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Week 1 of VC School: Introduction to Venture Capital

“Week 1 of VC School: Introduction to Venture Capital” is part of a ten-week series from the interns at Bowery Capital. The series will cover lessons learned and concepts covered during the weekly “VC School” meeting, a program taught by the Bowery Capital team designed to teach interns the fundamentals of the venture capital space. This summer, we want to open our doors and share these lessons with the broader community.

Intro to Venture Capital

Here at Bowery Capital we have an internship program for undergraduate and graduate students during the spring, summer, and fall semesters that offers an introduction to venture capital. An integral part of the program is VC School: Weekly Lessons On The VC Industry. Each Friday, the intern class meets with a member of the Bowery Capital team to learn some of the nuts and bolts of venture capital through lessons and firsthand stories. Each lesson pertains to one of 6 different buckets within VC: sourcing, due diligence, execution, portfolio management, exit/impairment, and fund administration. To help aspiring VC’s, we will be summarizing our weekly lessons on the Bowery blog.

 

Introduction To Venture Capital

Our first lesson, which was on day one of the internship, was an introduction to venture capital. For anyone interested in the venture or entrepreneurial ecosystem, understanding the basic functions of the industry is essential. At the most basic level, VC’s raise pools of money from institutional investors (limited partners) and provide financial capital to early stage, high potential companies. Aside from providing capital, many VC’s will add value to startups through a hands-on approach, often via board seats. VC’s come in many different sizes, focus on different sectors, stages and geographies — no two VC’s are the same.  Below are some of the key takeaway’s from this week’s lesson.

1. The VC industry is growing and reaching historic highs. The National Venture Capital Association (NVCA) is a great resource for learning more about the current state of the industry. According to the NVCA, $99.4B was invested across 5,536 deals in 2018 (the highest totals since the early 2000’s). 2% of this $99.4B were seed investments, 34% early stage, 37% expansion, and 27% late stage. Furthermore, the number of funds has ballooned with over 1,100 active VC funds and more than 750 managing under $200M.

2. Understand how to evaluate the performance of a fund. Perhaps the most important metric when evaluating the performance of a fund is Distribution-to-Paid in Capital (DPI). DPI measures the amount of capital that has been paid back to investors in relation to the amount of capital deployed through capital calls. Stretching back to 1993, returns in the industry sit at 0.00x to 2.41x invested capital (i.e. $1.00 in and $2.41 out). When plotted, DPI will follow a J-Curve: invested capital will cause DPI to go negative early on, followed by a rapid upswing as profits are returned over time. Looking at DPI statistics illuminates how hard it is to become a successful VC – just check out this tweet from Shai Goldman at Silicon Valley Bank. Other important metrics include Residual Values Paid in Capital (RVPI) and Total Value to Paid in Capital (TVPI).

3. Economics of a firm focus on Management Fees and Carried Interest. Management fees are charged annually to cover the overhead costs of running a fund (salaries, rent, etc). Carried interest is the percentage of the profit of any investment proceeds that are allocated to the general partners. The most common arrangement is a 2/20 model, entailing a 2% management fee and 20% carried interest. It is important to note that when a firm raises a $100M fund only $80M of that money is actually reserved for investments while $20M will be reserved for management fees (2% annual fee for the fund’s 10 year lifespan).

Resources:

1. NVCA Venture Monitor. The NVCA puts out a quarterly report jointly produced by Pitchbook on venture capital activity in the entrepreneurial ecosystem. This is a great resource to learn more about the status of the VC industry. Here you will find information about recent fundraising, investments, exits and other relevant industry analysis.

2. Cambridge Associates Private Investment Benchmarks. Cambridge Associates is an investment firm that provides investment advisory services to institutional investors. Their benchmark reports provide great information around historical fund performance.

3. How Venture Capital Works. This article from the Harvard Business review is a great high level introduction into venture capital.

4. PWC Money Tree. The quarterly PWC Money Tree report contains historical trend data and and updates on the venture capital and entrepreneurial ecosystem.

5. Kauffman Foundation. The Kauffman Foundation is a non profit that supports entrepreneurship and education and has a great library of research on venture capital and entrepreneurship.

Check in next week for our intro into sourcing deals!

If you liked “Week 1 of VC School: Introduction to Venture Capital” and want to read more content from the Bowery Capital Team, check out other relevant posts on the Bowery Capital Blog

Michael Brown
Michael Brown
Michael is a Founder & Managing Partner at Bowery Capital based in New York. Prior to Bowery Capital, Brown was a Co-Founder and General Partner at AOL Ventures. Before AOL Ventures, Brown worked for the investment arm of Richard Branson’s Virgin Group. He began his career at Morgan Stanley as an equity research analyst. Outside of his professional life, Brown serves on the Board of Directors of the National Forest Foundation and the Columbia College Alumni Association. He holds a B.A. from Columbia University.
Ben Guzik
Ben Guzik
Ben Guzik is an MBA candidate at Columbia Business School studying Finance, Entrepreneurship, and Technology. Ben is currently a Summer MBA Associate at Bowery Capital and prior to business school worked in healthcare consulting at Mercer. He holds a B.A. from the University of Pennsylvania.