For many entrepreneurs and angel investors and new to the growing world of startup ventures, venture capitalists and their modus operandi can pose a mystery. So what is venture capital, how does it function and who are the people involved with them? And how important are VC associates to the whole mix?
Venture capital (VC) firms work in a specific manner, provided to early-stage, high-potential startup ventures with the possibility for growth and scalability. A specific segment of the venture capital industry, they deal with far greater uncertainty and much smaller financial capital investments than the standard private equity firm. VC funding also serves to indicate and grow innovation within a specific startup ecosystem.
They raise funds from Limited Partners (LPs), raising a fund with a lifetime of 10 years, followed by seeking to invest in startup ventures at different stages after completing their due diligence It’s a highly uncertain market, but the rewards can be big, as the Sequoia Capital discovered when Facebook acquired WhatsApp for $19 billion in February 2014.
For the general public, private equity specialists, M&A professionals and angel investors new to the investment game, what exactly to VC firms do, part from forming a crucial core in the startup ecosystem, which is itself part of the larger entrepreneurial ecosystem? And what is the role of the very foundation of a VC firm, the humble venture capital associate?
VC Hierarchy and Investment Thesis
A question about VC firm hierarchy can yield different answers, especially given how different titles can imply different meanings and responsibilities for each person in a firm. But ignoring junior venture capitalists (VCs) can be a mistake, for both entrepreneurs and more senior VCs.
A managing director (also managing Partner or general partner leads the firm. They’re compensated through management fees and receive direct carry in the funds, running the firm and determine its strategy, engaging in fundraising and voting on deals the firm executes.
Venture Partner (VPs), also termed as Partner or Operating Partner, tend to source new deals, sit on boards and take a governance and monitoring role in startup ventures.But they lack the carry in the funds, being accorded only deal-specific carry for their portfolio, though this can change with different VC firms. Partners can function in a salaried role, or take only management fees, in a full-time or part-time capacity. You rarely see partners maintaining external ventures while working for a firm.
With Principal and Associates The functional responsibilities of Principals and Associates can range from due diligence and financial analysis of deals toddle sourcing, sitting on boards and acting as junior partners. At some firms, Principals immediately precede a managing director role. Generally an apprenticeship role, each will each have their own level of autonomy and compensation, depending on the firm. However, they lack a vote in deals.
Outside of this hierarchy, CFOs and EIRs (Entrepreneurs-In-Residence), marketing, portfolio support, analysts and scouts function in parallel to this main track, supporting the operations and activities of the VC firm.
This is built upon their investment thesis, which determines the specific startup ventures they deal with and their associated dealflow.
Every VC has an investment thesis which determines how they assess a potential startup venture for investment, This allows the dealmaker promoting the investment to articulate the rationale behind the transaction, why it makes a good investment, its prospects and its return for the company.
An investment rational can either be thematic or thesis-driven for any given firm.
Discussing the VC associate
A blog post by Mark Suster, the General Partner of Los Angeles-based Upfront Ventures, explained that the essence of what Associates do in a VC firm, which can differentiate across firms and countries, comes down to dealflow, administration and supporting portfolio firms.
This involves such activities as deal sourcing for partners; deal screening, support and analysis; due diligence and legal preparation, portfolio company support, analysis and community building; industry analysis and reviews and firm admin, policy and fund analysis.This is in addition to be a presence at key events like conferences and networking events, alumni activities and a need for some degree of entrepreneurial exposure and experience.
Entrepreneurs are company founders. By definition, they often want to get direct access to the decision-makers in a VC firm. A Forbes article by a former VC associate, Rob Go of Boston-based NextView Ventures, highlights how associates can help the VC firm and company founders who approach them, in what is essentially an apprenticeship role.
Associates in a VC firm help manage the portfolio of the firm. doing administrative work, vetting the various entrepreneurs and performing due diligence for the firm, as well as generating and curating deals for the firm (i.e. ensuring dealflow),
Some, such as former associate Josh Breinlinger, criticise the VC associate model as being dysfunctional. He raises valid points that seem specific to Silicon Valley but may also be problems elsewhere.
Breinlinger notes that “…the best entrepreneurs are well-networked and typically scrappy. They don’t waste time, and they fundraise well. They don’t want to talk to associates – they want to go straight to the partners, who are the firm’s decision makers. And herein lies the “associate problem.” Associates want to talk to entrepreneurs, but entrepreneurs don’t want to talk to associates.”
He does add though that: “Associates can be effective, but some things need to change about either their profile or the role he performs.”
His proposal? Recruiting associates that posses operational experience in startup ventures rather than MBA graduates, empowering them to write cheques for seed funding or allocate office space to ventures, or otherwise operating an accelerator, event or coworking space.
In addition, he suggests hiring people with significant social capital (i.e. large networks of successful entrepreneurs), who can help connect entrepreneurs with them, represent the brand of the VC firm and generate both mindshare and dealflow amongst their community.
Breitlinger opined that “…younger associates with vast networks could make for interesting and effective associates who would not suffer from the “associate problem” since there would be more inbound activity and less outbound.
Breinlinger’s final contribution to fixing or otherwise enhancing the current model? Putting associates on a track towards becoming a Partner or Entrepreneur-in-Residence (EIR), like most other businesses, allowing them to rise through the ranks.
This would be an effective strategy for integrating them into the culture and monitoring their performance. This would allow testing for potential general partners and management.
Their real value
VC associates are not going to be contributing to strategy, major policy decisions or or hiring a senior vice-president (SVP) of sale for a portfolio firm entering their Series B Round. They simply lack both the experience, exposure and connections, as well as the execute buy-in to do so.
But they can help, in the form of assisting hiring plans and HR strategy for portfolio companies they’re supporting. And talent procurement and acquisition make for an excellent long-term investment in a startup venture, given how mid-level project managers, developers, salespeople and marketers may emerge as company founders down the line.
VCs tend to spend large amounts of time with the founders and CEO of a firm, but relatively little time with VPs, directors and other executives further down in management. This is where associates can fill that gap, through cultivating relationships with them and understanding their operational requirements, as well as assisting them in customer referrals and acquisition, helping ensure their success and security of a VC firms investment.
In short, associates in VC firms increase the bandwidth of VC funds for making investments, improve their investment decision making and function as brand ambassadors of their firm in the marketplace. They can also help to build the brand presence of a VC firm within a community, which can generate the connectivity and familiarity with the ecosystem needed to be able to attract and curate good deal flow
Venture firms live and die by the deals that they make and the deal flow that they can generate. If associates can help partners make additional high quality investments per annum, then they’ve accomplished their job.