Selecting a Venture Capital Firm to Invest With

Unless you already know a lot about venture capital and also have a lot of time on your hands, we’d suggest you focus on venture capital firms and exclude angel groups from your consideration set. Angel groups generally require considerable time from their members, who typically handle the venture screening, due diligence, and investment administration tasks that are handled for you by professionals at more traditional venture capital firms.

. . . The practical reality is that you can scratch all those billion dollar-plus firms off your list of possibilities, because they won’t even take your money. . . . Unless you’re really wealthy, or extraordinarily well connected, or willing to invest a big portion of your net worth with a single VC firm, you shouldn’t even consider the big firms. The minimum commitment for such firms could be in the millions of dollars. These firms’ funds are generally limited to big institutional players like pension funds, college endowments, or a fund of funds.

. . . Once you exclude those behemoths, as well as the do-it-yourself angel groups, you’ll still need some way to segment the remaining number of choices in order to make your selection process manageable. There are a number of dimensions on which to segment the field. These include the stage in a venture’s evolution when they most often invest, venture industry, and venture geography.

. . . So why should you care so much about the venture stage where a firm is focused? . . . From a financial standpoint, as we’ve discussed, investment at different stages carries different degrees of risk and associated potential gain. Quite simply, generally the earlier the venture/financing stage, the lower the share price, so the greater is the return potential, but the greater as well is the risk . . . .

. . . There are ways, though, of managing the greater risk of earlier-stage investment. One is through a firm’s more insightful screening and rigorous vetting of its investment candidates in order to do a better job of deal selection. Another way is through your own investment diversification—just invest in more seed and/or early stage ventures to hedge your bets, as some percentage are likely to strike pay-dirt.

. . . Some venture capital firms differentiate themselves based on the industries in which they invest. They may invest in some predetermined range of strategic industries or perhaps even focus in just one or two. . . . Some investors select a venture capital firm based on its focal industries. Perhaps an individual believes strongly in the growth potential of certain industries and therefore wants to focus her venture capital dollars in those industries. Or perhaps an individual is particularly knowledgeable about an industry. That person might then have a greater interest as well as possibly better ability to select specific venture capital deals in that industry.

. . . Some firms focus their investment activity in particular geographic regions. That’s not as surprising as it might sound. Venture capital management is a labor-intensive endeavor. A VC may review hundreds of deal opportunities in order to find a small number to really zero in on for the most rigorous vetting. Vetting those finalists may require extensive observation of their operations and management teams. There’s sometimes no substitute for onsite observation in such analysis. Geographic proximity makes that much easier and more efficient.


Len Batterson is the co-author of:
Building Wealth through Venture Capital: A Practical Guide for Investors and the Entrepreneurs They Fund