Venture capital syndication

Venture capital syndication

One way to characterize venture capital financings is by the number of investors; more specifically, is there more than one. If so, the investor group is typically called a “syndicate.” While working with a syndicate can pose challenges, before and after the closing, in most cases, the advantages of syndicating a deal exceed the disadvantages.
Let’s start with the disadvantages. Before the deal, the primary disadvantages of assembling and closing a syndicate are (i) the additional time and expense it takes to assemble the syndicate, get through due diligence and close the investment and (ii) the complications that can arise if multiple members of the syndicate view themselves as empowered to negotiate on behalf of, or in addition to, the syndicate itself. The key to dealing with these challenges is to clearly identify, for all parties, a “lead” investor as the primary, if not exclusive, conduit for all communications between the syndicate and the company. Once the lead investor is identified, it is incumbent on the company and the lead investor to make sure that all substantive communications between the company and the syndicate members go through the lead investor, particularly all negotiations regarding the term sheet and the closing documents.
If the disadvantages of a syndicate are more or less manageable, what are the advantages? The most obvious plus is in the case where your capital needs exceed the capacity of a single investor. This is most often the case in a market like Wisconsin that is served mostly by angels and smaller funds with limited capital. Still, even when your deal could be funded by a single investor, there are good reasons to consider a multi-investor syndicate instead. Two in particular stand out. First, a syndicate provides some insurance against any single investor souring on the deal, or undergoing some internal evolution or stress that limits its interest or ability to participate in subsequent financing rounds. For example, the partner responsible for your deal might leave the fund; the fund might shift its strategic focus away from your industry; the fund might find itself overcommitted to other investments; etc.
A second advantage of the “optional” syndicate is a reduction in financing risk. If for whatever reason – be it related to company performance or market conditions – you find yourself needing additional capital in an unfavorable financing environment, how much “dry powder” your current investors have on hand is a critical factor in your ability to navigate through the crises. The more investors motivated, and with the dry powder, to protect their current investment you’ve got, the less likely you are to be left to fend for yourself in difficult negotiations with potential new investors.
A final, often overlooked, advantage of at least some syndicates is the potential for multiple “value adds” from different members of the syndicate. One of the reasons venture financing is so expensive – or at least one of the rationales – is that good venture investors bring more to the table than money. As you work with your lead investor to assemble a syndicate, try and include investors that have complimentary value add propositions. For example, if your lead is long on industry/technology operating experience, try and include an investor with broader and deeper networks with downstream investors in the syndicate. If your lead is perchance a fund that will have limited dry powder for subsequent rounds, try and include among the followers in the syndicate a small investment from an investor that typically does later, larger investment rounds.
For good or ill, venture financings often involve syndicates. While not without their distractions and potential for problems, in most cases, the advantages of working with a syndicate comfortably outweigh the disadvantages.
Other columns by Paul A. Jones

Paul Jones works with emerging technology companies and their investors as a part of the Venture Best team at Michael Best & Friedrich LLP. An experienced serial venture-backed technology entrepreneur and institutional venture capital investor, he is also the Entrepreneur-in-Residence at the College of Business at the University of Wisconsin-Oshkosh.