Vegetarian VC Funds
Venture capital (VC) firms are mainly structured as limited partnerships involving investment partners (LPs) and general partners (GPs). General partners act as the managers. Experts observe that starting a VC firm is expensive. An angel investment firm must also adhere to set legal requirements. Many angel investment firms are structured as C-corp or Limited Liability Companies (LLCs) in states such as California and Delaware. The cost of starting such a firm varies depending on the amount of capital to be invested.
Venture Capital Firm
- The first issue to consider when setting up a VC firm is its legal status. VC funds are different from other investment funds such as angel investment funds, mutual funds, or hedge funds.
- It is important to ensure that the right requirements are followed to avoid legal repercussions. The primary goal of a VC fund's design is to ensure that it is not considered a hedge fund, mutual fund, or other investment funds that have very tight regulatory requirements.
- For a VC firm to avoid being considered a hedge fund or mutual fund, it is crucial to take advantage of available exemptions, including laws such as “the Dodd-Frank Wall Street Reform and Consumer Protection Act of 2010.”
- VC firms can register as Limited Liability Company (LLC), Limited Liability Partnership (LLP), or other forms of limited liability entities. As such, the legal documentation may be in the form of LLC operating agreement or LLP operating agreement, among others.
- With registration as limited partnerships, the investment partners are considered as limited partners (LPs) and the managers as general partners (GPs). The latter, who are often a corporation or separate entity, manage the fund.
- After registration and legal compliance, the other important requirement is finding investors (the limited partners). According to experts in this area, one may need to be more flexible in getting investors willing to take less than 2-3% of the entire targeted fund.
- Running a VC firm is a long term endeavor that requires GPs to demonstrate alignment and commitment to interests with the LPs. LPs expect a financial commitment from GPs, which is conventionally set at 1% of the fund size.
- However, experts feel that the 1% is insufficient. David Dana, Head of VC investments - Disruptive Tech & Innovation at The European Investment Fund (EIF) says, “we never ask for bank account statements, but the thinking that 1% is sufficient is definitely wrong." He reckons that the percentage set should be set after individual analysis of each case.
- GPs earn management fees and gainful participation in the fund’s investment. The fees are usually set at 2% of the find size. After disbursing profits to LPs, GPs earn carry, usually 20% of the profit.
- In terms of the cost, the cost of starting a VC firm depends on the business structure and state requirements as well as other issues such as legal fees. For example, in the state of California, starting a limited partnership will cost about $70 for filing only.
- However, industry experts note that setting up a VC firm is expensive. Charmaine Hayden, Partner, GOODsoil VC, says, “it is expensive, which is a huge barrier to entry for people from low income backgrounds as fund managers also have to invest in the fund.”
Angel Investment Firm
- Starting an angel investment firm requires a strict adherence to legal requirements. This entails ensuring that the angel investment firm has the proper legal structure.
- According to Einat Meisel, a partner at Fenwick & West in Silicon Valley, majority of angel investment startups are structured as C-corp or Limited Liability Companies (LLCs) in California and Delaware. Setting up as partnerships or other legal structures may come with additional liability and tax implications.
- Secondly, it is important to ensure that the established entity actually owns the intellectual property (IP). The IP may come from different sources including the employees, customers, or third-party contractors. The IP is the primary asset for early stage companies according to Einat Meisel.
- Other important considerations include checking to ensure legal compliance in terms of employment practices and securities law as well as exploring possible tax benefits through the Qualified Small Business Stock (QSBS) Act.
- Angel investment firms do not seek to have immediate returns because they target startups. The firms know that growing a profitable business can take time. Angel investment firms usually fund startups during the pre-seed or seed periods of funding.
- When it comes to the cost, there is no standard startup cost in setting up an angel investment firm. An angel investment company can choose to invest any amount depending on their interests.
- Besides the capital, other important costs are statutory and operational fees that vary across states. For example, while the fee for incorporation in Mississippi is just about $50, it will cost about $455 in Connecticut.