Different Ways To Invest In Startups: The Opportunity… And The Catch

The public’s interest in learning more about and participating in venture capital seems to grow more and more each week. I have written a few posts here lately sharing my own experience and point of view, but then realized we all may talk about “getting into VC” as if it is a monolithic endeavor — and that would not do us or the reader justice. In this post, I wanted to briefly break-down the different ways folks can invest today (*assuming they have access to capital — more on that below in a footnote) and benefits & drawbacks of each one. Note, everything comes with a catch…

Angel Investing
-The Opportunity: This is where truly 1,000x outcomes happen. You are your own LP and GP. Angels have been critical to startups’ initial funding for decades. New investors can build their portfolio this way.
-The Catch: You need to get the capital to invest first. And you don’t earn a salary on investng your own capital. Most people don’t have their own capital, and hence we have the options below…

Special Purpose Vehicles
-The Opportunity: Instead of pooling risk in a fund, an investor can raise money from others for a specific deal. AngelList software today makes this even more appealing. The creator and manager of the special purpose vehicle (SPV) can earn “deal by deal” carry on each deal versus waiting for the pool to return the principal. New investors can build their portfolio this way.
-The Catch: SPVs traditionally required more management and legal fees to start and maintain; they still exist but can be lowered. That said, the creator of the SPV still has to round up the funds each time, and that can get tedious. You can’t earn a salary by managing SPVs.

VC Scout Funds
-The Opportunity: VC funds have gotten huge and most have formalized “scout programs” made famous by Sequoia. Funds are happy to have CEOs and operators in their networks make small allocations on behalf of the VC fund. In many cases, scouts will get some piece of any upside associated with their findings. New investors can build their portfolio this way. Great scouts could be recruited by the VC firm (see more below).
-The Catch: The carry percentages can be small. There is no salary.

Small VC Fund running on AngelList
-The Opportunity: Now with AngelList, a small fund (sub $10M) can run economically where the GP can make a salary via management fees and have software take over much of the accounting, tax, etc. GPs get to set their carry.
-The Catch: With scale, have to become more dedicated with some infrastructure. Need to actually raise the capital from LPs.

Raising a traditional VC Fund
–The Opportunity: This is the dream! Management fees, building out your vision, the team, the strategy. Get into the carry.
-The Catch: Need to raise capital from LPs. Likely, big LPs.

Existing Fund (established)
-The Opportunity: The infrastructure is set. You show up and invest. You get a salary. You can work your way into some carry and work your way up the food chain. Performance is rewarded and there’s lots of movement within the industry as it grows and changes. You have the opportunity to invest at scale and get behind a big winner in a big way. Scale empowers the firm to take more chances with new talent.
-The Catch: Fund politics, small or no carry to start, takes a long time to move up the ranks, can be culturally unappealing to newer generations.

Existing Fund (newer, unproven)
-The Opportunity: Can feel more appealing to newer generations. Brands can feel more relevant. Newer firms often scrappier, willing to take on more risk with investments and staff. Smaller funds can get into the carry zone quicker.
-The Catch: Newer funds are often smaller, so that means smaller management fees, which mean less dough for salaries. By being smaller, I know first-hand these firms often don’t want to scale or can’t scale, and therefore there are fewer job opportunities at these funds.

I hope this post helps people weigh the opportunities and costs of each path. While I only know the path I’ve been on, I’ve seen many others on different paths and actively gotten involved in some of those cases to make it happen. I do meet lots of people who want to invest — but then don’t want to work at a big firm, or need a salary on Day 1 — the realities are the realities here, and doing this kind of work often comes with some sacrifice. Yes, you can join a big firm and salaried quickly, but for the rest of the options here, one needs to fight for capital, fight for flow, fight to get into the right companies, and so forth. Salaries don’t just appear because one wants to invest. I do meet people who are hungry and fight for it — I also meet folks who want to access the opportunities and bypass “The Catch.” Unfortunately, “The Catch” is called as such for a reason. Good luck!