Fundraising: What You Should Know About VC

Greetings! I'm Ksenia, a seasoned negotiator, business strategist, and international communications professional with a strong foundation in venture capital and legal expertise. My professional journey includes a year-long tenure as the Chief Legal Officer at a prominent Singapore-based investment fund.

Following that experience, I ventured into entrepreneurship, founding startups in the fields of robotics, Brain-Computer Interface (BCI), and Internet of Things (IoT). To this day, I continue to lend my expertise to early-stage startups, providing invaluable support in their growth and development.

When I headed to California for the true startup experience—networking and fundraising—I noticed a common pitfall among founders, especially first-timers: a lack of understanding of how VCs operate. Here are a few common mistakes:

• Targeting Funds at the Last Stage: Asking for investments from funds in their final stages often leads to rejection. These funds may not have available capital for new ventures, leaving founders disappointed and demotivated;

• Engaging with the Wrong People: Approaching the wrong individuals can significantly lengthen and complicate the fundraising process. Time is money, and your ability to connect with the right people showcases your expertise to VCs;

• Setting Unrealistic Time Frames and Traction Metrics: Unrealistic expectations in pitch decks, such as overly ambitious timelines and traction metrics, can erode credibility. It's crucial to accurately assess the time required for fundraising and set achievable milestones.

• And many other important things.

All of this can be avoided if you know simple things. I will tell you who to go to, who not to waste time on, and how to attract money more easily.

What the structure of a venture fund is, the lifespan of a fund, what they do at different stages, how the fund and the management company make money, which companies are usually in a fund's portfolio, what kind of startup you want to become, and who to talk to in the fund.

1. Venture investments are managed by two structures: the venture firm (management company, general partner, and GP) and the venture fund.

• The firm is a separate legal entity that acts as the management company, professionally managing investments. The firm continues to exist even after the fund has closed. So, if the fund is already in its final stage, there is no point in trying to attract money from it. However, you can establish contact with the venture firm that manages this fund, and when they gather a new fund, you can approach them again with the same or a new project.

• The fund is a pool of money that the venture firm will invest. Money is attracted to the fund from investors, companies, etc. Often, it takes longer and is more difficult to raise money for a fund than for a startup.

2. In the fund, there are two key players: the management company (GP) and the limited partner (LP):

• The firm enters the fund as the general partner (GP) and manages it, making decisions on whom to invest in and under what terms.

• The other participants in the fund (investors) are the limited partners (LP); they provide the money. When the general partner (GP) raises the fund, the LPs agree to commit a certain amount. When the general partner selects a startup to invest in, they issue a capital call for the amount to be invested. The LPs contribute money proportionally to their share in the fund.

3. The lifespan of a fund is 7-10 years.

• The first 2-5 years are devoted to the active investment phase. So, if you have a startup seeking investment, focus primarily on funds in their active investment phase.

• Portfolio management. This phase lasts 5-7 years, during which investors' capital is multiplied. The general partner typically manages investments through participation in the Board of Directors of invested companies and through additional investments in these companies.

• Exit. The fund has a limited lifespan. Therefore, the general partner is always ready to sell portfolio companies, either because a good buyer is found who offers a high price or simply to divest from an unsuccessful investment and preserve their money. The best outcome for investors occurs when a company goes public (IPO) or when it is sold to major market players.

• There are cases where the general partner sees an opportunity to further increase capital and asks investors to keep their money in the fund for a few more years.

4. The general partner has two main ways of earning:

• Commission for professional management of the fund: After the GP raises the fund, they typically take around 2-2.5% per year from the total fund size to cover operational expenses. This acts as a salary to cover organizational costs and fund expenses. It's not the main income for the GP, and it's not enough to fully sustain operations or motivate the GP.

• Carry: This is the share of the investment fund's profits paid to the GP (investment manager) in addition to the amount the manager contributes to the partnership. When an investment is successful, carry is the portion of the profit paid to the fund manager. This interest typically ranges from 20-25%. In other words, the general partner receives 20% of the profit, while LPs receive 80%.

  
  

  For example, if there are 10 investors, each would receive 8%, while the GP takes 20%. The GP starts earning carry when the investments perform well, typically after the second year when portfolio companies begin generating profits or ideally, through a successful exit. After the GP has returned the initial investment amount and raised money for portfolio companies, they start earning carry-on the profits earned, usually around 20-25% of those profits.

When the general partner forms the fund, they also contribute some money and receive returns as an LP.

5. The number of companies that are typically invested in is usually limited. Often, this can be around 10 companies.

A good scenario in the fund would be:

• 5 successful companies (often referred to as homerun companies),

• 3 companies that are struggling (slowly developing and uncertain about their future),

• 2 companies that were not profitable or resulted in losses. The phenomenon of failed companies is called crash & burn. In this case, the faster the failure occurs, the better. It allows quicker focus on other companies, and founders can move on to new ventures sooner.

Summary

In conclusion, it's important for founders to assess how beneficial their startup investment would be for the investor. It's crucial to consider the investment phase of the fund. A piece of advice for founders seeking financing: it's better to engage with the General Partner (GP), the individuals who make the investment decisions. Even if you have good relationships with LPs, it doesn't guarantee investment in your project.