The two reasons early stage investors should be active investors

I’m on a panel at an investor conference tomorrow discussing the merits of active investing, which will be a debate about how much investors should do above and beyond the provision of cash. I’m writing this post to get my thoughts straight.

As you probably know, Forward Partners bundles help from our startup team, our proven methodologies and office space with our cash investment so I will be talking my own book tomorrow and hence here. Forgive me for that, but I do think we are in the vanguard of a trend towards ever more active investing.

This is, in fact, a trend that has been underway for some time. Twenty years ago 3i dominated venture capital in the UK with a very low touch model. I’m told their sell at that time was ‘here’s some money and we won’t bother you as long as you hit your numbers’. Then, when I joined the industry in 2000, people started talking about ‘The Silicon Valley model’ of venture capital where partners took board seats and actively hustled for their portfolio companies. Over the last fifteen years that has become accepted best practice.

Now we are part way into the next change, which is to an even more active form of investing where investors employ teams of people to help their investments, as we do.

The first reason for this change is that the investment world is increasingly competitive. It used to be that access to money was restricted to a few privileged individuals and simply getting money was an achievement, even for the best companies. That’s still true in less developed parts of the world, but in San Francisco and increasingly in London there are multiple sources of venture capital working very hard to find good investments and entrepreneurs sitting on quality opportunities have lots of options. Transparency provided by the internet makes this true at all stages, but it’s especially true at the earliest stages where capital requirements have declined precipitously. If you need less money there are more people you can get it from.

The second reason is that entrepreneurs looking to rapidly build traction without raising much money need more help. In the 1990s when companies needed £2-5m to get a product to market they had money to hire a team of people to help them. These days most startups need only a fraction of that to launch – our idea stage partners get to significant traction within a year on a £250k investment – which means there isn’t much money to hire a team and the founders have to cover a lot more of the bases themselves. Big picture this increased capital efficiency is great for entrepreneurs because they suffer less dilution, but it does mean they have to do things they aren’t skilled at.

The opportunity for investors is to help fill the gaps. For example, if an entrepreneur is skilled at marketing but not design then if the investor has a good designer who can help the entrepreneur doesn’t have to spend hours reading blogs and having coffee with friends to figure out what good looks like and hire a freelancer. Moreover, if that designer is very good the result for the company will probably be be better. The company will eventually need to bring design skills in-house and if the investor’s designer is smart she will combine a focus on the job in hand with helping the company build a strong capability in design. That’s partly about educating the founder, partly about helping her employ a great designer when the time is right, and partly about supporting the new hire when he starts.

The gaps that we most often fill are product, development, design, marketing, recruitment and fundraising.

In summary, early stage investors are becoming more active to differentiate themselves from the competition and win the best deals, and because their investments need more help. Most of the best funds are embracing this trend and hiring dedicated teams so they can add more value. This post is long enough already, so I won’t list examples here beyond saying that Andreessen Horowitz and Google Ventures have taken this strategy further than other funds in the US and I think we have taken it the furthest here in the UK.

  • Fabio De Bernardi

    Do you think that less initial investment = less dilution, or that times have changed and that sums needed / requested have decreased but not necessarily the slice of the pie the founding team needs to part with? I would assume that the attractiveness of the opportunity is what drives dilution, rather than the actual amount of money. Does it make sense based on your experience?