Follow me @samirkaji for my random, sometimes relevant thoughts on the world of venture and start-ups. In 2012, the Kauffman Foundation released a report titled “We have met the enemy and he is us”. The report highlighted the lack of performance within venture capital and placed culpability on the investors (LP’s) of venture capital funds. One of the key findings in the study was compelling data that venture funds <$250MM performed significantly better than venture funds >$250MM — Based on the report, 83% of large funds ($250MM+) exhibited a return multiple of less than 1.5X, while only 54% of sub-$250MM came in at a multiple of 1.5X or lower (clearly a huge delta, although perhaps a bit of “we suck less”). The smaller is better message was heard loudly by LP’s as in the following years the venture market experienced both a significant downward shift in the size of funds from many brand name venture funds and a rapid growth in sub-$100MM venture funds as seen below (Prequin data). Along the way, the narrative of “small funds are better” morphed into a belief that attaining venture returns was only marginally challenging for small funds. Purely from a mathematically perspective, small funds certainly appear have a less daunting path to returning a multiple of investor capital. A notion that resonates strongly when considering the paucity of large exits over the last decade. However, the actual analysis is significantly more complex. First, it’s important to acknowledge that the risk/return calculus is quite different for small funds as compared to larger funds. Firms who raise sub-$100MM funds are predominately seed-stage investors (or Micro-VC’s). As a function of an investment thesis focused on seed investing, these portfolios typically have longer liquidity cycles and more risk than the portfolios of larger fund investors. When adding in the startup risk elements of investing in a first time fund and/or first time venture capitalist, an acceptable “venture return hurdle” is higher for Micro-VC managers. The same LP’s who happily would accept a 1.5X-2X cash return multiple from large, established fund managers usually look for 3X+ net multiple for smaller seed funds. As the data from Correlation Ventures shows, the most successful funds are those in the 90th percentile of their given vintage year. Yes, while being top quartile performer keeps you in the game, the best firms consistently have funds that are in the top decile. For Micro-VC funds, being in that top decile means fund performance of a minimum 3x+ net. If that’s the case, what does it take to achieve a good venture fund return for a Micro-VC fund? Over the years, we’ve heard many managers state that because their fund...
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