Smaller venture funds are finding a way to manage in the midst of a conservative market.
As with all bear markets, the appetite for risk drops, and although emerging fund managers are often noted to outperform their more established counterparts, some limited partners are weary of bringing on new venture partners. Instead, they retreat to their trusted, established partners.
For some emerging managers, this means the market will become tougher to penetrate. For those with funds that are focused on backing diverse founders who are already working with less capital, the drawback is often the difference between another round or closing shop.
“Risk is also sometimes perceived as anything outside the status quo,” Madeline Darcy, a managing partner at Kaya Ventures, told TechCrunch+. “The pattern-matching we often speak about for founders and young hoodie-wearing Stanford drop-outs has an equivalent in the VC world in the form of spin-outs from large big-named funds who tend to have less diverse teams.”
B. Pagels-Minor, a first-time fund manager who launched DVRGNT Ventures seven months ago, told TechCrunch+ the fundraising environment hasn’t necessarily been a walk in the park. They are seeing an increased emphasis on due diligence, with limited partners asking for more metrics and data than Pagels-Minor expected. Some of these requests have been costly, too.
“For example, certain types of insurances that were not typical before are now being asked for, placing a financial burden on emerging managers who may struggle to afford them,” Pagels-Minor said. Pagels-Minor has also noticed a growing trend of limited partners asking to forgo certain management fees or asking for lower carry in the fund, adding more strain on a fund manager’s ability to build and operate the fund, they said.
But fundraising is always tough, especially for new vehicles with a limited track record and brand power. As an LP, Chloe Dagnell, an associate at Isomer Capital, said Isomer saw many of its general partners conduct the usual initiatives, mostly helping companies extend runways while the fundraising environment remained tough.
Other funds are intentionally slowing down. Maren Bannon, a general partner at January Ventures, said her fund slowed down deployment in 2021 and 2022 when the market was overheated but has since started increasing its pace, even as others continue to pull back. “Despite the macro environment, we are bullish on pre-seed new starts,” she told TechCrunch+. “Just like startups, smaller VC funds will need to navigate the challenges ahead, but that could be a positive. Difficult times weed out the people who aren’t committed to building something for the long run.”
Smaller VCs have to consider where downstream capital will come from. Unlike larger VCs, smaller ones do not often have the capital to carry companies through a down cycle. “I’m seeing a lot of small investors either invest ideas that require less capital or spend more time rallying other investors to pull together enough capital for a potential investment before deciding to invest,” said Elizabeth Yin, a general partner at Hustle Fund.
There are some upsides, though. Pagels-Minor noted that funds typically exhibit stronger performance during times of an economic downturn, mostly in part because of the increased availability of lower valuations. This allows them to affordably invest in companies with high growth potential.
Some aspects of the overall market are also in recovery, as seen with the frenzy around artificial intelligence. “The impact of AI on software is poised to usher in a new era of high-technology transformation,” Pagels-Minor said. “This holds the potential to level the playing field, providing opportunities that can benefit a broader range of individuals and companies.”
However, the downturn may cause many of the “venture tourists” to throw in the towel, Bannon said. “The operator funds, angel funds and rolling funds that were so hot a couple of years ago may not continue,” she said. “I think the people laying a strong foundation and building firms rather than just funds will succeed in the long run.”
This piece was updated to reflect B.’s last name.