Raising Capital for a New Private Equity Fund: Strategies and Structures

Establishing a private equity fund that specializes in early-stage companies without a track record requires a strategic approach to secure capital. This article outlines the key factors in making investment decisions, discusses different investment structures suitable for angel investments, and provides actionable next steps for entrepreneurs seeking to raise funds.

Investment Principles - Factors Influencing Our Investment Decisions

When evaluating potential investments, several critical factors come into play. The competency and past successes of the founders stand out as a primary consideration. VCs are less likely to invest in a new player without a proven track record, and they may demand a higher valuation or even expect more significant contributions from earlier investors. As an angel investor, focusing on the right people can make a substantial difference.

Understanding the monetization model is equally crucial. For all companies, except those in established ecosystems, identifying a clear monetization strategy becomes paramount. Entrepreneurs must also consider the market size and whether the product will retain its value without dependency on external factors. Patents, acquisition potential, and IPO potential are additional aspects that should be thoroughly examined.

The investment process involves running each company through a standard checklist, known as a Playbook. This ensures that all potential investors have a clear understanding of their role, whether as a board member, advisor, or passive investor. Alignment of entrepreneurial and investor goals, coupled with well-crafted term sheets, is essential to protect both parties' interests.

Investment Structures for Angel Funds

Successfully raising capital for your private equity fund requires the right investment structures. While a well-composed checklist and Playbook are paramount, the method of investment can significantly impact the success of your fund. Diverse and flexible structures can bring a range of advantages, but they should be chosen based on the entrepreneurs' and investors' preferences and the current market conditions.

Basic Loans: Simple and straightforward, this is a typical choice for unsophisticated angel investors, especially when dealing with friends and family. However, it offers little control and lacks the potential for complex financial structures that might be essential for more ambitious ventures.

Common Stock: This option is straightforward and easy to negotiate. It is one of the most widely used forms of investment, but it dilutes the investor's control over the business.

Convertible Preferred Stock: This is an excellent structure for angel investors due to its numerous advantages, including liquidation preference, improved balance sheet of the recipient company, tax benefits, and greater control. However, because entrepreneurs often shy away from convertible preferred stock, this structure might not be ideal for every situation.

Convertible Debt: Predominantly used by sophisticated entrepreneurs, this structure leverages the idea of a delayed valuation. It allows investors to accept a lower initial valuation, ensuring that the company's value is re-evaluated at a later stage. This approach is particularly favored in the Silicon Valley ecosystem.

Staged Investments: Based on milestones, staged investments are highly engaging but can be complicated to manage. They reduce moral hazard but can also create new ones, depending on how the stages are structured.

The choice of investment structure should directly align with the characteristics of the specific company and the preferences of both the investor and the entrepreneur.

Tactical Next Steps

Although the investment structures are crucial, taking tangible next steps to showcase your fund's potential can further enhance your credibility. Among these steps are:

Show Progress: Communicate with clear, visible progress in tangible steps. Legal Agreements: Establish comprehensive legal agreements, creating contracts between investors and operators and forming the groundwork for future investments. Consider working with law firms that offer selective legal services for a venture stake. Ancillary Deal Structures: Opt for co-investor deals to gain confidence and demonstrate willingness to work with angels, all the while ensuring that everyone involved receives the same legal terms. Publicity and Networking: Engage in public relations and networking efforts, speaking at events, meetings with VC panels, and even speaking to fellow angels to build the necessary credibility and confidence.

Creating a plan that includes these elements will help you build a robust foundation for your private equity fund and increase its chances of success.