For company founders, getting a commitment from a major VC is arguably the most important milestone in the fundraising process. Lead VCs take risks by making commitments. This allows other investors to make joint investments with peace of mind and enables timely closure. Lead VCs are needed, especially in the early stages of a company when uncertainty is highest and the founder’s vision for the venture seems the craziest. I have made early stage venture investments in various geographies (US, Europe, Japan) and I think Japan best represents this phenomenon. In Japan, there is a small number of venture capital funds willing to invest at pre-seed, seed and Series A stages to supply talented entrepreneurs with ambitious projects. Furthermore, even among the limited number of VC funds positive about early-stage investing, the current situation is that almost none volunteer to lead deals. The phrase “come back when you find a lead” is a very common phrase, similar to the cliché “come back when you’re ready to chain.” What is Lead VC? Lead VCs are often vaguely defined in the emerging startup ecosystem. So here’s my explanation of what a Lead VC is. The lead VC in a funding round is the VC fund that is the first to commit to investing in the startup. The lead VC makes his commitment in writing specifying the terms and valuation of the proposed investment. Once an agreement is reached with the founders, the lead VC will structure the funding round and schedule the deal and closing. Furthermore, the lead VC usually does most of the due diligence for investment projects. Lead VCs don’t necessarily write the biggest checks in an investment round, but their commitment structure plays a role in revitalizing the fundraising process. Why are you afraid of becoming the chief VC? For potential investors in startups, it’s tempting to take a wait-and-see approach. Investors love to collect data to support their decision making process. VC managers have a fiduciary responsibility to their fund investors and are obligated to conduct due diligence on investment candidates. Making decisions with incomplete information is inherently unsafe. Companies with a long history have tendencies that make such mistakes unacceptable. Learning to accept uncertainty takes time. Even more so when investing other people’s money. It therefore makes sense for new venture capital firms and CVCs to defer investment decisions in early-stage companies until solid testing is done. However, this creates two different goals. The founders want to close the funding round as quickly as possible and get back to their original mission of building their own business. In the meantime, investors may want to wait for further verification. Phrases such as “I will consider another round in the future” and “Let’s talk again when we find a lead VC” are typical signs of investors awaiting further verification. However, we recognize that venture investing cannot be successful without the conviction that deals are made with imperfect information. That said, there is no inherent problem with VC funds whose strategy is to follow rather than lead. Some funds, such as CVC, which invest in corporate synergies, prefer that independent VC funds set the terms and valuations. Also, there are funds that are more comfortable just following, and LPs understand this as well. Becoming a leading VC requires a lot more effort than just joining as a syndicate follower. Transparency is key The nature of leads or followers is often elusive to VC investors, and is often made even more elusive by deceptive marketing. That’s why I think one of the best questions founders can ask investors in their first meeting is: “Does your fund typically act as a leading VC in new investments or as a follower?” Do you agree or do you want to follow?
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