Note: This article is the thirteenth in an ongoing series on venture fund formation and management. To learn more about managing a fund, download this free eBook today Venture Capital: A Practical Guide or purchase a hard copy desk reference at Amazon.com.
About five years ago, Ham and I were approached by an old friend of Ham’s with a new concept for a venture fund. This friend was a recently retired partner at a top tier VC firm based in Boston. After attending a meeting of our angel group, Launchpad, he was struck by how our group operated. In particular, he was intrigued by the process we use when companies pitch to our membership.
At Launchpad, companies give a 15 minute pitch followed by a 10 minute Q&A session. Next, we ask the entrepreneur to leave the room and our group discusses the presentation around small tables of 6 to 8 people. After a 10 minute discussion, we ask each table to select a spokesperson. This individual gives a quick synopsis of what her table liked about the company followed by any questions or concerns they had during their round table discussion.
The end result of this process is a time-efficient crowdsourcing of a concise list of the key topics to cover during a due diligence process as observed by a large group with a very broad experience and skill base. My friend was struck by how different this approach was for a company pitch versus the deal pitching process at his previous venture firm. He was most impressed by the resources and breadth of perspectives we had access to through Launchpad members.
He immediately began to think about building a new kind of venture fund. Instead of relying on just one or two partners to help him evaluate potential investments, he envisioned a hybrid model with traditional GPs but also leveraging the talents of Launchpad’s roster of 150 investors. According to his plan, the three of us would act as the main General Partners (GPs) and the group would be a fourth GP for a $150M fund. Certainly, this was a novel structure for a venture firm with a fund of that size. Unfortunately, we don’t know whether our fund would have worked or not since, for a variety of personal, professional and economic climate issues, we chose not to go forward with the idea.
Here we are five years later, and we are starting to see venture firms build variations on this type of structure -- a few core GPs supported by a large network of experienced executives, entrepreneurs or investors. Venture capital is a challenging industry in which to be successful. It relies on a lot of hard work, thoughtful analysis and investor judgement by a relatively small team. Surrounding your core team with additional experienced talent could play a critical role in your long term success, so the temptation toward this kind of structure is obvious. With that story as a preamble, let’s take a closer look at that core team at the center of things. What are the people skills and resources you need to build a long term, sustainable venture capital firm?
Ham, you’ve run a couple of funds as a GP and worked with dozens of venture capital firms over the years. What are some of the key skills you expect to see in the GPs at a successful firm?
Let’s start by focusing on the major components of a VC’s day-to-day job. What follows isn’t an exhaustive list, but it does cover the major job responsibilities.
Raising capital for your fund from Limited Partners (LPs)
Finding great companies to invest in
Doing thorough due diligence on potential investments
Negotiating and syndicating deals
Helping your portfolio companies succeed
So with that list as an anchoring point, let’s discuss the primary set of skills needed by a VC.
Raising capital for your fund from Limited Partners: Unless your venture fund has a captive source of capital, such as you and your partners’ personal funds, a corporate sponsor or a government sponsor, you will end up spending a fair amount of time and travel dollars pitching to many potential LPs. Any good salesperson knows how to qualify potential customers, pitch their product and close a deal. The process works pretty much the same for VCs raising money from LPs. So make sure at least one person on your venture team knows what it takes to sell and knows how to close the sale!
Finding great companies to invest in: Venture capital is all about investing in the future. You are betting on teams today to create things that are going to matter 7-10 years in the future. A great VC anticipates and understands market trends. As a forward thinker, it’s not easy being ahead of the pack. Many of your investments will be too early (i.e. your market timing was off) or derailed by other market forces. You have to be a big picture thinker and comfortable making decisions without a lot of supporting data as you judge long term market potential for new ideas.
Doing thorough due diligence on potential investments: Comprehensive diligence on a startup company requires a fair amount of effort. Once you have satisfied yourself that the big picture frame of reference justifies further work, you need to shift gears and get down into the nitty gritty and try to spot issues that might be deal killers. You will cover topics such as viability of the technology, size of market opportunity, competition, go-to-market strategy, financial plan, etc. Even with all of those analytical aspects requiring thorough research, we believe the most important aspect of diligence ends up being more subjective. In many ways your most important assessment relates to evaluating the CEO and her management team. The quality of the founding team is perhaps the biggest factor in startup success. Another key, often overlooked, skill relates to your ability to be decisive and make important decisions quickly. There’s nothing worse for the entrepreneur than having a VC string them along and not pull the trigger on either a quick yes or no. Slow decision making will hurt your reputation in the venture community and may cost you deals lost to your faster competitors.
Negotiating and syndicating deals: This role requires a few important skills. First off, you need to understand how venture investments are structured from a financial standpoint. When you negotiate an investment with an early stage company, valuation is only one of many variables to consider. Envisioning a long term funding strategy for the company and making sure you are in alignment with the management team and co-investors on potential exit strategies is vitally important. Solid skills in venture finance are at the core of a successful VC’s DNA. Another key skill in this role relates to your ability to sell to both entrepreneurs and other venture investors. By this, we mean your ability to come to a fair agreement with the company on deal terms, and where appropriate, syndicate the deal with other investors to help fill out the financing round.
Helping your portfolio companies succeed: Startups find new ways to fail every day. As a VC, you have to accept company failure as part of the job. But, that doesn’t mean you should sit on the sidelines and pray for success. Hope is not a strategy! VCs need to be active partners with their portfolio companies. Frequently, they take board seats where they add value to the company. Great board members have an ability to provide guidance and support without the ego-driven need to control or dictate everything. And, their prior business experience should help a company make decisions that lead to success. Not everyone is cut out to be an effective contributor to a startup board. These are some of the most important skills and personal characteristics for a board member:
Temperament — calm and experienced, good perspective
Independent thinker — questions and pushes back
Proactive — involved by initiating regular interaction with CEO
Committed — willing to put in the time
Networked — offers help and support by leveraging their personal network
Strategic — focuses on strategy, not tactics
Thoughtful & Observant — first to spot issues or notice what is missing
Informed — insists on good practices and knows the rules of the road
Supportive — provides mentorship, skill development and the opportunity to lead.
When it comes to fast moving startups, you cannot afford to take your eye off the ball. “Business as usual” is never good enough – companies grow and change quickly — the investor’s job is to step back and always consider the bigger picture, speak up and ask questions, and offer perspective and advice.
In Part II of this article we'll take a closer look at what the right number of partners is at a venture firm and what other personnel resources are needed.