12, was announced at 2.5B. Yes, that’s Billion… For a 20% IRR on that fund, the companies they invest in will have to create about 37 billion in market value, assuming NEA owns around 20% of each company. So it’s go big or go home…
Smaller funds still have to perform, but a 50M fund can deploy 250k-500k into very early stage companies relatively quickly, and every investment does not have to be cultivated to produce a 300M-500M exit.
While there have always been seed-stage VCs, the recent increase in news and activity around seed-stage VC investing may be a cyclical trend. I suspect many of the firms that are huge today started with much smaller funds and did smaller, early-stage investments back in the 80s/90s when they got started. A few big hits, the next fund raised is bigger, and the return demands are that much bigger, and the next thing you know, the minimum investment a 500M fund can make is 5M…the inevitable intersection of effective capitalism and business discipline.
Additional coverage:
Redeye VC blog
A VC (Fred Wilson)
TechCrunch
Sphere Results <-cool blog search tool
