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how to fund a startup
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how to fund a startup
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In the earliest phases, a lot of the problems are technical, so seed firms should be able to help with technical as well as business problems.
Seed firms and angel investors generally want to invest in the initial phases of a startup, then hand them off to VC firms for the next round. Occasionally startups go from seed funding direct to acquisition, however, and I expect this to become increasingly common.
Google has been aggressively pursuing this route, and Yahoo is too. Both now compete directly with VCs. And this is a smart move. Why wait for further funding rounds to jack up a startup's price? When a startup reaches the point where VCs have enough information to invest in it, the acquirer should have enough information to buy it. More information, in fact; with their technical depth, the acquirers should be better at picking winners than VCs.
VC firms are like seed firms in that they're actual companies, but they invest other people's money, and much larger amounts of it. VC investments average several million dollars. So they tend to come later in the life of a startup, are harder to get, and come with tougher terms.
The word "venture capitalist" is sometimes used loosely for any venture investor, but there is a sharp difference between VCs and other investors: VC firms are organized as funds, much like hedge funds or mutual funds. The fund managers, who are called "general partners," get about 2% of the fund annually as a management fee, plus about 20% of the fund's gains.
There is a very sharp dropoff in performance among VC firms, because in the VC business both success and failure are self-perpetuating. When an investment scores spectacularly, as Google did for Kleiner and Sequoia, it generates a lot of good publicity for the VCs. And many founders prefer to take money from successful VC firms, because of the legitimacy it confers. Hence a vicious (for the losers) cycle: VC firms that have been doing badly will only get the deals the bigger fish have rejected, causing them to continue to do badly.
As a result, of the thousand or so VC funds in the US now, only about 50 are likely to make money, and it is very hard for a new fund to break into this group.
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