Back to basics – filling the early stage funding gap

An interesting trend is underway in the venture capital industry. Most of us are well aware of the trend to very large funds, which started in the Internet bubble with the first $1 Billion and up venture capital funds appearing. Well, the necessary reaction to that action of large fund formation has finally begun to take shape, and it’s being led my some of the savviest (early stage) investors in the world.

  • Alan Patricof leaves Apax, a firm he founded that is managing billions of dollars of capital and was behind such hits as Apple and AOL, to start Greycroft Partners, a $50 Million (yes, million with an "M") fund to focus on early stage opportunities in technology and new media
  • Kathryn Gould leaves Foundation Capital, a firm that she co-founded and too was managing over a Billion in capital, to invest her own money $200k or so at a time in promising early stage ventures through her new firm Gould Investments
  • Robert Greenhill forms a $80 Million venture fund with Silicon Alley Partners – Greenhill-SAVP – to, yes focus on early stage investments in New York.

These investors are in a league of their own and can personally throw around the kind of capital that make up their total new funds without denting their own new worth. So, why are they messing around with deploying funds worth a total of less than $100 Million?

They sense an opportunity that has been apparent for some time now. That is, a great opportunity exists for outsized returns and the creation of great companies by deploying less capital early on in today’s technology startups. This is the way it was when these VCs were pioneering the industry several decades ago and seized on opportunities like Apple, AOL, Oracle, etc.

Read through Kathryn Gould’s website and she will explain it succinctly and clearly. VCs are sitting on piles of cash and need to invest large sums for big ownership stakes in order to generate a proper risk adjusted return on their funds. Initial investments can be as large as $10 Million and above. On the other side are entrepreneurs. Today, the capital needs to start up companies are smaller. The smartest of the entrepreneurs do not need the large amounts of capital (and associated dilution and loss of control) that today’s huge VCs need to deploy. However, with a small amount of capital and the right strategic assistance from savvy investors, entrepreneurs can focus (1) build great companies, rather than flipping research projects and (2) generate outsized returns for the early investors, themselves, and their shareholders. The VCs will be around for growth capital – priced accordingly – at the right time. They will also increasingly need to compete with other private equity firms, structured debt, and hedge funds for the opportunity to invest in growth opportunities. I image this line of work is less interesting to those VCs that were around in the pioneering days of the industry.

As an entrepreneur that grew up in the bubble, it’s taken some time to wean myself from the capital addiction. The past three years have been my first three as an entrepreneur without venture capital in my projects. I’ve found it to be a very rewarding and educational time, and have found that taking this approach has generated a quick focus on the right things – understanding customer needs and drivers of urgency, ensuring the right things are being built, and finding a quick path to adding value and hence generating revenue. My projects are still alive or just getting started, but are tackling the issues that too much capital would have hid for a long time.

I also see quite clearly the gap in the market between a bootstrapped startup and a full institutional round of capital from today’s venture funds. There is a need entrepreneurs have today for early stage capital, but not of the size and type of today’s Series A rounds, and the associated responsibilities that ensue. It seems that Gould, Patricof and Greenhill all sense this need and the opportunity. I would take capital today, but it does not exist in the right doses and from the right investors.

It would be great for any entrepreneur to have the opportunity to work with these individuals with their new funds. I have had the honor of meeting both Greenhill and Gould, and they are among the absolute best in their respective professions. Also, my apprehension about being a venture capitalist would totally go away if there was an opportunity to work with any of these investors on their new, small, early-stage funds. What a training ground that would be, and what a lot of fun it would be to work on several projects and make an impact at that early of a stage!

I for one will be keeping a close eye on the investments that these pioneers are making over the next several years.

— bkm

  • HGH

    nice analysis on the industry