Tuesday, August 05, 2008

Micro VCs: Tiny Rainbows, or Snake Oil?

The emergence of micro VCs is an interesting phenomemon here in Canada. Generally speaking, a "micro VC" is one who has received formal or informal commitments of modest sums from a handful of limited partners. The total amount of capital these funds have to spend generally ranges between $10 - 30 million, often only if and as the fund's limited partners approve.

No VC is going to make a living managing that little amount of money, so what's the rationale behind these enterprises? It can be a clever way to create a track record for investing where one might not exist, which in turn could convince LPs to invest in larger funds later on. To that end, micro VCs will sometimes essentially buy future deal flow by demanding a "right of first refusal" to fund 100% future rounds of their current portfolio. In the current environment, start-ups who cannot access angel money may be happy to agree to the term. (As a lawyer for start-ups, I'm not a big fan of these terms, unless they're appropriately adjusted.)

In many ways, you have to admire this incremental approach to being a VC. It takes a certain amount of faith in the venture capital cycle to place small bets without drawing a paycheck. I'm growing less cynical about the whole scheme; yesterday's announcement from Vancouver's Pangea Ventures (an investor in early-stage clean tech and advanced materials)that it has managed to increase its stake to $32 million is a sign that the model can progress, albeit slowly. And a micro fund can be a reasonable way to deal with the challenges a first-time fund faces in trying to attract limited partners. For a read on what that takes, visit yesterday's Private Equity Hub post by Andrew Scurria here. It'll make you despair of seeing another large venture capital fund in Canada anytime soon.

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