On the heels of a banner year for Canadian venture capital investing, a new class of funds is set to launch here that will enable startup financiers to double down on their winners.
Vancouver-based seed-stage investor Version One Ventures LLC announced Sunday that it has closed its first, $25-million “opportunity fund” backed by funds-of-funds investors Northleaf Capital Partners and HarbourVest Partners, LLC. The opportunity fund differs from Version One’s core funds, including its third, which raised $57-million in 2018, by enabling it to keep backing its most successful portfolio companies as they grow – an opportunity previously beyond its reach.
“These type of funds haven’t really hit Canada” yet, said Ian Carew, managing director with Northleaf, which encouraged Version One to launch the fund and put in US$5-million. “We’re not reinventing the wheel, but taking something that’s been tested and proven” by U.S. venture capital firms starting with New York’s Union Square Ventures in 2010.
Version One founding partner Boris Wertz, who co-manages the firm with Silicon Valley-based general partner Angela Tran, said past backers quickly signed on and the fund closed in four weeks – unusually fast for Canada. “A lot of people found it super interesting,” he said.
Northleaf isn’t stopping there. Mr. Carew has suggested the idea to two other Canadian seed financiers and pledged to fund them if they proceed. He declined to identify them but it’s believed Golden Ventures of Toronto and Waterloo’s Garage Capital are contemplating similar funds. Both declined to comment.
Advocates for opportunity funds lay out a compelling rationale for them. Version One typically invests $750,000 in startups in Canada and the United States, backing promising entrepreneurs early on. But as its best bets scale up, Version One only gets a limited bite of the upside: It participates in one or maybe two follow-on financings investing another $750,000 to maintain its share before their financing needs grow too large to continue. For example, it hasn’t participated in recent fundings by one of its top picks, digital textbook provider Tophatmonocle Corp.
The opportunity fund changes that. It’s a sidecar with a mandate to back the best performers from Version One’s first two funds. Now, it can invest $3-million to $5-million in companies it knows well and believes have the best chance to create value. Version One charges about half its typical fees (industry norms are 2 per cent of assets to manage funds plus 20 per cent of the gains). Since it invests later in the companies’ lives, it targets a return of two to three times invested capital over four to five years – compared with 10 times over 10 years for its core fund. It also lets big Version One backers such as Northleaf maintain ties with the startups until they become big enough to consider funding the companies directly themselves, Mr. Carew said.
The model has succeeded for Union Square: Its first US$135-million opportunity fund has been one of the industry’s top-performing venture funds, The Wall Street Journal reported recently. “We are happy with the performance of our opportunity funds,” said Union Square managing partner Albert Wenger, whose firm raised its third such fund last year, for US$250-million. “Having one makes a lot of sense for early stage funds, who otherwise cannot follow their best investments," he said.
Mr. Wertz said Version One’s opportunity fund “is relatively small because we see it as [a chance] to prove out the model.” If it works, the firm may raise another opportunity fund with its next main fund, he said.
The arrival of opportunity funds here follows a year in which venture capitalists invested $7.3-billion in Canadian companies, according to Refinitiv – second only to the peak dot-com year of 2000 adjusting for inflation. It “is a sign the Canadian market is maturing [and producing] breakaway companies,” HarbourVest managing director Senia Rapisarda said. “In the last 10 years, the seed market has produced some outstanding [investors] in Canada. This is a way to access better opportunities at better economics [and] for us to de-risk our portfolio and for seed managers not to leave the majority of the upside on the table.”