Lessons learned from raising a first-time VC fundJanuary 22, 2014: 9:58 AM ET
Charlie O'Donnell has raised his first fund focused on New York City startups. It was anything but easy.
By Charlie O'Donnell
FORTUNE -- There are three ways to raise a first-time seed fund when you've never even been a VC firm partner before. You can:
- 1. Have millions of dollars.
- 2. Work for a company that has millions of dollars and wants to be cool, innovate, etc.
- 3. Go running (or in my case, biking) around town chasing down investors and startups all at the same time, simultaneously pitching your strategy and executing it, taking money from one hand and putting in the other as you both fundraise and prove out your strategy by deploying capital… and forget having an income for at least a year.
If I had to do it all over again, I think I would have started with having millions of dollars. But, happily, I can say that doing it the hard way still paid off. I just announced the close of Brooklyn Bridge Ventures Fund I, with a total of $8.3 million dedicated to investing in seed-stage startups here in New York City. The fund has already invested in 12 companies.
Along the way, I learned a lot of new lessons, even though I had been in venture since 2001. I had been an analyst at an institutional LP--working for the General Motors pension fund. I had worked for Union Square Ventures and First Round Capital. I had been a funded entrepreneur and had also worked at a venture-backed company as a product manager.
Raising for a fund, however, is a very different animal--especially at my size. Brooklyn Bridge Ventures was too small for the traditional institutional investors, and would have been a bit large to do entirely with angels.
That's the most disheartening thing about the asset class--and one of the reasons why long term returns aren't where they should be. You're highly incentivized to raise a bigger fund, even if it means drifting from your expertise. It would have been much easier to raise a significantly larger fund, because then you know exactly who to go to and you can get much bigger checks. By staying small, I had to thread the needle of finding some bigger, but not too big, checks from family offices and high net worth individuals--all people who don't put themselves out there and who aren't necessarily staffed to take a lot of inbound.
Staying small, however, was core to the strategy--and if I remembered anything from my GM days, style drift kills a manager. Stray from your focus and you tend to get crushed. What I had been good at while at First Round Capital was finding deals early and planting my flag. Within the first two years of my job, two of the seven investments that I led were sold--GroupMe to Skype for about $70 million and SinglePlatform to Constant Contact (CTCT) for a reported $100 million. While my other investments were doing well, I couldn't tell a story about being a long-term investor who sits on boards eight years until an IPO. I'm not here to tell you how to scale to 300 people. My track record said that I pointed to things when they hardly looked like things. I'm even in the Hatching Twitter book, nudging Fred Wilson by email on this new hot service coming out of SXSW in March of 2007.
Pro Tip: Cultivate your relationships with rich people. There were a lot of partners at private equity firms that I met as a young analyst that I wish I had stayed in touch with--people from places like Blackstone (BX), Apollo (APO), etc. Sounds obvious, right? Well, when you're 24, you're evaluating potential networking contacts based on what you want to do for a living--and less how knowing that person might enable you to do what you want to do later on. I didn't want to go into buyouts, so I didn't really put much stock into these relationships. It wouldn't have been worth staying in touch with these people simply because of their money, but many of them were really interesting, knowledgeable people that I could have learned from in addition to being able to pitch them later.
I'd be providing them something, too. Wealthy people want to trade money for interestingness -- otherwise what's the point of having money? When you're investing in the next big thing, even if you're not putting a lot of dollars to work, you've got fun stories to tell. People can point to apps on their phone and say, "I funded the people who built this." It's a lot better dinner party conversation than tales from owning a mattress company that outsources the manufacturing.
That being said, your prior relationships will only take you so far. The people I already knew only accounted for about 10% of the investments in the fund. That was a bit surprising to me. I thought that my network would have been more likely to back me than total strangers, but a) not everyone is a fund investor and b) most of your personal contacts are writing angel-sized checks and they don't amount to a lot. Half my fund came from three entities and the other half came from 47 individuals. You need big checks, so there's no point in sweating the people you thought would have extended themselves but didn't. Move on and try not to keep score too much.
The biggest lesson learned, and where I wasted a good four or five months, was in spending too much time with the "whales" upfront. I had some large investors who stepped up with their interest early, but I failed to gauge their likelihood and timing for a close--Sales 101. One didn't make it and the other played a big part in my raise, but wasn't ready to do anything formal for quite some time. Five months in, I found myself without much to show for my time and a worry that I wasn't showing any traction. I immediately went into a frenzy, reaching out to every lead I could think of. It was all about filling the top of the funnel. I must have dropped the phrase "looking for family offices" into every conversation I had. I may have even said it to my grandmother. You never know who she might meet at Bingo who has a grandkid in the business.
Three factors led to being able to close more than half of the people that I pitched. First, the timing of my track record couldn't be better. My seven-company First Round portfolio was strong, and I was early to finding Foursquare (which, at the time, was still a good story). Had I started fundraising a year later, the Foursquare story wouldn't have played out as well. Had I left First Round six months earlier, I wouldn't have had my second exit. One exit could be a fluke, but two out of seven felt like something worth looking at to investors.
Second, I really wasn't promising all that much--or, to spin it more positively, I stuck to what I knew. I was investing in a way that was quite similar to what I had done at First Round--leading early stage deals in NYC. I wasn't an angel who was putting $25k into deals that was now suggesting I could lead them with a bigger fund. I wasn't trying to play in the Valley, where I didn't have an advantage. I also wasn't following on--because sitting on boards for seven years wasn't what I had done either. My two exits were lucky in that they were fast, but they also didn't give me the experience of leading an investment to an IPO over a long period of time. Doing Series A's, B's, etc. simply wasn't in my experience. All you really had to believe was that if there were interesting seed opportunities coming out of NYC, that I was on the short list of folks would be in the flow and have opportunity to lead them.
Lastly, and this was a key factor for getting angel investors on board, was the opportunity for co-investing. Investing in a fund, to be honest, is kind of boring. Remember how important interestingness was to the wealthy? Who gets excited about handing their money to someone else--especially in an inspiring and cutting edge asset class like venture capital? If you're going to raise from individuals, you need to find ways of bringing them into the fold. I try to make it more interesting by being overly communicative and sharing my deal flow. In fact, all my investors not only hear from me regularly, but they're on a group LP list where they can talk to each other, and share other opportunities or industry news. My existing investors topped off the fund to the tune of nearly $2 million at the end after they had an opportunity to interact with more of the companies at my annual meeting. Find a way to get your inspiring founders in front of your LPs.
Co-investing turned out to be an attractive offer to people. I was getting early enough into deals that I could share these opportunities with any potential angels that wanted to come in side by side. If you can hand someone a vetted stream of no-fee/no-carry deals for them to look at on their own, you've made a friend for life in the LP world. Luckily, some of my best performing deals, like Tinybop, Canary, and Floored, are ones where I was able to bring some of my largest investors in with me side by side.
In the end, it was a long road, but well worth it--especially given that this is exactly where I want to be. It feels like people get excited about the idea of running a venture fund and being a VC, but don't actually take the time to really evaluate whether it's a life they want.
You have to know yourself. I know I'm not an entrepreneur. I know I don't want to build a big firm and hire lots of people. I know the pay isn't what it would be compared to a larger firm--until the deals pay off and the carry kicks in anyway. I'm not going to make enough money doing this to buy the Mets, but I'm thrilled that I get to work with great founders and I'm lucky to have such great backers. I don't much care about that. I care about people, creativity, and inspiration. I care about New York and I'm psyched about Brooklyn. Go (Inter)Nets!