The Emergence of VC/Angel Syndicates
So I’ve been spending a bit more time than usual talking to entrepreneurs raising capital and venture capital firms investing in early stage companies, and there is a trend that I am trying to wrap my head around.
The trend: large venture capital firms are issuing term sheets committing to invest between $500K and $1.5M in early stage companies, and then offloading anywhere from $100K-$500K of the round to professional angels and seed funds.
So the question is, why are they doing all the work to find/negotiate/invest/and then shepherd these investments, only to let smaller guys piggy back on their deals?
I’ve got a couple potential answers:
1) They want to reduce their exposure to the investment by syndicating the deal, but as capital requirements come down for building companies, there isn’t really room for the syndicate of yesteryear. It used to be that a Series A round would frequently be split between two large venture firms, each invest half the capital with the confidence that future funding requirements would be high enough that they’d both be able to put real money to work behind their bet. But now that the $2M A round is being replaced by $500K seed rounds, and the $10M B round looks more like a $2-5M A round…VC’s are choosing to syndicate with partners who can afford to invest in the first round, but whose coffers aren’t deep enough to go heads up in the second. What that means is that the VC leading the deal, should this deal be a winner, doesn’t have to fight with another deep pocketed investor for an outsized portion of the next round (read: they’ll have an early option to increase their ownership).
2) They see the level of activity occurring in seed stage financing, but haven’t found a great way to participate in it. A VC with a $600M fund and 5 partners has a very hard time making small bets, getting small bets through their process, and putting proper internal resources (partner bandwidth) against those bets…so now, if they are no longer the first investors to not only see promising new companies, but also see the data on which promising new companies are “breaking out,” it is becoming increasingly important for them to “make friends” with the investors who are seeing those companies and data. The notion that angels and seed investors are a source of VC deal flow is not new, but the change in funding landscape and emergence of seed/feeder funds and super angels is cutting into VC’s deal flow. So when they do find a deal they want to put real money behind, they invite some smaller guys in as a sort of barter chip which says “I give you a piece of my deal, and you give me an early heads up on which of your deals are breaking out.”
3) They perceive some unique value, domain expertise, or relationships unique to the angels/seed guys they let in that will increase the value of the asset they have just invested in. Example: Big VC commits $2M to a mobile payment company, the former CEO of Paypal is an angel investor, it’s worth giving up a piece of my deal to have his expertise and relationships behind my new investment.
4) 5 networks are better than one. No matter how good a VC is, no fund’s network is complete. Expanding the number of networks a founder can tap, assuming the angels or seed investors will be active, can only help.
5) The founder/entrepreneur sees the value in #’s 3 and 4 and requests/demands the carve out.
My guess is that it’s probably a combination of all of these, but regardless of the reason, I think it’s a positive trend in the fundraising landscape for all parties involved…always nice to see a market evolve the way it should.
Anyone see downsides to this trend or other potential causes?
Jordan Cooper's Blog: startups, venture capital, etc... 
Great catch, Jordan. As an angel-tier investor who’s led (for our fund) two recent co-investments with VCs (Appature with Madrona and Ignition / Urban Airship with True), I can tell you that #3 and #5 are the closest on your list, but there’s another common reason you don’t mention: often the angel gets there first (b/c they know the entrepreneur or have done business with them previously) and participates actively in the fundraising process to help the final deal come together.
I’d agree that this is a positive trend for both angels and VCs, and offers further evidence of a shift toward more entrepreneur-friendly early-stage investing.
Cheers,
Chris
Chris DeVore
February 23, 2010
right…the “angel get’s there first” idea is well known and the way it traditionally happens…this analysis is more focussed on the phenomenon of VC’s in first, starting to invite angels in after.
jordancooper
February 23, 2010
Solid post. Very cool to see what some might consider a static (or as others have said “broken”) industry adapt to match the scale of entrepreneurship and innovation.
Only downside I see is when push comes to shove it’s unclear how either the VC + Angel or the founder/entrepreneur will value the leadership and guidance of each group. In a typical VC A + VC B funding with equal partnership and guidance from both groups I think it’s more clear. If founders should remain laser focused on their mission they don’t need to worry about managing that dynamic on big decisions.
I would have assumed that 2,3 were the biggest drivers but interesting to hear that founders are looking for this.
Geoffrey Vitt
February 23, 2010
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The Emergence of VC/Angel Syndicates « Jordan Cooper's Blog … – ReLogical
February 23, 2010
A lot of times these syndicates happen in the other direction… the angel sources/puts together the investment, then realizes they need a deeper pocketed investor at the table. If an awesome angel asks a VC to join an investment then the VC may lead the investment with dollars invested and terms used, but the angel doesn’t get cut out of the round…
Healy Jones
February 24, 2010
Agreed. Three years ago, that was the way I saw it go down all the time…I’m arguing that the relationship is shifting that sequence in the other direction in many cases
jordancooper
February 24, 2010
Jordan, nice points – I would have thought it was just that VCs wanted more diversity / fewer eggs in any one startup basket. This is a realization I bet hit home in 09 when things went to pot. However, after reading this, I’d bet some of the savvier VCs are involving Angels due to the domain expertise they can offer and the direct benefits it can bring to the startup founders. Increases everyone’s probability of success as long a everyone can play nice in the sandbox.
Jeff Iacono
February 25, 2010
[…] The VC Shuffle Filed under: Seed Funding (US) — Tags: Jordan Cooper — Aristos Peters @ 11:00 am This article was originally published in May 2009. Today (March 2010) I came across an excellent article that digs around the issue a little more. Full article here. […]
The VC Shuffle « We Klik
March 1, 2010
Interesting trend. Shrewd move by VCs. As far as downsides, the basic utility of angels lies in taking seed stage risk and incubating garage start-ups. The less time and capital seasoned angels focus on their core reason to exist and the more they focus on aiding VC-funded companies, the less robust is the seed investment ecosystem.
Dan Robinson
March 2, 2010