It’s Lonely At Seed

When WLV pitches to potential investors, they always ask “Why Seed?”.  It’s a great question and one we love to answer.  Most investors we know prefer to invest at Series B, and some are filtering down to Series A.  Some investors started out investing in seed and have stepped back to become primarily Series A investors.

Remember, we live in the Midwest where the bulk of investors are Private Equity and Real Estate investors.  They are very uncomfortable with things like “burn rates”.

In places like Silicon Valley, there are more Seed stage investors because the competition is a lot greater among funds to get into deals. If you wait, it’s going to be a lot tougher.

There are a few reasons we invest at Seed stage and follow on at Series A.  Our fund passes along Series B and later rights to LPs for free.  We also set up syndicates at any stage.  By the way, our fees are really reasonable. Investors put $1M in you get $1M out before we get a dime.  Makes it easy on all of us.

The rule of thumb is that 80% to 90% of startups fail.  That heuristic is incorrect. It’s more like 50%. Given that, and the following data, you will see why we do what we do.

The first reason that we invest at seed is probability and math.  Investing at seed allows us to write a smaller check.  That means at the riskiest part of the startup process, the fund is assuming less risk for much larger returns.  As former futures traders, we know how to manage risk.  In venture, if you want to make 100 times your money you have to invest at Seed stage.

I thought this data was interesting:



The data shows that if you calculate the probabilities, WLV is giving their LPs the best chance to make money given the risk we will assume. Going further, we are very disciplined about valuation. If we invest at more than $8M pre-money, our expected IRR drops from roughly 40% to 20%.  Investing early also gives us better odds at a 5x or better outcome.

The other thing we talk about is check size.  How much money do we put to work at each stage?  Because we are a small fund, we struggle with this.  Some potential LPs say they want to see us do a bunch of deals to get a handle on what our fund will look like.  Many funds like ours put $100k in a deal and do lots of deals.  It really is a conundrum.

Smaller check sizes might work if you are a generalist but it doesn’t work for us.

Our goal is to put $500k in a deal at the Seed with a pre-money valuation of $8M or less.  Sometimes there isn’t room, and we can drop our number down.  For us to go below $250k is a problem.  A lot of entrepreneurs want us to just toss in some money and see if it works.  It’s simply not worth our time and effort.  Nor is the risk/reward there for our LPs.  We like to follow on with $1M at Series A.  That gives us $1.5M in a potential home run company.  It gives us pro-rata that our LPs can take advantage of.  It also allows WLV’s GPs to continue to invest and press winners using SPVs we can customize for every single deal.

Hopefully, that helps clarify the math around why we invest early, early.  There are no profits when we invest, but there is certainly revenue with an upside of at least $100M in enterprise value.  In the B2B Fin Tech world, actual revenue often comes faster because of the problems they solve and the kinds of businesses they build.

The second reason we invest early is very different.  Both of us actually love working with startups at their beginning stages.  There are tons of problems to solve.  There is a culture to build.  We find that the relationship with the entrepreneur at that stage is a lot more fulfilling than at later stages.  It’s more personally rewarding for us.

We enjoy building stuff.  Kenny was an early employee at Getco.  Building a powerhouse was fun!  I have done the same throughout my entire career.  There is something special about that seminal moment when a company comes together.  It’s intangible, but you feel it in your gut.

Maybe it’s the early sales wins when a frustrated customer looks at you and says that this new thing really made their life easier.  Maybe it’s the energy in the small office when 3-8 employees of a startup realize they are onto something.

It’s just different.  To us, it’s more fun.

The other major reason is that since we focus on B2B Fin Tech, we can use our expertise, knowledge, and networks to create opportunities for companies.  We can find talent for them.  We can have a material impact on the business and our investment.

An ancillary benefit of investing in seed stage is it builds the broader community faster.  WLV thinks that there is a great chance to build an incredible startup community in the greater Midwest around Fin Tech.  If we are writing seed checks, that community builds faster.  If those companies have success, it begins to feed on itself and creates network effects.  In turn, everything gets bigger and things move faster.  That’s great for the LPs in our fund.

To be clear, it’s lonely at the Seed stage.  There aren’t a lot of investors that want to invest there.  It’s tough on entrepreneurs because capital can be hard to accumulate.  It’s also very hard because entrepreneurs have to clearly spell out their vision while at the same time investors need to be able to see it.  If you are going to specialize, you have to have the experience to see it.