Brad and I have been doing early stage investing since the late 80s (me) and early 90s (Brad). For most of our career, a typical early stage venture round was $5mm to $6mm and you'd put two firms together and each would invest $2.5mm to $3mm.
So when we sat down to build the business plan for Union Square Ventures, we started with that model. But recognizing that we were focusing on a sector (web services) which could be a lot more capital efficient, we put another kind of investment in the model, the $1mm investment. We assumed that about 25% of our investments would start with much smaller bite sizes.
We are about half way through building our portfolio and here is the distribution of initial investment sizes (I am including one investment we are about to close in here as well):
Below $500k - 2 $500k to $1mm - 2 $1mm to $2mm - 2 $2mm to $3mm - 2 Above $3mm - 1
So what this says is we are starting our investment positions in our portfolio companies with $1mm and under investments almost half of the time. And the $2.5mm to $3mm starting investment (traditionally the typical Series A round bite size) is only about one third of what we are doing these days.
That is a departure. Maybe a significant departure. But we are comfortable with it because we are seeing that we are able to obtain our target ownership levels of 15% to 20% even with these smaller investments (although sometimes it takes us a couple rounds to get there).
It also allows us to take more risk, whether it be management team risk, service adoption risk, market size risk, business model risk, or some other risk or combination of the above.
When the amount of capital we have at risk is low, we can try some things that we would not be comfortable trying with $2.5mm to $3mm invested. So it allows us to get involved in things that are farther out on the risk curve with potentially more upside if things work out.
The most important factor, however, is the capital efficiency we are seeing in our portfolio companies. They simply don't need as much money as the companies we backed 5 years ago, 10 years ago, or 15 years ago. They may need as much capital when they become big businesses and need to invest to grow. But the clearly do not need as much capital to get from idea to commercial launch and to revenues.
We could go into all the reasons why that is the case, but we have addressed them in the past on this blog and elsewhere and we want to keep these posts relatively short and sweet.
We are generally not putting up all the capital in the rounds we are leading. We often will take between 50% and 60% of the round. We have done closer to 80% of the round in a couple of situations. We like to find another venture capital firm to invest alongside of us in these rounds, but given the deal sizes, that sometimes will not work and we have invested alongside angels in three of our initial investments. We have also partnered with strategic investors three times.
So you can multiply the numbers in the list at the ning of this post by 1.5 to 2x to see the typical round sizes we are leading. That said, we have not participated in an initial round larger than $5mm yet in this fund. That is not to say we wouldn't do it, but we haven't yet and it would take something particularly interesting to get us to do it.
Does this make Union Square Ventures a "seed fund". We don't think so. We have led investments in companies with significant revenues on multiple occasions. And we think we will be able to (over time) get $5mm to $8mm invested in our portfolio companies and we are already there with one of them . We can invest up to $20mm in any single company in the portfolio. So we are not a "seed fund".
We think this approach makes us an early stage fund that believes in raising only enough money to achieve a set of near term milestones which should significantly impact valuation. That's really classic early stage investing. Only we think we may now be able to start with a lot less at risk in the markets we are focusing on. And that's a good thing.