First of all — congratulations. Getting a round together always takes work and a big VC fund is certainly a big validation. That said, it takes both awareness and execution to maximize the pros of having such a fund as an investor and minimize the cons. This post is focused on four practical considerations.
1) Signaling Effect — If a VC fund is coming much earlier than they usually invest they are essentially buying an option value to lead future rounds. The challenge is if they don’t do it the consequences for them are minimal, they just put a little bit of their money to work and may suffer a bit on reputation. The consequences for you an entrepreneur are huge because other VCs will be rightfully concerned why the existing large investor is not leading, making it considerably harder to raise the round. Some VCs have tried to circuit this issue in a number of ways: investing out of a segregated early-stage fund, investing with a different name, being a passive LP in another fund, employing scouts with the understanding they writing a check for an amount without much oversight or diligence from the fund itself. These hacks can even eliminate the signaling effect but caveat emptor for sure. Actionable advice: if you are signing up with a big VC have an open conversation first on how they will make the decision to lead the next round.
2) Active Involvement — Arguably the main reason most startups raise early rounds from small VCs and late rounds from large VCs is opportunity cost. From the VC perspective, if they are serving on more than 5 boards and handling overall more than 10 deals, there is a good chance they are not able to devote as much time and attention to each startup. The driving force for larger fund is indeed to write larger checks rather than many small checks. From the entrepreneur perspective, that means you don’t get to truly leverage the brand, network, advice and governance of the VC. Actionable advice: one way to ameliorate is to require the investor to serve on the board even if it’s at the pre seed or seed stage. That creates a forcing function for the VC’s involvement and a fiduciary responsibility that person will have within their firm.
3) Undue Pressure — the flip side of #2 is when the large VC is very active you could get undue pressure. A large VC has a larger incentive to push a company to grow fast, raise more, and perhaps even replace the CEO. Nothing inherently wrong with any of these but if you are not prepared it can actually backfire on the startup. Actionable advice: make sure your cofounders, management and employees are ready to execute with higher expectations in the case of a larger VC who is more interventionist.
4) Negotiating Against Themselves — Even if the big VC is fully on board in leading the next round it can create problems for you especially in terms of valuation. After all, the VC will have a conflicting mandate to have a strong upround but also enough ownership. As an entrepreneur your best leverage is having options, unless it’s a very specific situation where your existing investor is pre-empting the round and offering really good terms. If need be you can build a round as a co-lead, or have the existing investor play super prorata rather than just prorata to signal increased excitement, or ensure the round size still gives them enough ownership. Actionable advice: ideally don’t have your existing large investor be the sole lead in the next round, having a new lead / co-lead will be a stronger signal, optimize how you maneuver the round’s terms, and give access to a different VC’s resources.
Originally published on “Data Driven Investor,” am happy to syndicate on other platforms. I am the Managing Partner and Cofounder of Tau Ventures with 20 years in Silicon Valley across corporates, own startup, and VC funds. These are purposely short articles focused on practical insights (I call it gl;dr — good length; did read). Many of my writings are at https://www.linkedin.com/in/amgarg/detail/recent-activity/posts and I would be stoked if they get people interested enough in a topic to explore in further depth. If this article had useful insights for you comment away and/or give a like on the article and on the Tau Ventures’ LinkedIn page, with due thanks for supporting our work. All opinions expressed here are my own.