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Startup Financing: Why a Venture Capital Fund of Funds?

Guest Post from Charlie Jadallah – Partner, Darwin Ventures

Why a Venture Capital Fund of Funds?

A fund of venture capital funds is a fund, similar to a mutual fund of a public equity index fund that invests in a portfolio of different venture capital funds. This method is sometimes known as “multi-management”. A venture capital fund of funds allows investors to achieve diversification and a suitable strategy with investments in a variety of fund sectors that are all wrapped up into one fund.

Diversification

Diversification strives to smooth out negative events in a portfolio so that the positive performance of investments will neutralize the poor performance of other investments. The option to hand pick fund categories allow investors to allocate their money to a blend of funds with a variety of sector and stage characteristics. Sectors such as computing & analytics, aerospace, consumer internet, energy, health, transportation, and others. Investing stages; seed, early, mid-, and late can also be considered. Each sector and stage carries its own unique qualities.

Multi-Manager Investment Strategy

Simply stated, a fund of funds is a multi-manager investment strategy of holding a portfolio of venture capital funds with sector and stage diversification rather than investing directly in a single venture capital fund. Through these strategies, a venture capital fund of funds can offer a lower risk profile than investing in a single venture capital fund. This allows for returns in line with top-tier venture capital funds.

Over time venture capital has out-performed other investment classes. And the very best venture capital funds have consistently out-performed the industry as a whole. Despite everyone’s ambition to invest in these top-tier funds access is often a challenge. Investors must spend a significant amount of time developing and maintaining relationships with venture capital firms.

Some of the most successful public companies such as: Apple (AAPL), Amazon (AMZN), Google (GOOG), HomeDepot (HD), Intel (INTC), Linkedin (LNKD), Microsoft (MSFT), Salesforce (CRM), Starbucks (SBUX), Alibaba (BABA), Twitter (TWTR), JD.com (JD), and Facebook (FB) were all financed by Silicon Valley venture capital funds. The limited partner investors in these funds realized significant healthy returns Current limited partner investors continue to realize tremendous value appreciation in private Silicon Valley backed companies such as: Uber, Airbnb, and SpaceX.

Venture capital investments are, by definition, a long term, illiquid asset class investment. Its historical returns have out-performed other investment types. An investor, usually through a Limited Partnership arrangement, typically commits to an investment period of 10 or more years. Liquidity is not guaranteed and sales of an investment, through a secondary market, is limited and generally require prior approval by the fund’s General Partner (GP), thus venture capital investments are generally considered illiquid during the fund’s term. These characteristics make venture capital fund investments better suited for investors with much longer investment time horizons such as endowments, foundations, pension funds, and family offices.

For more information visit Darwin Ventures at www.darwinvc.com.

Categories: Venture Capital

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