Vertically Challenged

“Vertically Challenged” – a cartoon that illustrates the challenges emerging VC fund managers are experiencing.

Emerging fund managers are those who have just started out (usually fund #1 or #2) and are in their first five years of managing money.

Historically, these managers have outperformed more established VC funds.

For example, Cambridge Associates‘ 2019 ranking of top 10 venture capital performers found that based on Net TVPI (Total Value to Paid In), new and developing funds consistently ranked among the top 10 performers across these years.

Part of the reason for this is that early fund managers are more hungry, have higher levels of hustle and are often benefiting from the sugar high of their own personal connections to get access to the top deals.

However, since the emerging fund manager category ballooned to around 2,000 new funds, the returns have been anemic.

Carta found that median net IRR (Internal Rate of Return) for each vintage year of funds from 2017—2023 was either negative or topped out at 11%, with all those starting since 2021 still negative.

While it is expected that funds will take time to make returns, these figures are on the low end and will make raising the next fund much harder.

As a first time fund manager, Limited Partners (e.g. pension funds) expect high returns for their risk of investing in a new manager – typically top decile Fund 1 managers exceed 30–40% returns.

Part of this decline can be explained by a general industry pullback that was called by Sequoia’s “Adapting to Endure” memo in mid-2022, but there is just much more competition for the top deals.

Many larger funds have set-up their own early stage funds (e.g. Accel created ‘Accel Starters’) to capture entrepreneurs at the exclusion of emerging fund managers.

“Emerging VCs – especially micro-cap / sub-$50M fund Is – are the day-1 startups of the asset management world, so everyone should reading this post and rooting for them to win.
Median returns are bad, but the top-decile performers are pretty impressive.”