I’ve noticed more funds moving to either end of the investment stratum lately: late-stage investing or seed-stage investing. Seems like more funds are finding the middle ground a tough place to play, as the capital needs are high, the time to exit stretched, there’s often still some technology risk to vet out, market acceptance still hasn’t been solidified, and there’s significant downside valuation risk (this risk has been the most prevalent over the past 9 months).
Late stage investing has become more interesting, as the valuation for late-stage companies have come down 25 – 75% in most cases as their public company comps have tanked. The real allure to investing later in the business stage is that there hopefully isn’t the need to set aside large reserves, and there’s a higher likelihood of a quick-turn of capital to return to LPs. Investors in this stage also seem to be interested in take-privates and public-company spinouts, bluring the lines of where they play between the private equity world and venture capital.
At the other stage of the bar-bell are the seed-stage investors, meaning seed funds, incubators, angels, etc. that are looking to invest less than $1.0 million initially, and maybe only $3.0 million over the life of the investment. In many ways, many of the investments are glorified R&D projects, but where the true entrepreneurial spirit tends to live. There’s a strong sense of capital efficiency, and the typical team has less than 10 people. Investors are finding that there’s significant value to be derived in making small investments if you can turn those initial modest investments into $30.0 – $50.0 million exits. Some active investors here include:
- The Founders Fund (the ex-PayPal gang invests $500K – $5.0 million; most notable early investment – Facebook)
- First Round Capital (led by Josh Kopelman out of Philadelphia (huh?); impressive list of early-stage investments)
- Charles River Ventures QuickStart program ($100K – $500K initial investment)
- Spark Capital’s Start@Spark program ($250K initial investment; focused on Boston/NYC areas)
- Venrock – Quarry (internal incubator providing EIRs access to resources and potential funding source)
- Sequoia (invested $2.0 million directly into incubator Y-Combinator)
- Kleiner Perkins ($100.0 million iFund specifically devoted to iPhone applications)
- fbFund ($10.0 million fund sponsored by Accel and Founders Fund; makes grants of $25K to $250K to fb app developers)
My question: how do these funds survive if the economy continues to languish, and follow-on rounds get crammed down to the point where some of these funds (maybe not the names listed above) can’t protect their positions? Hopefully, these seeds are in so early that the valuations are so low to begin with that it doesn’t matter; but as the average venture investment requires $60.0 – 70.0 million of capital to get to a viable exit, most of the seed funds are not going to be able to continue to support their portfolio companies unless follow-on investors bid up valuations.