Following up on our recent overview of investor types, today we examine early stage VC funds. Early stage VC funds operate in the pre-seed and seed space, representing a distinct category of investors that founders should understand when raising capital. In markets like the UK, these funds benefit from tax breaks and incentives that make them attractive vehicles for individual investors who may not have direct deal flow to deploy capital into businesses themselves.
How Different Funds Operate
Not all early stage VC funds operate with the same incentives or approaches. Some funds, because of how their incentives are structured, have a greater motivation to allocate all their capital rather than allocate capital in the most effective way possible. These funds may be under time pressure to deploy their resources.
Other funds have longer timelines to employ their capital, so they aren’t necessarily time-pressured and can afford to wait for what they perceive to be the right deals. This difference in structure significantly impacts how selective they can be and the rigor of their diligence processes.
Funds can also be passive in their investment, but usually only if there’s a lead they think is credible, which is very often another fund. So you can have funds that lead rounds and take a more active role, and funds that are passive—if they think a lead is sufficiently credible, they will invest in a more passive way.
What Control Means for Your Business
Funds at almost all stages will have far more diligence they want to apply to a company than earlier stage investors such as family and friends and angels. They also often seek greater levels of control over a business. This means greater rigour in terms of company governance. Expect to hold regular board meetings that need to be documented and circulated, send out frequent (e.g. monthly) investor updates, and sometimes grant board seats or observer seats to particular funds.
The fundamental trade-off remains: in exchange for allocating capital for an ownership stake, investors will want to exercise that larger ownership stake and have a greater say in the direction of the company. The more money you take, the less control you typically retain.
Finding the Right Fund
This is fundamentally a marketing problem—you’ve got equity you want to sell, and you need to identify the portion of the market that’s most likely to buy it. You might go to the right fund but approach the wrong person—someone who doesn’t understand the sector you’re in—and that would be a bad outcome.
Asking existing investors can be very helpful when looking for VC funds, because you can go through warm relationships to get introduced. Introductions are very powerful because someone is essentially acting as a referee for your company and helping build a level of trust that won’t necessarily be there if you’re establishing a relationship from a cold start.
If you want to find funds that specialise in your sector, our free investor search engine can help you find funds that invest in the round size you’re looking for and help identify lead investors, which you’ll inevitably need to properly structure a round so that other investors have confidence and crowd in.
The best approach is identifying the right person at the right fund who is actively interested in your particular sector, because they’ll be more likely to help you with regards to their own fund. Even if that fund cannot invest, they’ll be able to link you into other relevant parties, whether potential customers or other investors who might be interested.
When using platforms to find investors, you’re looking to approach an individual at the fund who’s interested in your sector, but they would be investing as part of the fund, not individually.
Why Sector Specialists Matter
Investors usually have certain vertical or horizontal sets of knowledge—whether geographically defined, business model defined, or sector defined. These represent ways in which they feel they can arbitrage their knowledge versus other types of investors to correctly assess business opportunities.
Many early stage funds will be sector-focused, regionally focused, or have geographical preferences without necessarily having significant geographical limitations. You’ll often find either sector-focused or business model-focused funds, because they believe that understanding either a specific sector or a small number of sectors or business models enables them to better assess the potential of a business and de-risk their investment.
Where investors feel they have this knowledge arbitrage, they will often seek to leverage that to try and maximise their potential return.
For companies building specialised solutions and technologies, sector-focused funds can be really helpful because you’d be tapping into funds that have far greater potential to be value-add to your business.
The value-add from sector specialists also comes in the form of being more likely to correctly assess the value of your company. Generalist investors might factor in their lack of knowledge about your sector as a more significant risk than a specialist would, and therefore you’re likely to end up with a worse valuation and overly dilute existing shareholders.
Sector specialists are far less likely to be tied to geographical regions and are far more likely to be flexible around your company’s incorporation in various jurisdictions—either being more willing to invest in other jurisdictions in industries they’re familiar with, or proposing solutions such as setting up entities in their jurisdiction for them to invest into.
Key Takeaways
Understanding early stage VC funds means recognising that these investors operate with specific knowledge bases, time pressures, and control requirements that differ significantly from angel investors. Success in raising from these funds depends on finding the right match between your sector, stage, and their investment thesis, then approaching them through the most effective channels. Typically warm introductions are better than cold outreach, but using a platform like shipshape.vc can help you to identify the right person at the right fund.
The trade-offs are clear: more capital and potentially more strategic value in exchange for less control and greater governance requirements. The key is ensuring that any loss of control comes with corresponding value that justifies the dilution and operational changes required.
