How the Seed-Stage VC Trend Began, The Downsides of Unicorns & Much More

If you are a 20-something tech entrepreneur you could be forgiven for thinking that seed-stage investors, Angellist Syndicates and widely available angel money always existed. It is, of course, a very recent phenomenon.

Let me take you back just 10 years ago to 2005 in Silicon Valley where I returned after 11 years of living in Europe. I was out to raise my first seed money in my second startup of $500,000. I began asking around who the likely investors were for such a market. At the time almost nobody had heard of the following funds: FirstRound Capital, TrueVentures, Floodgate and SoftTech. I think they were all brand new or just forming.

Firms like Baseline, Felicis, ff Ventures, Founder Collective, Freestyle, HomeBrew, IA Ventures, K9, Lowercase, NextView, Resolute, Rincon, Crosscut and the countless other great firms we all now know didn’t exist. Neither did Y Combinator, 500 Startups, TechStars, Amplify, Mucker and countless others.

There was Ron Conway (SV Angel) — I think there was always Ron Conway! :) one of the godfather’s of our industry. And some angels running around like Reid Hoffman & Keith Rabois. But not many others.

If you want to understand the software trend that drove the creation of the seed-stage VC phenomenon I wrote about it that linked blog post but in short: cloud computing drove down the cost to create startups enabling a new category of investor.

But back in 2005 there were a few people who spotted the trend before others and one of the true pioneers was (and continues to be) Jeff Clavier who founded SoftTech VC. And to show you just how similar many of these pioneers of the industry went through a similar startup journey to you — Jeff started by investing his own personal money ($250k) for a few years — $25k at a time — until he could persuade a few institutional investors to give him some money. By fund II (2007) he was able to raise $15 million (if you watch the video you’ll hear an interesting story of how he did this) and he had a proper fund.

“There was no real framework for a $15 million fund at the time so I had to make one up … it was really sort of an experiment … I invested across Funds I & II in 90 companies”

Jeff then raised $55 million in 2010 and $85 million in 2014.

We discussed many things in this great 54-minute interview which you can also listen to on SoundCloud or more importantly subscribe to the podcast and follow the podcast on Twitter (where we also post short clips & behind the scenes stuff).

Some quick highlights include:

The Role of a Seed Stage VC
Jeff and his peer group have done an excellent job at creating a new category of seed-stage VC. Many view themselves as shepherds who help with building your initial team, helping with product launch and promotion. And importantly they play an important role in helping to introduce you to the right A-round VC based on your startup type. Having a great early investor provides downstream capital with a “signal” that you are a company worthy of being paid attention to even if you haven’t scaled your metrics. And people like Jeff (and his peers) smooth the introduction to and transition process to A-round investors.

Often seed investors will step off the board when A or B round investors get involved and this is important because otherwise entrepreneurs can end up with unwieldy VC-heavy boards.

How VCs Think About Funding
Another thing that may interest you is how we VCs think about our own funding activities and Jeff and I discussed this in the interview. Each VC raises money — say $90 million. And then we break up the fund into “initial investments” that will typically be made in a 2–4 year time period and the “follow-on” investments that put more money into the companies we’ve already backed. The amount of money we save for follow-ons is called “reserves.”

So if you want to invest $90 million you might put $15 million into initial investments for 3 years ($45 million total) and then reserve $45 million to follow on over the course of 4–10 years. So while a VC firm may have only invested $60 million of a $90 million fund — if they are in year 5 of the fund they are probably not making new investments (especially because their investors are expecting them to start returning capital over the next 5 years).

We discussed how initial investments and follow-ons work in this short 2-minute clip

We went through the history of Fab, where Jeff was an early investor, and discussed many of the challenges they faced specifically by having too much money.

This clip is a bit longer clocking in just over 5 minutes but many of the nuances of over-capitalizing are hard to comprehend and I think this discussion does a good job of giving some concrete examples and lessons from Fab

More!
We discussed so much more in the video interview including the shift from Silicon Valley (the Peninsula) to SF, the investment dynamic between NYC & SF and even the merits of wine kegs vs. beer kegs (you can guess who took which sides of that debate!).

Jeff is such a pioneer in our industry, such a pleasure to be around and work with and was so generous with his time and openness. If you get a chance to watch or listen on podcast I know you won’t regret it.