VC Follow-on Strategy: Pragmatists vs Loyalists

What you need to know as an entrepreneur

Eniac Ventures
Sep 4, 2018 · 3 min read

By Tim Young, Founding General Partner

As an entrepreneur, it is vital to vet your potential investors/board members and choose wisely. They are among the most significant professional relationships of your career, often lasting a decade or more. A former board member will act as a strong signal to future investors, not only for your current company but future companies as well.

Venture capitalists have varying philosophies and approaches to how they spend time and capital on their portfolio companies. In my experience as an entrepreneur and investor, I have found that at a high level most funds fall into one of two categories: Pragmatists or Loyalists.

If you are an entrepreneur deciding on who to add to your cap-table, understanding this dichotomy could prove to be an existential undertaking as you traverse the bright hills and dark valleys of early company building.

In the VC paradigm, while both Pragmatists or Loyalists aim to maximize returns, they go about it in almost diametrically opposed methods.

The Pragmatists, which tend to be the larger marquee “Sand Hill” funds, focus on the performance and trajectory of their companies and spend the majority of their time and resources on the highest performers. There is no hard and fast rule but this is generally the top 10–25% — this is a function of fund size, expectation of returns, and portfolio construction.

If you are managing a billion dollar fund and own 10–20% of each company, a team must achieve a valuation of $5–10 billion for the investment to return your fund. As an entrepreneur, if your numbers start to fall short, many funds will gradually, or sometimes drastically, pull back resources and re-allocate based on prioritization. I have seen founders running companies trending towards mid-9-figure outcomes be de-prioritized by large Pragmatist funds because they are not trending towards building 10+ billion dollar company.

The Wealth Effect also pushes VCs into the Pragmatist camp. Working with teams struggling with existential issues is emotionally and logistically taxing, and after pulling $50–100M out of the venture ecosystem, investors seem less hungry to do so.

On the other hand, Loyalists tend to be former founders and are generally closer, at least in time, to their entrepreneurial roots. Most Loyalists share the underlying belief that supporting companies that are struggling will maximize returns. They believe with the right pivot strategy and execution a company in danger can be turned around. While the overwhelming majority of cases this proves not to be true, most companies that have created massive returns, at one point or another along the journey, have weathered hard times.

Loyalists are playing the long game, and deal sourcing strategies also heavily influence how they operate. Building strong relationships with portfolio founders is an investment in future deal flow. Loyalists are often younger in their investing career and the prospect of backing a team for a second or even third time is a real possibility. This is advantageous because it is often a founder’s second or third company that is the rocketship. Even more, earning the reputation for supporting teams through dark times often helps win competitive deals.

As an entrepreneur, you need to push deeper than the references a VC offers you to get a sense for what it will be like to work together, and while resources like BookFace can help, it is no replacement for talking to founders who have been on a board with an investor. In my career, I have always asked for founder references from companies in an investor’s portfolio that did not work out or even companies that they have passed on. Often times this is where you will uncover the most valuable information about an investor, and be able to determine if they are a good fit for you and your company.

This story is published in The Startup, Medium’s largest entrepreneurship publication followed by +368,366 people.

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Eniac Ventures

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