Venture capital is an essential resource for entrepreneurial businesses, but new entrepreneurial approaches are changing the industry.
More and more new venture capital funds are popping up in the greater Washington region. Funds such as Blu Ventures, Gula Tech Adventures, NextGen Venture Partners, DataTribe, Lavrock Ventures and Strategic Cyber Ventures are writing smaller checks and providing more hands-on mentoring than larger incumbent funds can. They challenge the prevailing model for existing venture capital funds and fill a void in the greater Washington region.
Arguably, the venture capital industry needs to be disrupted. Over the last 10 years, the herd has been winnowed significantly. Venture funding has been consolidated into fewer but larger funds, with $1 billion funds becoming more and more commonplace. Our region’s best-known venture capital organizations — name brands such as Revolution and New Enterprise Associates — are able to raise more money because of their investment success. In this way, the market works fairly, rewarding those who can generate positive returns for investors.
But with this success comes concentration of capital, and that concentration comes at a cost. It is harder for large funds to make smaller investments, or even get involved in start-up investing at all.
“As funds get bigger and bigger, it’s hard for a billion-dollar-fund manager to be excited about a seed investment of $50K,” notes Ron Gula, co-founder of Gula Tech Adventures. After all, to move the needle on a $1 billion fund, each investment must yield large dollar amounts. A $50,000 investment “takes just as much effort to help that company get to the next level as a $5 million investment, but the $5 million has 100 times the return,” Gula says.
Next thing you know, larger funds are investing in more established companies that have proven growth or momentum. Businesses at this stage are not only less risky, but better able to absorb and apply larger capital raises.
They also lead to more conservatism in the investment process itself. Large institutions raise billion-dollar funds from institutional sources such as pension funds, endowments and sovereign wealth funds. These sources require a careful investment process and a focus on legal and financial compliance. However, this professionalization comes at a cost – the venture investor loses an ability to make quick decisions on a gut feeling or to “take a flyer.”
This is a phenomenon has been observed by many entrepreneurs. Dan Mindus, founder and managing partner of NextGen Venture Partners, believes that larger funds invest around financial metrics to ensure that both investments and oversight satisfy their institutional investors, and that means subsequent board service is less about mentoring and more about process. It also may make investing in people somewhat less relevant than investing in numbers.
Clearly, there is a market for smaller, more hands-on investing in our region. Funds where the investment process can be more accommodating to the unpredictability of early stage investing.
By nature, much about start-ups in the earliest stages is uncertain, and there is a strong need for help. Gula points out how many areas where an early-stage investor should help: “You need to motivate the team, make funding decisions, have input on general strategy, speak with customers, speak with analysts, speak with media and help with recruiting.” Steven Chen of Blu Ventures readily agrees and adds “post-investment active engagement” on the part of investors is “essential for early-stage companies.”
Leaders of these emerging venture funds are evidence of a clear entrepreneurial characteristic: starting a business where they see a market opportunity. Their ability to bring experienced and engaged entrepreneurial assistance to start-ups is a welcome positive development in the greater Washington region’s ability to establish and grow technology businesses.
Jonathan Aberman is a business owner, entrepreneur and founder of Tandem NSI, a national community that connects innovators to government agencies. He is host of “What’s Working in Washington” on WFED, a program that highlights business and innovation, and he lectures at the University of Maryland’s Robert H. Smith School of Business.