Some Thoughts On Seed Investing

We (USV) raised a new venture fund at the start of last year and started investing it in the spring of 2014. It is called USV 2014. We have made six investments in it so far and five of them are seed investments. That’s a very high ratio for USV and we do not expect that ratio to continue over the life of the fund. In fact our next investment will be a classic Series A so we are already lowering the ratio. But it is a bit of a return to form for USV as half of the initial investments in our first fund (USV 2004) were made at the seed stage.

In our core early stage funds (as opposed to our Opportunity Funds), we make initial investments at the seed, Series A, and Series B stages. In an ideal world for USV, there would be a normal distribution of these entry points with the highest percentage in the Series A stage. Over the entire history of USV, that is very much true. But on a fund by fund (or year by year basis) it varies a lot. It is mostly us reacting to the market. When the later stage rounds are too expensive on a risk/reward basis, we tend to move earlier. And when we can get good risk/reward opportunities in the Series A and Series B stages, we tend to move later. The downturn of 2008/2009, for example, led us to move a bit later in our 2008 fund because we could invest in more mature (and therefore less risky) opportunities at attractive prices.

The current market environment has pushed us to invest earlier. Some of it is that the Series A and particularly the Series B valuation environment has gotten very expensive relative to the risk as we see it. And some of it is that we are in a period of flux, where it is not entirely obvious to us where the next big things are going to happen. We have some ideas, of course, and I have been exploring them here at AVC and we have been exploring them as a team on usv.com. We think that in times of flux it is attractive to make a bunch of smaller seed investments in areas we think are going to emerge as important in a few years.

So that explains the move to seed as our primary entry point last year. I think it will continue this year but maybe moderate a bit as some of these developing markets mature and become more investable at scale.

Ok. Now that I’ve explained why I’m thinking about seed investing a lot these days, I’d like to talk about how we do seed at USV. Here are the important points:

1) We do not take a shotgun approach. We do not view seed investments as “options”. We only make a seed investment if we have as much conviction on the team and the opportunity as we would at the Series A round. We are as committed to our seed investments, both in terms of the time we spend with them and the willingness to follow-on in them. They are core investments with as much stature in our portfolio and in our firm as any other early stage investment. This is critical to understand. And it is not true of many (most??) VC firms who make seed investments.

2) We like seed investments in teams and opportunities where they have built and launched a product already. We don’t like investing in a concept or participating in a round where the uses of the capital will be to build and launch a product. This means the vast majority of seed rounds are not a fit for us. We pass on a lot of seed stage opportunities because it is “too early” for us. That is a comment on the specific opportunity however, and not seed stage investing as a whole. This confuses a lot of people. They tend not to think of USV as a seed investor when in fact we do make a lot of seeds (over 80% of last year’s investments, for example).

3) We will often lead the Series A (and sometimes Series B) in companies where we did the seed investment. We led both the Series A and Series B in Etsy and we co-led (with Spark) the Series A and Series B in Tumblr. We were seed investors in both companies. We continue to do that where it makes sense for the founders and USV. That is not a requirement or an expectation, but it does happen and I believe it is a very good thing in the right circumstances.

4) We like to participate in syndicates in our seed investments. We don’t focus too much on ownership at the seed stage. We do focus on the investors coming together around a project. We like partnering with smart angels, seed funds, and even other VCs, if the other VCs are aligned with us on how they are thinking about the particular seed investment. Our investment with Spark in the seed round at Tumblr is a good example of two VC firms partnering up at the seed round and doing a good job working together and scaling into the opportunity.

USV will never be confused with a seed fund, but we sometimes act very much like one, except that we can and will invest 20-30x our initial investment over the life of the company. That combination (a committed and active seed investor + deep pockets) is unusual. You can get one of those two a lot. But rarely both. So if you are working in an area that is interesting to USV, and if you have launched something into the market already, and if you are doing a seed round, please do reach out to us. We are in the business of making seed investments and doing a lot of it these days.