Category Design for Exceptional Venture Capital Firms: Announcing 645 Ventures Fund II, an Innovative Approach to Early-Stage Venture Investing

645 Ventures Raised $40 Million, Oversubscribed with Strong Demand for Fund II

645 Ventures Co-founders and General Partners: Aaron Holiday and Nnamdi Okike

“Don’t Be the Best, Be the Only” — Mike Maples

We are excited to announce that we have raised 645 Ventures Fund II, a $40 million oversubscribed fund that enables us to continue to support world-class founders and help them scale their startups from the seed stage to growth stage and beyond.

We founded our firm in 2014 with the mission of partnering with teams to help them “Bring the Invisible to Life”. Knowing that important breakthroughs don’t happen in a vacuum, we aimed to build on the insights of the best venture investors before us. Our learnings have enabled us to create a new kind of VC firm: one that augments human insight with machine scale and an extended network to bring the rigor of growth-stage diligence and portfolio assistance value-add to early-stage investing.

Our approach emphasizes establishing relationships with exceptional teams early in their startup’s history, where we spend time getting to know the founders, market, product, and key milestones. We provide targeted resources to these founders, at times even before investing, as a way of showing value and building mutual conviction. Founders seek to partner with us because our focused, resource-intensive approach helps accelerate the trajectory of their businesses.

Echoing the startups we back, Fund I was our MVP. For four years, we put our heads down and worked day and night to prove that VCs too could be scrappy and startup-minded. We built technology, tested it, incorporated feedback from our customers (our founders and LPs) and iterated tirelessly. As we tell our portfolio and each-other, “hard work works.”

In addition to establishing a track record that demonstrated we could perform at the highest level of venture investing, we gathered the support of some of the most discerning Limited Partners who believed in our vision and championed our audacity while providing experienced guidance. We are honored to welcome premier institutional LPs such as Princeton University, the Andrew W. Mellon Foundation, and Spelman College as investors in Fund II, alongside a group of highly influential leaders in technology and business. These leaders — which include Howard Morgan, Co-Founder of First Round Capital; Scott Maxwell, Founder of OpenView Venture Partners; Ken Chenault, Chairman and Managing Director at General Catalyst; Mellody Hobson, President of Ariel Investments; Robert Smith, Founder and CEO of Vista Equity Partners, Bill Lewis, Co-chairman of Investment Banking at Lazard; Greg Pass, former CTO of Twitter, and Albert Wenger, General Partner of Union Square Ventures — have been valuable mentors to us over the past four years. Scott Kupor, COO of Andreessen Horowitz, has also provided critical input and guidance for our organization.

Applying a similar sector focus as our Fund I, Fund II will focus on SaaS and infrastructure software, while also selectively investing in consumer technology sectors such as online marketplaces and digitally-native consumer brands. We apply a flexible model that allows us to lead or partner in seed rounds, with selective participation in Series A rounds.

Along with iterating, we also looked to define new market categories within venture capital. Over the past four years, we anticipated several of the structural industry changes that are now disrupting the early stage venture capital industry and demonstrated that we are building a firm capable of capitalizing on such market inefficiencies. Our desire to innovate entailed re-imagining the foundation of a venture capital operation and establishing a firm that is better capable of supporting the growth of the next generation of billion-dollar technology companies.

Today, we are excited to share these thoughts more publicly.

It’s no secret that the VC industry is experiencing tectonic shifts. Recently, multiple leading venture investors expressed concerns with the state of the venture business. In a recent blog post, our friend Micah Rosenbloom, Managing Partner at Founder Collective, described a “midlife crisis” for the venture capital industry. Rosenbloom cited climbing valuations, diminishing fund returns, rising costs in Silicon Valley, and the growth of mega-funds as key factors causing angst for early-stage managers. Bill Gurley of Benchmark has stated for some time that access to easy money has created a “systematic problem” in Silicon Valley, resulting in inflated startup valuations. Even legendary angel fund SV Angels, long associated with seed-stage investing in Silicon Valley unicorns, announced it would not be raising a new fund. They cited the tremendous increase of firms and individuals making seed investments, and the resulting significant uptick in seed valuations, as primary reasons for their departure.

Like many industries, the VC business is undergoing a transition, due in part to the above factors as well as and the following long-term structural changes:

  • The rate of new company formation and scaling has outpaced traditional network-driven sourcing of GPs and their teams; Company formation has expanded geographically outside of conventional venture capital hubs and networks;
  • Demographic changes in VC ranks are enabling women and minorities to claim a seat at the table and activate differentiated networks to access a new wave of billion tech companies such as StitchFix and Compass;
  • The rise of alternative funding models and new capital structures for early companies, such as ICOs and AngelList syndicates, have placed a greater onus on VC’s to prove their value.

Despite these fundamental shifts, the underlying math of early-stage VC remains the same: Find a way to invest in the exceptional businesses every year that can achieve a significant enough outcome to return your entire venture fund. For a firm to be successful over the long term, it must identify a systematic and sustainable method to invest in such companies across market cycles.

Applying this lens, the challenge for today’s VC firms becomes clear. The problem is not necessarily that there are too many firms, nor that there is too much capital. The challenge is that more so than ever before, venture capital firms must compete differently to win. To survive in an industry that is undergoing rapid change, we must learn to adapt and innovate. Ironically, venture firms have been notoriously resistant to embracing change.

In a previous generation, venture capital was a cottage industry. The best companies were created in a relatively small number of geographies, such as Sand Hill Road and Route 128. Many firms were sector-agnostic generalist investors. Value-add operations were limited, in particular at the early stage. Investment sourcing and evaluation processes were referral-based, “gut feel” processes, and were constrained to limited networks.

All of these historical norms are now challenged. At 645 Ventures, we are students of the concept of category design, popularized in the book Play Bigger,[1] which asserts that the best companies build new categories that result in behavioral change, thus altering the perspective on what is possible. These companies don’t compete to be incrementally better, but instead, aim to be completely different. The mantra of Category Kings can be distilled in the following quote by Mike Maples of Floodgate, paraphrasing Jerry Garcia: “Don’t be the best, be the only.”

Although legendary firms such as Sequoia and Benchmark continue to lead the industry, new firms have arisen to challenge the incumbents or capture new markets (e.g., seed investing), and some have become very successful. Over the past fifteen years, these have included First Round Capital, Andreessen Horowitz, Emergence Capital, Floodgate Fund, and Insight Venture Partners, and we aim to add 645 Ventures to the list as we build our institution.

We argue that the above firms have succeeded by embracing the concept of category design and identifying ways to compete very differently than the firms that came before them. Here is a summary:

1995: Insight Venture Partners (Growth Stage): Category Design based on outbound deal sourcing, applied across geography and stage, combined with resource-intensive value-add.

2003: Emergence Capital (Early Stage): Category Design based on SaaS sector specialization.

2004: First Round Capital (Seed Stage): Category Design based on institutionalizing seed investing and introducing organized value-add platform.

2009: Andreessen Horowitz (Multi-Stage): Category Design based on applying the CAA Agency Model to help technical founders scale their businesses.

2010: Floodgate Fund (Seed Stage): Category Design based on identifying a need for smaller institutional check sizes for pre-product-market-fit companies.

2014: 645 Ventures (Early Stage): Category Design based on data-driven outbound deal sourcing and evaluation, leveraging insights and hands-on-assistance that enables founders to scale to the growth stage.

At 645 Ventures, we aim to be the leading venture capital firm that applies outbound deal sourcing, deep due diligence, and resource-intensive value-add at the early stage. Our category design insight stems from the core belief that the seed to Series A market has matured in fundamental ways, and a new model can be applied to identify and support early-stage companies that have potential to become growth stage businesses.

  • Seed-stage investing historically required large portfolios, with a limited amount of due diligence being possible for each investment. This worked well when there were fewer seed firms, fewer companies started per year, and lower valuations. Today it’s much harder to make the probabilities and economics work for a fund that applies this approach. Our insight is that a smaller portfolio of companies, constructed as a result of deeper due diligence and focused on helping companies reach product-market fit, can generate alpha if managers build sourcing, evaluating, and value-add advantages. This approach accepts the risk of diminished diversification and therefore requires a high degree of conviction for every investment. We are demonstrating that this works at the seed stage. We call this approach slow and precise vs. fast and lucky.
  • Seed-stage deal sourcing does not need to primarily rely on networks any longer, but can also benefit from outbound deal sourcing: a model previously applied at the growth stage by firms such as Insight Venture Partners, where our co-founder Okike was one of the first deal sourcers and helped build their sourcing operation.
  • Because of the reduced complexity to code, faster time to market, and lower cost of building a company, companies are growing faster and generating more reliable data for investment decisions earlier. Our co-founder Aaron Holiday first described these possibilities in 2015, in a TechCrunch article titled Software and Data Are Disrupting Venture Capital Firms. As anticipated, seed-stage companies now have “predictable performance indicators” that can be assessed much earlier than historically possible and can be shared with founders to support their growth.
  • Seed stage value-add practices are usually rudimentary, due to large portfolio sizes, coupled with small investment teams and relatively small fund sizes. The best of the best, such as pioneering seed firms like First Round Capital, have innovated around these limitations through the power of network effects embedded in their portfolio and GP relationships, and through building a platform team. Funds with smaller portfolios can benefit from the ability to concentrate and dedicate more time, attention, and resources to active portfolio companies at the expense of network effects from the portfolio. Additionally, we have built a value-add operation, called 645 Ops, that uses proprietary software, research, and our network to support portfolio companies.

It is through this approach that we identify and invest in early-stage startups and work with them to become growth stage businesses.

Although our firm is young, many of our portfolio companies — including FiscalNote, Iterable, MM.LaFleur, and Goldbely — have grown from seed to growth stage businesses that now demonstrate large revenue scale, reaching or exceeding $50 million in net revenues. We are pleased to partner with these teams as they grow their companies into category leaders.

“We have been so lucky to count 645 as true partners to the MM.LaFleur team. They are keen operators with a deep understanding of both brand and data. They have advised us on business-critical issues, even preparing research and analysis on our behalf in order to give us a competitive advantage. Their laser focus on our business needs has been a great asset for me and my team.” — Sarah LaFleur, CEO of MM.LaFleur

It is our portfolio founders’ success that gives us the conviction that we are charting the right path, and the passion to provide them with our very best.

As we enter our next stage of growth, we’d like to thank all of our supporters who have helped us over the past four years. We are thrilled to share the next chapter of our evolution.

[1] “Play Bigger: How Pirates, Dreamers, and Innovators Create and Dominate Markets,” Al Ramadan, Dave Peterson, Christopher Lochhead and Kevin Maney, HarperCollins Publishers, 2016.