Venture capital firms raise money from investors called limited partners to invest in companies in exchange for equity. They help guide and advise these companies with the goal of the companies being acquired or going public for a financial return. Venture capital firms make money through annual management fees and a carried interest, or percentage of profits, when investments are successful. They use various funds that may focus on different investment stages or sectors as they work to generate returns for their limited partner investors.

1. How Venture Capital Firms Work,
and Why You Should Care

2. What is a Venture Capital Firm, and how do
they fit into the financing ecosystem?
• Debt = loan you pay back
• Credit cards
• Commercial lender (bank)
• Convertible debt
• Venture debt
• Equity = sell part of company
• Angel investor
• Seed fund or Super Angel
• Corporate VC (Ex: Google
Ventures, Salesforce Ventures)
• Strategic investor (Companies that
invest without a fund/structure)
• VC, PE

3. Why you should care how your VC works
• VCs are part of the lifeblood of any startup or growth stage company
• They are among a small number of key stakeholders at the Board and Shareholder level who help
the company and help determine what happens to the company
 Hiring, firing, compensating the CEO and other senior executives
 Taking on debt, issuing more equity
 Acquiring other companies
 Selling the company or going public
• Good stakeholder management requires personal relationships and deep empathy
 We practice that with managing people internally
 We practice that with customers and partners
 VCs are people, too!
• Deep empathy means understanding what makes someone tick

4. Sample Capitalization table

5. Our VCs

6. Very simply
• Venture Capital firms…
Raise money from investors
Invest that money into companies in exchange for equity in those companies
Help guide and advise those companies
Receive money back when those companies sell or go public (or don’t if they
don’t)
Return (most of) that money to their investors

7. Compare that to us – there’s a LOT in common
1. Capital
comes from
VCs
2. Company
builds
business
3.
Customers
generate
revenue
4. Company
provides
returns to
VCs
1. Capital
comes
from LPs
2. VC
invests in
businesses
3.
Businesses
create
value
4. VC
delivers
value to
LPs
Key Takeaway:
We (the Company) are
the VCs’ Customers!

8. Structure of a Venture Capital Fund
This is the firm that
employs the partners
and staff
These are legal
entities and
structures but not
people
These are the VCs’
investors

9. Structure of a Venture Capital Firm
Managing
Partner
Partner Partner Partner
Finance and
Operations
Associates
Support Staff

10. Who are LPs?
• Organizations with a lot of money to invest across a bunch of classes of assets
 Government and corporate pension funds
 Sovereign Wealth funds (governments)
 Educational endowments
 Large corporations
 Banks
 Insurance companies
 High-net worth individuals funds of funds
 Charitable organizations
• Asset classes vary and have different risk profiles and different return horizons and levels of liquidity
 Real estate
 Private equity
 Public equity
 Commodities
 Debt (Bonds)

11. What a VC fundraising process is like
• A lot like a private company fundraising process
You have to kiss a lot of frogs…
You have to find a lead who sets the terms and usually anchors an advisory board
You keep soft-circling amounts until you get to your total desired fund size
You can have multiple closings
You need a good track record and a good lawyer
• Just like companies raise multiple rounds of financing, VCs raise multiple funds
Each fund can have different LPs, though they’re usually pretty consistent
Each fund can have different investment criteria and are increasingly doing so
The difference is that terms are usually the same (e.g., there’s no concept of “valuation”)
Track record matters are you get into more and more funds

12. How VCs invest money
• Investment Thesis (this is the firm’s Target Market)
 This is what LPs are investing in the GPs as the “Management Team” to go pursue
 Usually specific size, stage, sectors – and size of investment
 E.g., Foundry Group themes
• Adhesive: AdTech related companies that provide the glue for the overall AdTech ecosystem. Sample companies include AdMeld, Beeswax, CrowdTap, Integrate,
and sovrn.
• Distribution: Giant existing online markets can be completely disrupted by new distribution methods like Facebook, Twitter, Mobile, and User-Generated
Content. Sample companies include Betabrand, StockTwits, Sympoz, and Zynga.
• Glue: Computers love to talk to one another. The amount of “computer to computer interaction” is increasing at a dramatic rate. There’s a software layer that
“glues” this together. Sample companies include AppDirect, Cloudability, Gnip, Mapbox, mLab, Next Big Sound, Pantheon, and VictorOps.
• Human Computer Interaction: The way humans interact with computers 20 years from now will make the way we interact with them today look silly. Sample
companies include 3D Robotics, Fitbit, Harmonix, littleBits, Makerbot, Modular Robotics, Oblong, Occipital, and Orbotix.
• Marketplace: There are huge pools of remnant resources and new marketplaces are bringing those resources to the surface. Sample companies include Modria,
PivotDesk, Rover.com, and TeamSnap.
• Protocol: Many protocols – both formal and informal ones – support extensive software ecosystems. We’ve been investing in protocols like SMTP, RSS, XML, and
SMS for years and expect to continue doing this. Sample companies include Authentic8, FullContact, JumpCloud, Moz, Return Path, SendGrid, Spanning, Urban
Airship, and Yesware.
 E.g., USV microtheme
• USV in 140 characters: invest in large networks of engaged users, differentiated by user experience, and defensible though network effects
• Different funds, different purposes
 Main Fund, overlapping funds
 Opportunity or Growth Fund
 Fund of Funds

13. How VCs spend their time
• Principal activities
 Prospecting (Sales Dev/Sales)
 Deals (Engineering)
 Managing the portfolio companies (Service)
• Firm day-to-day (Operating System)
 Monday partner meetings
 Coverage models
 Associates
• Working with portfolio companies (Service Model)
 As a director/shareholder
 Additional support from the firm
• Indirect (referrals/support)
• Direct (consulting/operating partner)

14. How VCs make money
1. Management Fees – 2% of capital under management – this usually
pays the bills (office space, salaries, staff)
2. Reimbursement of Expenses – this is not supposed to be a profit
center, though some PE firms charge their companies expenses)
3. Carried Interest or Carry – this is where all the money is made
2 and 20

15. How Carry Works
• VC raises and invests $100
• Fund returns $300
• Over 10 years, fees consume $20 ($2x10)
• Gain is $180
• 20% = $36 to distribute to members of the firm
• 80% for LPs = $144, plus their original $100 back

16. Sample Portfolio Economics
1/3…1/3…1/3…Boom

17. Side Topic
• Politics and the “carried interest loophole”
• Is the 20% carry
investment income, therefore subject to preferential capital gains tax
treatment, or
earned income, subject to income tax treatment?

18. Other considerations
• Reserves
 Typically a fund will invest $X in each company up front
 Most top VCs will choose to take their “pro-rata share” of follow-on rounds
• Commitment Period
 VCs can only use funds for a new investment for a limited time (~5 years)
 This is why firms start new funds every 3-5 years- to stay active
• Investment Term
 Funds also have an expiration (~10 years)
 Extensions are possible
• Cross-fund investing: where a firm invests in the same company at different times from different funds
• Departing partners – getting voted off the island