Why You Should Invest in Emerging Fund Managers
Early-stage venture capital is looking a bit murky these days.
With funding giants like Tiger Global and SoftBank taking up so much of the investment space in Series A+ rounds, established multi-stage firms like Andreessen Horowitz (a16z) and Greylock turn to Seed investing as their next big move. A16z announced in August a $400M Seed fund to back ambitious entrepreneurs in tech and software while Greylock announced in September a $500M Seed fund to accelerate the transition to a technology economy and fund founders at day one.
Founders are fraught with confusion over the round they are raising while venture capitalists (VCs) who thought they were Seed stage funders watch large firms overtaking the Seed market.
Of course, it’s all fun and games until these large firms continue to back founders in their circles, who already have connections to them. Founders who don’t have access to these networks are not even considered for investment opportunities and the ones who get warm intros to the large firms have the greater chance of capital success. The cycle must end!
You see, the thing about most emerging fund managers (EFMs), like myself, is that we aren’t trying to “break into VC”, we’re trying to break it.
Del Johnson says “VCs have run the innovation system with a mix of oppressive elitism, racism, & sexism for over 1/2 a century. With very few willing to stick their necks out to address the harm done to minority communities + society in general” which is exactly why Overlooked Ventures exists. My partner Brandon Brooks and I want to make an impact on the people receiving the funding and we know we have to start somewhere to break the cycle.
And that’s not even the best reason to invest in emerging fund managers.
Why Invest in Emerging Fund Managers?
Institutional investors and limited partners (LPs) should consider backing emerging fund managers because it leads to stronger funds and higher returns.
Venture Capital isn’t an easy industry to just fall into unless you come from a wealthy background or have connections to large firms. There are a lot of barriers to entry and some people spend years learning the trade as associate analysts. Those of us with no degree in finance may start investing as an angel after the sale of a company or startup. That’s how I got my start.
When an individual makes her way into venture capital and starts a fund, the industry calls her an emerging fund manager. EFMs have a history of being underestimated, but a lot of research has surfaced recently to debunk the theory that new venture capitalists perform worse than their experienced colleagues. In fact, emerging fund managers just don’t match fund managers on their second or third funds, they often outperform them.
EFMs bring a fresh perspective to venture, and it’s working in their favor. Shayna Harris, co-founder and general partner of Supply Change Capital, explored why we LPs should invest in emerging fund managers on Twitter.
Shayna references two key studies about EFMs, both of which provide data to support the claim that new venture capitalists bring in higher returns.
Cambridge Associates published their research on Global Venture Capital Periodic Rates of Return and they found that “new and developing fund managers consistently rank as some of the best performers.”
Cambridge Associates isn’t the only one to come to this conclusion. Prequin, a data, analytics, and insights company for alternative assets professionals, wrote a featured article about the performance of emerging manager funds. Their analysis found that investors who back an EFMs’ first fund “are rewarded with better returns than if they had allocated capital to a newly launched fund managed by an established firm.”
While experienced general partners (four funds or more) account for 78% of capital raised, their performance is lower than those of emerging fund managers. While 17.7% of first-time funds had over a 25% IRR, vehicles on Fund IV brought 11.3% (Pitchbook)
All of these studies and research point to high performance by emerging fund managers, but what is it that gives EFMs a competitive advantage?
While emerging fund managers don’t have a long track record, many have something great in their back pocket: community support.
Not only does the encouragement and support help, but the connections and networking community provides are invaluable for first-time fund managers. In addition to community support, emerging fund managers are scrappy and use unique strategies to build their investment pipeline. They’re active on social media (especially Twitter) and prioritize authenticity.
Just as importantly, EFMs have their boots on the ground. Being a first-time fund manager is a lot like being a first-time founder. They’re the ones making the founder calls, building relationships to identify portfolio companies, and then working FOR the companies. Not analysts, scouts, or interns. It’s the fund managers. EFMs also have a close eye on the industry in a unique way that most others don’t. This Wharton study shows that investors with deep connections to communities that are often underserved have an edge.
Even seasoned, successful VCs like Frank Rotman, of QED Investors, who recently announced a $1BN Fund IIV, knows that the next generation of investors will generate outsized returns.
Another point to consider — Many new emerging fund managers became venture capitalists to make a difference in an industry that’s ripe for change such as Mac Conwell of Rarebreed Ventures, Elizabeth Yin and Eric Bahn of Hustle Fund, Arlan Hamilton of Backstage Capital, and Henri Pierre-Jacques and Jarrid Tingle of Harlem Capital.
The fund managers mentioned above and my firm, Overlooked Ventures, are dedicated to backing untapped and overlooked talent, and much of that talent is outperforming their peers. But not only are we seeking untapped teams in cities but we ourselves are also overlooked VCs and reports show that diverse partners and team members on the fund yields greater success.
Overlooked Ventures focuses on early-stage tech companies with one or more founder who is historically ignored. We know that investing in underrepresented communities is a smart and lucrative business, and brings more opportunities for higher revenue returns.
It’s clear that emerging fund managers are seeking unique opportunities to build their pipeline and in turn, successful portfolios. Founders looking for the right investor to lead their rounds should consider talking to Emerging Funds over the giants for more personalized and human interaction. And LPs looking for investors to back should consider Emerging Funds as a way to capitalize on the high returns and positive outcomes.
We’re just getting started
*We have filed as a 506(c), which allows us to market and raise publicly.