Make Dhanteras 2024 Your Fundteras! Understand VCs' Average Check Size

This Dhanteras, Think Beyond Gold—Invest in Knowledge to Secure Your Startup’s Future. Just as people assess the value of precious metals on Dhanteras, venture capitalists (VCs) carefully evaluate startups to determine the size of their investments. For entrepreneurs, understanding how VCs calculate their average check size is essential for raising funds effectively.

VCs don’t just write checks—they strategically balance fund size, management fees, portfolio strategy, and follow-on investments to maximize returns. This guide breaks down these critical factors and walks through a real-world-inspired example, equipping entrepreneurs with the insights they need to approach fundraising with confidence.

What Is Fund Size?

Fund size refers to the total amount of capital a VC firm raises from Limited Partners (LPs)—such as institutional investors, pension funds, and high-net-worth individuals. This pool of capital is typically deployed over 7-10 years, aiming to generate significant returns by investing in high-growth startups.

How Fund Size Affects Investment Strategy

• Large Funds: Focus on late-stage startups (Series B, C, and beyond), offering larger checks but favoring lower-risk, high-traction companies.
• Smaller Funds: Specialize in early-stage companies, placing smaller bets with higher risk but potentially higher returns.

Key Concepts Related to Fund Size

• Diversification vs. Concentration: Some VCs invest across multiple sectors and stages to spread risk, while others focus on a small number of high-potential companies for larger stakes.
• Fund Life Cycle: A typical VC fund spans 10 years. Investments occur in the first 4-5 years, followed by managing and exiting portfolio companies.
• Co-Investments and Syndicates: VCs may partner with other firms to increase their check size, access deals, or spread risk.

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How VCs Calculate Their Average Check Size: A Step-by-Step Example

Scenario: A $100 Million VC Fund

Let’s assume a VC firm has raised $100 million, with the intention to deploy it over 10 years. However, not all the capital is available for direct investments due to management fees and strategic allocations.

Step 1: Adjusting Fund Size for Management Fees

VC firms typically charge an annual 2% management fee to cover operational expenses. Over the 10-year life of the fund, the total fee amounts to:

• Management Fee = 2% × 10 years = 20% of the fund
• 20% of $100 million = $20 million

After accounting for these fees, the remaining $80 million is available for investments.

Step 2: Allocating Capital Between Initial and Follow-on Investments

VCs divide their available capital between initial and follow-on investments.

What Is a Follow-on Investment?

Follow-on investments refer to additional funding provided to portfolio companies during subsequent rounds (Series A, B, etc.). Reserving follow-on capital allows VCs to double down on startups showing the most potential.

Allocation Example

• 50% for Initial Investments: $40 million for new startups.
• 50% for Follow-on Investments: $40 million reserved for subsequent rounds.

This allocation ensures the VC can support the most promising companies over time.

Step 3: Calculating the Initial Average Check Size

Assume the firm plans to invest in 20 startups with the $40 million allocated for initial investments.

• Initial Average Check Size = $40 million ÷ 20 startups = $2 million per startup

Although each startup will receive an initial investment of around $2 million, the actual amount may vary based on the startup’s needs.

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Step 4: Developing a Follow-on Investment Strategy

VCs typically focus follow-on investments on companies with the highest potential for success. If the firm follows a 2x follow-on strategy, it would reinvest double the initial check size in high-performing startups.

Follow-on Example

• Initial Investment: $2 million per startup
• Follow-on Investment (2x Strategy): $4 million per high-performing startup

If the VC firm reinvests in 10 out of the 20 startups, the follow-on capital used would be:

• 10 startups × $4 million = $40 million

Step 5: Adjusting the Average Check Size Across All Investments

Since not all startups will receive follow-on funding, the average check size needs to be recalculated to reflect the actual capital deployed.

Investment Overview

• Initial Investments: 20 startups × $2 million = $40 million
• Follow-on Investments: 10 startups × $4 million = $40 million
• Total Capital Deployed: $80 million

Adjusted Average Check Size

• Total Investments: 30 investments (20 initial + 10 follow-ons)
• Adjusted Average Check Size = $80 million ÷ 30 = $2.67 million per investment

This adjusted check size reflects the balance between initial investments and follow-ons, ensuring that capital is concentrated on the most promising startups.

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Key Takeaways for Entrepreneurs

1. Fund Size Shapes VC Strategy

• Large Funds: Write bigger checks for late-stage companies but prefer fewer follow-ons.
• Smaller Funds: Provide smaller initial checks with more opportunities for follow-on funding.

Tip: Align your fundraising strategy with the right VC—early-stage VCs offer room for growth, while late-stage VCs expect significant traction.

2. Management Fees Reduce Investable Capital

Although a fund may raise $100 million, only a portion is available for investment after management fees.

Tip: Adjust your expectations by understanding a VC’s true investable capital.

3. Follow-on Investments Are Selective

VCs carefully allocate follow-on investments to high-performing startups based on metrics like revenue growth, market traction, and competitive position.

Tip: Use your initial funding to demonstrate traction and position yourself for follow-ons.

4. Portfolio Size Impacts Check Size

A VC that spreads investments across many startups offers smaller average checks, while concentrated portfolios allow for larger individual investments.

Tip: Ask VCs about their portfolio strategy to align expectations with your needs.

5. Early-Stage vs. Late-Stage Investment Behavior

• Early-Stage VCs: Provide smaller initial checks with higher follow-on potential.
• Late-Stage VCs: Offer larger checks but expect substantial traction and growth.

Tip: Adjust your fundraising strategy as your startup scales, targeting the right type of investors for each stage.

How Entrepreneurs Can Leverage This Knowledge

By understanding how VCs calculate their check sizes and allocate capital, entrepreneurs can plan their fundraising more effectively:

• Target the Right VCs: Choose firms with fund sizes aligned to your growth stage.
• Demonstrate Progress Early: Meeting milestones increases your chance of follow-on funding.
• Prepare for Selective Follow-Ons: Manage cash flow carefully, as not all startups will receive additional capital.
• Ask the Right Questions: Inquire about the VC’s check size, follow-on strategy, and portfolio focus to align your expectations.

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Make Dhanteras 2024 Your Fundteras: Leverage VC Knowledge to Secure Funding

This Dhanteras, while others invest in wealth, invest in knowledge and strategy to grow your startup. Understanding how VCs allocate their capital—by balancing fund size, management fees, and follow-ons—empowers you to approach the right investors and secure funding at the right time.

With the right insight, you can build long-term investor relationships and position your startup for sustainable growth. This Dhanteras, make a strategic move—turn it into your Fundteras and unlock the potential for future success!