Some tough questions VCs and founders need to address out in the open

There were a few topics to tackle in this week’s edition so I created one larger VC focused post.

The first essay is from a new guest author, Health Velocity Capital’s Saurabh Bhansali, who wrote about why founders should care a lot more about fund size. As it turns out, size does matter… a lot. From there, I delved into a question that is very rarely discussed in any public forums related to founders taking money off the table in the form of secondary: The when, the how and the why.

In our next edition, I’ll share more thoughts on the two upcoming digital health IPOs: Hinge vs. Omada. Stay tuned!

Bhansali, you’re up…

Founders, AUM matters more than you might think

By Saurabh Bhansali

As a co-founder and partner at a $500 million AUM growth investment firm, I have spent countless hours helping entrepreneurs raise capital. Along the way, I’ve learned that not all capital is created equal.  I’ve seen how the size of a lead investor’s fund can shape a company’s journey, which might not be obvious when you're signing the term sheet, but definitely becomes more tangible down the road.

As a founder, why does the fund size matter? As an aside, this is an excellent explainer from VC legend Josh Kopelman. Once you’re done skimming this piece, I highly recommend giving it a listen.

Fund size makes a huge difference. The size of the fund backing your company will influence your experience in ways that go far beyond the check size and stage at which the firm invests. It may seem obvious that big funds can write big checks. But it’s more than that. It shapes incentives, defines success metrics, and decision-making in the boardroom.

Because I’m a bit of a finance nerd, let’s explore the implications of raising from smaller vs. larger funds, with some simple math and stories to bring it to life.  Keep in mind that these are hypothetical and illustrative scenarios.  In reality, there’s a whole lot more nuance.

The Initial Investment

VCs aim to return a multiple of their fund size, often 3x, to be considered top-tier performers. This math drives their behavior because if they don’t meet those expectations, they’re unlikely to successfully raise another fund from their limited partners (LPs).

Let’s take two hypothetical funds:

• Smaller Fund: $200M
• Larger Fund: $1B

Assuming funds reserve roughly 50% of their fund for follow-ons (plus it makes the example math easy!), the initial capital allocated for new investments is:

• $200M Fund → $100M for initial investments
• $1B Fund → $500M for initial investments

Assuming both funds target 20 companies:

• $200M Fund → $5M average first check
• $1B Fund → $25M average first check.  Of course, this could be $5M initial checks in 100 companies or anything in between, but let’s keep the math simple for the purposes of this illustration

That scale impacts what kind of deals they can prioritize. The larger fund needs to deploy more capital into each company to move the needle. That has implications for the raise. If you, the founder, is seeking a $5M Series A and a $1B fund is leading, they may either try to write a bigger check (pushing you to raise more) or pass because the check size is too small. So what’s my takeaway? If you don’t want to raise more than $5M for a variety of reasons – dilution, the lack of necessity to do so, and so on – then perhaps spend far less time in your capital raise talking to funds with $1B under management. That math on those check sizes doesn’t sense for these firms, so it’s unlikely to be a great investment of time - unless you’re doing it for the expressed purpose of relationship building ahead of the next round.

Let’s continue on with an example and play out the scenario:

So you’re raising $5M at a $20M post-money valuation.

• A $200M fund might lean in with a $5M invest for 25% ownership, which aligns well with their fund strategy.
• A $1B fund might pass (too small to matter) or push for a larger round or try to lead at a higher valuation with a $15M check. Using this example, let’s say they convince you to take their $15M at a $60M post-money for the same 25% ownership and founder dilution. Just like that, your company is worth $60M, right?! Even though it might seem incredible, every funding choice has ripple effects – on your cap table, your pace, and your exit threshold; more on this later…

The takeaway here: The size of the fund can impact valuation, and valuations may seem like made up numbers, as we’ll discuss. But there are reasons to avoid taking on a valuation that far surpasses the reality of where the business stands today.

Portfolio Company Support

Smaller funds often run leaner, partner-led models. Partners tend to be more involved because they manage fewer companies. Larger funds may field broader teams enabling more functional support and more distance between you and the lead partner.

Example:

A partner at a $200M fund might have 5 - 7 active board seats and be deeply engaged. For better or for worse, they're thinking about your business at 11pm and texting you ideas on the weekend. They don’t have a team supporting them and your outcome could return a meaningful percentage of their fund.

A partner at a $1B+ fund might sit on 15 boards, and your company could represent < 2% of their deployed capital. If things are going well, awesome! But if you start to struggle or need deeper support, you may not get the same level of lead partner mindshare. That said, while it is true that larger funds may be spread across more companies, many have built robust platform teams with deep operator expertise, something smaller funds often can’t offer at the same scale. There are tradeoffs either way.  And, of course, generalizations help explain patterns, but there are standout individuals at both small and large funds; there are plenty of partners at larger funds who go above and beyond to support founders directly and partners at smaller funds who spread themselves too thin.  Diligence matters.

Follow-On Capital and Staying Power

One of the biggest advantages of a large fund is financial staying power. If you break out, a large fund can lead multiple follow-on rounds and defend their ownership through thick and thin. They can also support you aggressively during downturns or pivots.  Smaller funds often can’t match this firepower and may get diluted out in later rounds.

Example:

Imagine you raise a $5M Series A from a $200M fund, and things go well. A year later, you're raising a $20M Series B at a $100M valuation.

• The $200M fund wants to protect their 25% stake. To do so, they’d need to write a $5M check.  That is doable, but depletes their reserves quickly.
• A $1B fund, if they had led the A and own 25%, could easily lead the Series B and keep doubling down. By Series C or D, this divergence becomes more stark.

Larger funds can keep you going longer, buy time in down markets, and be more aggressive about M&A.

One wrinkle: the brand halo of a large fund can be a double-edged sword.  A large fund’s brand can help attract customers, press, and downstream capital, but if they don’t follow on or even lead the next financing, others might take it as a negative signal, even if the decision is simply due to portfolio construction, not company-specific.

The Exit

This is one of the most misunderstood dynamics and where founder and investor incentives can diverge.

If you sell for $200M, most founders would call that a win. But how your investor feels about it will depend heavily on fund size.

Example:

• You took the smaller fund’s $5M investment, and built and sold a $200M business.  You and your team still own 75% and take home $150M!  Your investors own 25% and earn a $50M return = 25% of their fund and an elusive 10-bagger! That’s a huge win.
• You took the larger fund’s $15M investment and built a $200M business.  You and your team still own 75% and take home $150M!  Your investors own 25% and earn a $50M return = 4% of their fund and a 3.3x on their initial investment.  While a 3x+ return is still a solid outcome, in the context of a $1B fund, it is helpful, but not a standout. In order to achieve the same relative result, their $15M check would need to return $250M, which would imply a $1 billion sale.

This difference shapes how exits are evaluated and changes how investors behave in the boardroom.  Here’s the nuance: investors on your board wear two hats. As board members, they have a fiduciary duty to all shareholders and must act in the company’s best interest. As fund managers, they also have duties to their LPs. Those obligations don’t always align perfectly—especially when evaluating mid-sized exits.

If your company is getting acquisition interest in the $100–300M range, a smaller fund may actively support it. It could return a meaningful chunk of their fund. A larger fund may hesitate. Not because they don’t believe in you, but because it doesn’t move the needle for their fund. In some cases, they may block a sale if it doesn’t meet their return hurdle, even if it’s life-changing for the founders. When they invest, the larger fund is looking for a result that would return their entire fund. It impacts both the investments they make, and also the exits they strive for.

Final thoughts

Raising venture capital isn’t just about getting the money, it’s about choosing a partner whose incentives align with yours. Smaller and larger funds each bring strengths and tradeoffs. If you’re optimizing for ownership and optionality, a smaller fund may be your ideal partner. If you’re swinging for the fences and comfortable with high-pressure growth, a larger fund might fit.

That said and most importantly, fund size is not and should not be the fundamental reason to partner with an investor.

When my partners and I submit a term sheet for a new investment, we like to be chosen. These long-term relationships will shape your business and your life.  Think about who you want in the trenches with you.  Cultural alignment may matter more than check size, and that alignment can be found in firms of all sizes.  The most important thing is choosing a partner whose approach, expectations, and values match the journey you want to take.

When should founders take money off the table before an exit?

By Christina Farr

It’s time to talk about one of the most controversial topics in the founder and venture capital community — and ironically, that’s money. So rarely do we talk about personal wealth, say versus company financials. And yet, it matters a great deal whether a founder starts a business with any savings in the bank or if they’re deeply struggling faced with a mountain of college debt.

Many founders will pay themselves extremely low salaries in order to keep their monthly burn as low as possible. Investors will often applaud them for that because it shows their dedication to the cause, and it means they can allocate capital elsewhere. Perhaps to pay a key executive that requires a six-figure salary down the line.

As one founder put it to me: “There’s still this expectation that the founder should pay themselves sub-market for years, even when paying much higher salaries to the executives on their teams, but only a small subset can really afford to do that without making huge personal sacrifices.”

But the health-tech sector is notorious for its long time horizons to get to an exit. Just look at Omada Health, which just filed its S1 this past week. That business was founded in 2011! Should an entrepreneur make a paltry, way below market salary for 15 years or more? What if they want to start a family or buy a home? Having kids is expensive and these are their prime earning years!

So how do we compensate for that because it’s not as easy as it sounds? Over the past few months, I anonymously surveyed more than two dozen entrepreneurs and investors in my network to ask when and how founders should be allowed to take money off the table prior to an exit. For those not familiar, that typically involves selling an equity stake in the form of a secondary at the moment of raising capital — and that may be an option if the round is oversubscribed.

A few of the questions I asked the crew: What constitutes a good enough reason to sell equity prior to an exit? How much money should the max that they can take? And what is the moment to wait for? Is it profitability? A certain revenue threshold? A funding round, like a Series B or Series C?

So, to report back, there are still hardline investors out there who believe that it’s fundamentally the right thing for a founder to wait for an exit, typically in the form of M&A or an IPO. But those are dwindling. Most VCs these days I spoke with agreed that it is not good for the business if the founder is stressing about money and has to figure out ways of making extra income.

But this practice can also be taken to an extreme, and we saw some crazy stuff a few years ago during the pandemic. In the boom time of 2021 and 2022, I heard rumors of a founder taking as much as $60 million in secondary. I won’t name names but in at least one notable case, the business did not ultimately succeed, but the founder started their own family office with the proceeds. Those were some heady times.

What are some arguments against?

The most obvious one is that the founder will lose some of that hunger that they’d need to be successful. The founder who took $60m off the table - yes that’s an exceptional case, but in theory that individual would never have to work again, let alone drive a struggling startup up a hill. There clearly needs to be a discussion of what amount of money is reasonable that keeps a founder engaged in the business, but helps solve their most pressing cash flow needs.

Another issue is potential signaling risk. How does it look from an optics perspective to future investors, employees and potential acquirers? Would taking too much money raise doubt about a founders’ commitment and their belief that the company is likely to succeed? Could this be perceived as the founder de-risking the outcome if they have concerns about the company’s likelihood of success? These are all viable questions and concerns.

I’ve also heard some investors voice that it might not be fair. Early employees don’t typically get that opportunity to cash out in this fashion. So it could be considered unfair if a founder got rich, while everyone else including the very early team had to wait for the exit. From an internal comms perspective, that wouldn’t be a great thing for employees to hear.

Mitigating those risks

Several of the founders I spoke to noted that there are some norms to consider, but boards also need to consider the individuals’ circumstances.

In terms of norms, there seems to be a consensus in my network that anything less than $5 million in a secondary sale is generally acceptable if the company is growing quickly and there’s an oversubscribed funding round. A few investors noted that $1 to $2 million is their preference, and typically around the Series B or Series C, potentially dispersed to the founder in multiple chunks.

Most of the folks I spoke to also agreed that companies should be doing well before boards should agree to giving founders some early liquidity. Or at least well enough that investors still want to pile on.

Finally, most agreed that this should be discussed ahead of the funding round itself.

“I wish this was talked about more and investors, boards and founders could have upfront conversations about this ahead of fundraising rounds,” one founder told me. “I think it would turn the temperature down a lot and make it less divisive.”

Bottom line

We should have more of these conversations upfront, and discuss what’s reasonable. It’s just not reasonable to ask them to make below market rate at a time of inflation and high-cost housing. Particularly when most VCs aren’t doing that either (for the most part).

It all comes down to the particulars: The when, the how and the why. If the founder has a good relationship with the board, then all of that should be on the table for discussion.

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