First time fund managers have some unique and significant challenges

When I met with hundreds of LPs to pitch them on our first fund, Unitus Seed Fund, one of the largest obstacles was the fact that we were “first-time fund managers.” We had years of relevant experience with:

• Personal angel investing
• Participating in fund investment committees
• Helping to incubate investing programs
• Starting and scaling companies as entrepreneurs and operators

However, in spite of our impressive professional track record, LPs were hesitant simply because we had never raised and managed a fund. Our success in raising $23 million for what is now the leading impact venture fund in India was the direct result of our ability to understand the concerns of LPs and find innovative ways to address them.

LPs are desperately seeking a track record to justify their investment

LPs (like all investors) are looking for a track record to help them justify an investment even when the investment thesis and strategy are compelling. They’re asking themselves:

• Can these people raise all the capital they need?
• Are they going to be able to build a world-class team?
• How are they going to handle inevitable hard decisions and adversity?
• Are they going to choose investments well?
• Are they committed to staying through to realize return of capital?
• They may be great operators, but are they great investors?
• Can they execute better than others?

There’s no point tried to hide the fact that you’re a first-time fund manager but there are ways to moderate LPs concerns. Our recommendations to “mitigate” this obstacle are:

1. Show that you have significant skin in the game by your management team personally committing 3-5% of your fund (in cash, not in-kind).
2. Focus on finding one anchor investor who will commit at least 10% of your fund and will refer you to others in their network.
3. Start building your portfolio before you even setup your fund to show that you can find and close good investments. This concept is called ‘warehousing’ and can be implemented with a loan from a friendly investor or a GP partner such as Capria.

How are you going to find the right companies to back?

The next big question that LPs are grappling with is whether you have access to enough proprietary deal flow. There are lots of non-proprietary deal flow channels including associations, networks, web listing platforms, and even people who will “sell” you pipeline. How will you be the first, not the third, investor that the best entrepreneurs come to for investment? What reputation and reach do you have such that great entrepreneurs will prefer you to other alternatives? There is a reason that the top venture investment firms (and angel investors) can continue to get first options on the next best entrepreneur … because they’ve built a reputation as the “go to” investor.

You have to figure out how to quickly build proprietary pipeline momentum. The good news is that there are now some proven techniques that aren’t very expensive to build your reputation quickly, such as:

• Building a big digital presence
• Implementing a focused earned media strategy
• Publishing market research
• Building communities to support entrepreneurs

Over the past three years, we’ve successfully mastered these techniques to attract top entrepreneurs in India to the Unitus Seed Fund.

How am I going to get my money back?

It is easy to find people to take your investment money; the challenge is getting it back with a healthy return to reflect the risk that you’ve taken. One of the largest challenges of early-stage investing in underserved markets is that the traditional ways of realizing return on investments are sometimes unavailable. You can create the best thesis on those strategic exits or secondary sales or (even more unbelievably) IPOs, but these types of exits are hard to substantiate in emerging markets.

We had and still have this issue with Unitus Seed Fund in India where we, as a foreign investor, have significant regulatory limitations on how we can structure our investments. To address this issue, we setup a sister India-based domestic fund which gives us more flexibility.

We believe that there is an opportunity in most markets to build more predictable liquidity into local investments using a form of revenue-based financing. In simple terms, you invest $X in a company and then are paid by Y% of revenue up to a multiple of X which is usually 3-5x. Read more about revenue-based financing in David Riley’s post.

Pre-empt your LPs’ top concerns

First-time fund managers should proactively address their investors’ top questions. You will want to preemptively tackle the issues of:

(a) Why bet on you?
(b) What is your proprietary sourcing?
(c) How you are building liquidity into your investment structures

In the Capria Accelerator program, we work with fund manager entrepreneurs to help bolster their strengths in these and multiple other areas.

More resources on the challenges and successes of first-time fund managers:

• Insead: Trends in first time fund management
• The GIIN: Introducing the Impact Investing Benchmark
• Psychic Ventures: Why LPs Invested in Our First Fund