Starting a VC Fund, Episode 10: Running the Fundraising Process for Your First Fund

Hi there. I'm Patrick ivers. I'm the CEO and founder of MindMaven, an executive coaching firm that focuses on helping leaders free up about 10 hours a week and then using that time to invest into relationships to achieve true greatness. And here we have.

I'm Charles Hudson, managing partner at Precursor Ventures. We're an early stage venture capital fund that invests in founders at the earliest stage possible.

Awesome. And so today we're here to talk about how to run a fantastic fundraising process for first time funders. And I want to start you off real quick with. I've heard there's this thing called the LP pyramid. What is that?

This is something I learned about from someone who helped me get much better at fundraising when I was raising our first fund. And the piece of advice I got was to think about your LP fundraise as a pyramid. You've got different blocks of different sizes that you're going to add up together to get to your total. So for example, our first fund was $15 million. There's a lot of different ways to construct a 15 million dollar fund. You could have three people at $5 million each as three core blocks, and that would be your whole fund. You could have one person at $5 million and five people at $2 million each. To get to 15, there's a bunch of different configurations. And the reason I think this pyramid concept is so powerful is it forces you, as the person raising the fund, to think about how am I going to get to my number, what's the composition going to look like? And even more importantly, it makes it easier to message that strategy to your friends who are helping you raise your fund.

And I think another benefit that you once mentioned to me is that you might only have two $5 million slots, right? And it creates some sort of artificial scarcity. Do you think that's helpful?

I do, because I think most LPs have their own business model. They've decided, roughly speaking, what size check they want to write, how big they want to be in your fund. And I think there's a really big difference between approaching somebody who wants to write a $5 million check and saying, I'm looking for one five million dollar check. I want one person at five who could really help me out. And there's only one slot. So once we get someone at five, that slot is gone versus like I'm indifferent about how we get to 15. It could be two fives, two twos and a one. Then that person says, well, okay, then there's room for me at 5. There's lots of different ways for me to participate versus saying I'm only going to take one investor at 5 million. Now look, for all of this to work, your pyramid has to be credible. Your model has to be credible. But I found that for me, building that pyramid was helpful for me having my own internal game plan for how I was going to get to our target fund size.

All right, I love that. But you also said the benefit is that it's easier to communicate with those people that might help you get to those LPs. Tell me more. Why is that specifically.

With the notion of you could show up being relatively indifferent without a pyramid?

Yeah, I think one of the, I think you can imagine I'm at a cocktail party and I meet an LP and I say, hey, my friend is raising a fund. He's trying to raise $15 million. I'm trying to introduce him to LPs. What do you think? That's not super helpful. If I'm at that same cocktail party and say, hey, my friend is raising a fund, he's got some momentum, but he's really focused on finding that first and only anchor LP that'll do a third of the fund. I'm trying to help him find somebody who'll write a five million dollar check into his fifteen million dollar fund who's okay being a third of the fund. Do you know anybody who he should be talking to? That latter is a much more specific ask. And you could swap out the five million dollar anchor and say, hey, he's trying to fill a handful of slots with family offices at $2 million each. Do you know any family offices that like to write 2 million dollar checks into first funds? I think in all fundraising or even in a job search, in anything where you're asking for help, the more specific you can make the ask to your network, I find the better the quality results you get back.

Awesome. All right, so we believe it's in the pyramid right now, but what comes next?

I think, you know, you built out the pyramid, then you have to sort of start thinking about qualifying these LPs. And I think in a lot of ways, like some of the language of fundraising mirrors the language of sales because some, some of the disciplines are the same. I think it's really important to understand for a given lp, what size check do they want to write? Max Min? And do they have any constraints about how large a portion of your fund they want to be? I think it's super important to not argue with LPs about decisions that they've already made. If they've decided, hey, our comfort zone is a 1 to 2 million dollar check and we don't want to be more than 10% of the fund. I don't think it's actually fruitful to argue with them as to why they should write a 10 million dollar check to your fund and make you an exception. In the same way that as a venture capitalist, if a founder were to come to you and say, look, I know you like to write a 250k check, I think you should make an exception for me and write a two million dollar check that probably wouldn't be particularly well received by the VC either. So I take every LP at their word that they've put a lot of thought into their own strategy and whatever they've decided in terms of check size and percentage of fund that they want to represent, thought went into it. And that's their perspective.

Okay, fair enough. What about Worrying about.

These LPs investing into first time fund managers or first time funds?

I think it's really important to ask people and figure out like not every LP is interested in first time funds. And I know when I was fundraising, I fell into the trap of asking the literal question but not actually asking the question that would give me the answer that I needed. So I would ask people sometimes, hey, do you invest in first time funds? They would say, oh, we do it all the time. And you'd probe a little deeper. Yeah, we did a first time fund 25 years ago. You can say, well, that's not really the intent of my question. The intent of my question is, have you done a first time fund recently? So midway through my first time fundraising, I just switched my question and started asking people, do you do first time funds? And if the answer was yes, I would then say, you don't have to tell me who the manager was, but tell me about the last time you got excited about a first time fund and said yes. And what was it about that fund that got you over the hump? Because I know first time funds are hard and every time I asked someone that question, the richness of the answer far outstripped my expectations. They would tell you sometimes they would tell you who the manager was and if you know the person, then you can match what you're hearing from that LP with what you know about that person, their strategy. They would tell me, here's the person, here's what they told us, here's how we got comfortable, here's how long we'd known them before we said yes. And you can glean a lot of information about for that specific lp. One path to success doesn't mean if you replicate it you'll be successful, but it does mean you'll have a blueprint or a roadmap for how you might be able to successfully get that person on board for your fund.

Oh, that's, that's awesome. What else should you ask them?

I definitely think that this last time you backed a first time manager question is a really important one. I also do think you want to get some sense for this, like maximum and minimum amount of your fund that they want to be again. I think most LPs that I've worked with, they've put a lot of thought into this and they've got some perspective or notion of like what they want to do. And related to that is like, it can be an awkward question to ask, but sometimes people's programs are full and I think it's really important to understand for a given lp. And again, this is not something I think you want to argue with them about, but to understand how are they feeling about their VC portfolio? Are they feeling like, hey, we just added a bunch of new relationships and we're not really ready to bring anybody else, or.

We have a bunch of established relationships and we would maybe add one or two new ones, but the bar is super high. I think what you want to try to feel out is like, where is this given LP in terms of their willingness and interest to take on new managers? And I found most LPs will be really honest with you about how they're feeling about the prospect of adding more relationships.

How do you ask about that though? How do you guide the conversation to that?

It can be awkward. I wouldn't just say like, how many VC funds have you backed and do you have room for more? It's not that direct in most cases. What I've always done is just said like, hey, tell me about your VC program. Like what's the mix of managers? Have you been in venture for a long time? Do you have a lot of long standing commitments? Some LPs will just tell you, hey, look, we're LPs in these 10 funds. And it's a little, I find awkward to ask them, but if they volunteer it, it's super useful information. And I often find if someone tells me the 10 funds they're in, it gives me some sense of what they're looking for. If someone says, hey, we're in Sequoia, Excel, Benchmark, Greylock, Andreessen and Excel I would say, okay, you're in like premier blue chip large multi stage funds that have excellent returns. That's very different than someone naming 10 emerging managers who are on Fund 3 that they've been in since Fund 1. That gives me a really different signal. But not everyone will tell you that. Also I'll ask them, like, tell me about your program. Are you all looking to add new managers? When was the last time you added a new relationship? You don't have to tell me who it was. But again, how did you get over the hump about adding a new person to your program? And again, oftentimes they'll tell you, well, we met this person in fund one and we liked them, but we were nervous because it was a first time fun. And we stayed in touch across Fund 2 and Fund 3, and by Fund 4, we were totally comfortable. That tells you a lot about how that person likes to make decisions and the kind of investment you might have to make in the relationship in order to get them on board and the.

Likelihood that they will do it in your first fund. Right. All right, so we learned about the LP permit and how to qualify LPs. Tell us a bit more about.

How do you actually tactically organize yourself? Do you create lists? What tools would you use? And specifically how would you organize those lists and those tools you use?

I think part of the qualification process is to build a target list of people that you'd want to go after for your fund. And I can just tell you two things that we did at Precursor that I think worked for us. One was early on I decided I would organize all of our information about LPs at the individual level, not at the firm level for a couple of reasons. One, LPs do move across firms and institutions, so there's some mobility within the industry. And my general belief is that people might change institutions, but their preferences for what they want to see out of managers feel relatively stable to me. So it's probably more important to know what that person thinks works than that what that firm thinks works. So that's one. Another thing that I felt like was important was I wanted to understand the depth of connectivity I had at these organizations. You can imagine two different lists. One list organized purely by organization that has a hundred organizations at one with one name per organization. That's pretty thin or fragile coverage. That same list could have 400 people on it in 100 organizations and you might have four or five names per organization. That's a much more robust set of relationships that could withstand one or two staff departures or a promotion or whatever might happen within an organization to change the way the decisions get made. And I wanted to make sure I had some sense both of our coverage and our reach. So that was something that was really important to me. Yes.

And it's just really important to basically collect that data because it's easy to lose oversight of what's going on and where did you hear what. Okay, so now you have that list. Now you have your strategy.

How do you decide when to approach whom?

The the next thing we did was I sort of took a little piece of paper and drew two lines. I was like, who are the LPs where I have the strongest relationship, regardless of whether I think they'd invest in our fund and who are the LPs where I think they would invest in our fund based on what I know about their strategy. But maybe I don't know them. And I was very fortunate in that we had a handful of LPs who I didn't think we were aligned with their strategy. But I liked them as people and they were great resources and sounding boards for me because I could go to them with our pitch and our story and I felt like they could give me really helpful, honest feedback because I knew they weren't going to invest and they knew I wasn't pitching them. I was coming to them for help and guidance and that meant a lot. And there were other folks, ironically, who I didn't know well and for whom we were off strategy where I didn't spend a lot of time trying to get to know them. But by getting to meet them or bumping into them at a conference and having them understand our story, they ended up making second order referrals for us that were beneficial. But I think we probably would not have benefited from investing a ton of time in those relationships. And then we had the people that both we knew well and we thought were on point for our strategy. And in retrospect, we probably went to those people too early. And I think the consequence of going to them too early and I think probably driven by the fact that we knew them and we could get the meeting was we hadn't worked out all the kinks on our answers to some of the core questions on the due diligence front. So there were some questions we were hearing for the first time or maybe the second time in those meetings that we just hadn't worked our way through.

And if we'd maybe what was the result of that?

We had meetings that did not translate into investment. Now I could argue that given what I know about those people's strategies, maybe we. There was no amount of practice or prep that would have gotten them over the hump, but I certainly think we could have left those people with a better impression. Ironically, I caught up with one of them recently and said, yeah, you know.

It was a little rough.

It's a little rough when you came by the office. Like, we could see the potential, but it was clear that you were early in your process. And part of me wishes we saved some of those people for the end. And a big part of me wishes I'd invested more time in finding LPs that I didn't know, but for whom? The industry or the market or my ecosystem was telling me, these are the kind of people that will like your model.

So sum it up for us. What would be the order of priority of how you would do it if you were to do it again? Where would you start? What would you do second? What would you do third?

Think if I could do it all over again. I would try to build some concept of a pyramid for myself around how I want to construct the fund by LP type. I would then try to build the broadest list of LPs possible, try to gather as many names as I possibly could, and then I would bucket those names into. These are names I know how to score based on my relationship strength and what I know about their strategy. And these are the ones that are sort of unqualified writing to do more work. And I would have spent probably as much time sequencing the qualified ones as I would have trying to qualify the unqualified ones and get to a place where I've got, you know, across those four buckets of, you know, the two by two of how well I know the LP and how well the strategy is that I had pretty rich, dense coverage in all four of those buckets. And then I would have probably said, let's take that upper right quadrant of people we know well who like our strategy. We're going to intentionally hold off on meeting those people. We're going to put them at the middle to end of the process once we've really gotten the story down. I would have done a lot more work up front with the friendly people who know me, but who are not good targets for our fund. And I would have actually invested more time in filling in that bottom right quadrant of people for whom we'd be a good strategy fit, but where I just don't know them. And I think, if anything, I probably spent too much time with the Quadrant of people where I'd sort of didn't know them very well, had gotten introduced to them and quickly realized that we were totally out of spec for them. We got some benefit from that, but probably not commensurate for the time invested.

All right, fair enough. Then let's talk about. By the way, I thought that was just awesome, the Quadrum things, very, very helpful. But.

How do we approach it? How do we approach them? Like. Like, how do you get actually access to these people? What do you do there?

You know, I think the venture capital industry is, no pun intended, warming up to the idea of the cold email and the idea that, like, people you don't know outside of your network can have good ideas and good companies, and the fact you don't know them shouldn't be an impediment to them reaching out. I don't think most limited partners are cold intro people. I certainly have met some managers who got their hands on Lists of LPs and email addresses and, and sent a bunch of cold email and were able to raise their fund. I think they are still the exception to the rule. I think most LPs are very open to introductions from GPS that they know. And it doesn't have to be a partner in a fund where you're already an investor as an lp. It just has to be someone that you respect and you think is good at whatever. The thing is that they do. Those intros seem to bubble to the top. And so I think in most cases, in today's venture capital environment, I still think that, like, warm intros are a huge help if you can get them. But there's an art to asking for them.

Well, let's get straight into that. How do you do it?

So, as you can imagine, when you're a gp, you've got limited partners that are your friends, they support you. You want to be protective of their time, you want to be protective of their calendar. And, you know, every introduction you make or I think about this, every instruction I make to our limited partners, there's an endorsement attached to that. I'm telling them, hey, I think you should make time in your busy schedule to talk to this person who's starting a font. And I try to make those introductions when I feel like I have something meaningful to say about the person. So you can imagine one of two intros. One is like, hey, I met this person person. I don't know them that well, but they asked for an intro for you. Here's their deck if you want to meet them. Let me know, I'll introduce you. Versus hey, I've met this person, we spent some time together. I've gone over their deck a few times. I've talked to them about their strategy. I really think they're onto something. And I know that you like first time fund managers with differentiated strategies. Here's what I think is differentiated and unique about what they're doing. I really think you should meet them. One of those is going to land really differently than the other. And I think the awkward thing is it's hard to ask for the intro because if you ask for the intro explicitly, you're kind of putting the person on the spot and they may or may not feel comfortable doing the intro, but it's hard to tell somebody no if they've asked you explicitly for an intro. So a lot of what I would do is I would tell people like these are the three or four LPs I'm really trying to get in front of. Multiple people have told me that they like what we're doing. I, I don't have a good in there.

You leave the door open. If the person wants to make the intro, you've left the door open. And if they don't, don't take it personally. I'd also say if someone offers to make an intro, you can follow up once politely and if not, maybe they had a change of heart. Maybe they heard something from the LP that they don't want to share with you. Or maybe they forgot to do it, or maybe they had a change of heart. I find like being pushy when it comes to getting LP intros from other GPs is not a good formula. Most of these people, there are multiple paths for you to get to them. If your first path to get to this person doesn't work, find a new path because eventually when you're successful, you'll be on the other side of that ask and you'll have first time managers asking you for intros and you'll feel the same way. You'll want to be judicious and thoughtful about your LPs and their time and like who you put in front of them.

Basically what I heard you say is be tenacious about it, but never pushy. What a hard balance to strike. But it makes perfect sense because it's a world that you're entering with a lot of very important relationships that people want to protect and you just will only be successful if you respect that. Awesome. So that's it guys. I hope this was a. I know we took a little longer on this one. But it was also very beefy topic. I hope you guys all enjoyed it and I'm very excited about our next one. It'll be about the first meeting that you'll have with LPs. Thanks for listening.