Daniel S. Parsley

Insider Perspective: Venture Capital Investing

How Do Start Ups Start Up?

Following the euphoria after a brilliant idea has been born, the reality of how to fund the venture sets in. The typical progression of funding a startup begins with the entrepreneur self-funding, then family & friends, then individual angel investors, then venture capital firms and finally, the company may “exit” by going public or being acquired by a larger, strategic company or by private equity firms. Most are not successful; investors lose more often than they win.

The Most You Can Lose is 1X Your Investment

….but you can earn many times your investment – 5-10-20X or more – on the winners. The key is to invest across 10 or more companies to ensure you are properly diversified. If investing with an experienced VC firm, you should expect to see returns of low to high 20% IRR over time. Most of the deals look really promising; however, be disciplined not to invest too much into a single deal (“shiny object” as we call them) or too few deals overall. Fortunately, in Texas, the many wildcatters and real estate developers know all about the risks of investing in deals; they make good investors. Texas breeds entrepreneurs and many good investment opportunities.

It’s Not What You Know

In today’s more sophisticated wealth management world, it’s difficult to beat the market, hence, many hire experienced, trustworthy managers to invest their wealth. Similarly, with venture capital, it is important to trust the VC with whom you are investing. There are plenty of professional VC firms who see high volumes of deal flow from which to choose to invest. Too often, we hear about “a deal I heard about while golfing” or “a close friend’s deal”. It seems most of these fail, and it’s driven many to never invest in start-ups. You’ll improve your odds of success investing with a firm – large or small – with deep experience, good deal flow, and a structured vetting process. This is particularly true if you are seeking to diversify your exposure away from the industry where you have created your wealth.

How Much Should You Invest?

With the sophistication and efficiency of the public markets, it is more and more difficult to outperform the market. More investors are investing in “alternative” investments to seek better “alpha” or returns.Twenty years ago, it was common to allocate 1-3% of your net worth in alternative investments. Today, we see 5-20% allocated to a variety of alternative investments. Investing across a variety of alternative investment classes (e.g., venture capital, private equity, real estate, crypto currencies, etc) can further help diversify your risk.

What To Look For In a Start Up?

Running a start-up requires talented, motivated, and dynamic people. While the idea itself needs to be novel, IP-protectable, and pursuing a large addressable market, it is the people who make the difference – both those who are running the business and those with whom we are co-investing. Founders/CEOs must have great passion, high integrity, a strong work ethic, effective team building skills, and be great storytellers. Storytelling is a differentiating factor for raising capital, recruiting talent, and winning business.Most venture-backed companies have multiple investors in the deal; it is important to know your fellow investors and that they share the same values and expectations.

Keys to A Successful Investment

After over 25 years in the early-stage venture space, two things correlate with success. One is a CEO who communicates frequently and openly with investors regardless of whether the update is good or bad. From the outset, investors understand the risk of losing their investment. With good communication, they can help the CEO manage challenges and succeed. Two, the board of directors MUST be active and hold the CEO and their team accountable for meeting deadlines and financial transparency. There should be no surprises if a board is functional, professional, and willing to roll up their sleeves to help with the inevitable bumps in the road.

Good luck finding the next Google or Viagra! I’m happy to discuss further! For more information or questions, contact me at dan@gpgventures.com.