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The Network Problem in VC

I was chatting with a founder this week, and he was asking me how to approach fundraising. Specifically, he was asking how to connect with investors via a warm intro when his circles don’t overlap with theirs. He doesn’t have relationships with people who know venture capital investors.

In the past few months, I’ve reviewed a number of fundraising decks for venture capital firms looking to raise money from limited partners (LPs). One of the things they consistently highlight to LPs is how great their network is. The better the network, the better your deal flow. The better your deal flow, the more likely you are to see a great investment opportunity—or so the logic goes. When you dig a bit, you realize that most examples used to demonstrate a great network are exclusive organizations (think elite schools and companies). So, investors are communicating to potential LPs that they run in exclusive circles that give them access to great founders whose companies would be worthwhile investments.

Lots of investors believe (admittedly or not) that founders should get a warm intro to them. Founders can always send emails directly or use other cold outreach methods, but the warm intro is what most investors value most. This dings founders who aren’t part of exclusive groups that attract venture investors. Investors are communicating to founders: Find a way into my circle. Come meet me where I am.

There’s a network problem in venture capital. Investors expect founders to find their way into exclusive (i.e., narrow) circles to seek investment. LPs view such access as a positive attribute and an indication of potential investment success. To me, it seems it should be the other way around. Investors should have broad networks that allow them to meet founders of all backgrounds where they already are and to see the world from different perspectives. LPs should view broad networks as a positive attribute that could lead to overlooked investments that offer outsize returns.

The network problem in VC is waiting to be solved. When it is, the impact on entrepreneurship is likely to be major!

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Emerging VC Managers Are Founders Too

Today I had a chat with an emerging venture capital investor who’s raising his first fund. He shared the journey with me, and it didn’t sound that different from a start-up founder’s fundraising journey. He worked to refine his story and pitch potential limited partners (LPs) to invest in his fund. He’s heard more noes than he can count but pushed through until he heard yes.

The fundraise has been a grueling multiyear journey for him and his partner. It’s finally coming to an end (for fund one at least). I asked him what his big takeaways are. He has quite a few, but two stood out to me:

  • Knowledge gap – Just as founders don’t understand the VC landscape when raising for the first time, neither did he. It took him months to learn that each LP is different and looking for something different in the fund investments they make. After he filled his gap, he adjusted his outreach strategy.
  • Timeline – Their raise process initially was open-ended, with no timelines. Potential LPs were slow to commit or decline. He and his partner were in limbo, and so was the overall fundraise process. Once they established a timeline and asked people if they could respect it, they got clarity on who was serious.

This emerging manager and his partner hustled their way to raising a $50+ million first fund. He’s now focused on building out the team and infrastructure to support the operation of his fund. I walked away from today’s call thinking of him as more founder than investor.

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What Do the Best Emerging VC Funds Have in Common? Update Emails

I had a chat with an investor today. Not only is he a successful venture capitalist, he’s personally invested in forty other emerging venture capital funds. I was amazed when I heard that number. Inspired by such a large number of data points, I asked him a question: What have you learned from these investments that surprised you? I didn’t know what his answer would be, but I was sure it’d be insightful.

He said there’s a high correlation between success and emerging fund managers who are disciplined about communicating with their LPs (people who invested in their fund). The fund managers who communicate best also run funds that have the highest returns (in his personal portfolio). It’s a small sample set but still a powerful insight.  

I’m a fan of founders keeping people in the loop via regular update emails. The upside to writing them far outweighs the downside. Based on today’s conversation, this appears to be a universal rule that applies not just to founders but to anyone trying to achieve outsize success.

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Reflections After a Successful Raise: The Evolving Pitch Deck

I met with a founder about his successful fundraise. I was curious about what he learned from the process. Some of his learnings are to be expected; for example, realizing that to hit his goal, he needed to pitch more investors than he planned for. But he also shared something else: he didn’t crystalize his pitch (or finalize his pitch deck) until the end of his fundraise process.

This founder talked to many people who poked holes in his business from many angles. He was asked questions he’d never thought about. Most of those pitches ended in a no, but he reflected, talked with his cofounders, and made changes when necessary. While painful, the fundraising process gave him more clarity about, and confidence in, what they’re attempting to do.

A founder spends lots of time preparing a fundraising pitch deck. They often feel they’ve created a masterpiece. Many are surprised when they learn it’s just the beginning. Their masterpiece may look very different by the end of a successful fundraising.

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Lower Your Personal Burn Rate to Enhance Your Optionality

One big hurdle for some aspiring founders is their lifestyle—the amount of money required to maintain it is so high that entrepreneurship isn’t a viable option. There’s an argument that every dollar that goes into the founder’s pocket reduces the resources available to scale the company. You often see founders take small salaries with large equity positions in the early years. The thought is that if the business is successful, the equity will be orders of magnitude larger than the forgone salary.

You may not have thought about it this way, but personal burn rate and optionality are correlated (for most people). The higher your personal burn rate, the lower your optionality. A high personal burn rate prevents many people from entertaining opportunities with a big upside but lower initial salary.

Anyone serious about founding a company or joining an early-stage company should keep their personal burn rate as low as possible. This doesn’t mean you shouldn’t enjoy life. Nothing’s wrong with doing one-off things that bring you joy, such as taking a trip. It does mean to be strategic about the recurring monthly payments and other monthly outflows you get accustomed to.

I like to think of a low burn rate not as limiting, but rather as not allowing past decisions to restrict your options. The lower the personal burn, the more interesting opportunities you can consider.

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Content Creators Need Capital to Grow

Today I chatted with an early founder. His business creates video content for automotive enthusiasts. He’s been at it for a few years and has built an audience of over 2 million followers on a single social media platform. With this following, he’s been able to develop several revenue streams. He’s a solopreneur who’s looking to expand his business and team.

We discussed his business high-level. He faces two challenges. The first is seasonality. His revenue streams are good but variable based on the time of year. The second is bandwidth. He has ideas that will provide more consistent cash flow, but he doesn’t always have the time to execute consistently on them. He works on them during slow periods, which prolongs getting those initiatives off the ground.

I get it. It’s the all-too-familiar story of the bootstrapping entrepreneur. I’d imagine he isn’t the only small creator experiencing these challenges—but he’s different because he’s proven he knows how to build a large audience and create content they enjoy. He just needs capital (and mentoring) to scale his business and make it a big one. I’m not familiar with the content-creation world, but I imagine that providing growth capital to proven early founders with aspirations of creating large content businesses is a good opportunity.

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Bigger Networks Give You More Paths to Success

A founder shared his fund-raising journey with me today. In the last two weeks, he’s gone from zero traction to conversations with multiple firms and a likely path to getting his round closed. Anything could happen between now and funds being wired, but I was curious about what changed in the last two weeks, so I asked. The founder said he’s been more intentional about expanding his network. He volunteered to speak at NOEW because he knew lots of investors would attend. He met with folks leading up to the event and during it. As his network expanded, the possible paths to getting his round done proliferated.

Networks and relationships can have a big impact on the trajectory of a company (not just on fund-raising). Knowing the right person, or the right person knowing that you exist, can lead to doors being opened that were previously closed and to amazing opportunities. Building external relationships isn’t the focus of a CEO, but it’s something they should be mindful of and intentional about. Especially if they’re fund-raising.

If you’re a founder looking to build something great, try to build a network before you need it—or build strong bonds with a few key people who have large networks. As your network expands, your company’s possible paths to success will multiply.

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Apple’s Latest Banking Move

I’ve shared my views on the digitization of distribution and its impact on banking. Today I read about Apple’s new service that will allow small businesses to accept payments on their iPhones. No hardware (i.e., payment terminal) will be required. Consumers will be able to tap a credit card or another iPhone against the business’s iPhone to send payment. The service hasn’t been launched as of today, but it’s coming, and it shows how Apple is inching closer to being a bank.

Helping consumers and small businesses with financial services is an enormous market—one of the few that could move the needle for a company the size of Apple. Banking is about to go through rapid change. Don’t be surprised if Apple ends up being the go-to bank for consumers and small businesses.

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Keep in Mind Fit Matters Too

Founders looking for capital will likely talk to a lot of investors and hear no repeatedly before they hear yes. It’s a frustrating process. Today I was talking with a founder friend about finding the right investor. We discussed the importance of fit.

Founders have an objective they’re trying to achieve. They need capital, start-up knowledge, and relationships to execute and turn their vision into reality. The investors that can help them achieve this objective are the best fit. Founders are (or should be) evaluating investors for fit, but what they often don’t realize is that this is happening on the other side of the table too.

Investors, like founders, have objectives. They’re looking for opportunities that are the best fit with their objectives. Investors’ objectives vary. They probably include potential financial return, but they may also include other variables. For instance, an investor may want to fund a start-up with a specific approach to solving a problem. Or invest in certain types of solutions (e.g., software) and not others. Or give back to the community as well as make money (do good while doing well). Whatever their objectives are will play into their decision-making process. This means you could be a great founder with a great idea, but the opportunity might not be a fit with a given investor’s objectives.

Good relationships are mutually beneficial. Founders should be mindful of this when evaluating investors (or any partner for that matter). Clearly articulate what your objectives are—but understand the objectives of the other party too. The goal is to find fit: alignment of the objectives of both parties, even if they differ. When there’s a fit, the relationship will be mutually beneficial.

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What You Don’t Know Can Hurt You

I spoke with a founder who’s smart, and the solution he’s looking to build could bring real value to customers. He wants to raise capital but isn’t familiar with the venture capital process and doesn’t know anyone who’s been through it. Recognizing his knowledge gap, he wanted some pointers.

This founder’s approach is a good one. Try to fill your gaps and build a network of people who are knowledgeable about raising venture capital before you begin trying to do it. I suggest getting as many perspectives as possible. Socialize your idea with investors and ask for feedback. During those chats, you can ask them how their firms’ investment processes work and what they’re seeing in the market. Founders are a great source of knowledge too. They can give you their takes on current market dynamics and valuable insights gleaned from their experiences.

Maybe you don’t have physical proximity to any of these people, but you always have digital proximity. Blog posts, Twitter threads, YouTube videos—investors and founders have put out a lot of content about fundraising.

In the end, you want to avoid being in a situation where you’re at a disadvantage with respect to information or knowledge about the process and current market when you start raising. Not knowing can have a big impact on the outcome of your fundraising.

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