Once you have figured out the fund size and the focus of your venture capital firm, the only thing remaining to finalize your investment thesis is to identify your unique value proposition.
Or, as we like to call it at Founder Institute, the "Secret Sauce".
What is Secret Sauce for a venture capital fund?
Whereas an Investment Thesis identifies the stage, geography and focus of of a fund, the Secret Sauce describes why you are uniquely qualified to make money pursuing this particular thesis.
In other words, it is the unique differentiator (or differentiators) that ultimately de-risks the prospect of investing in your fund for Limited Partners.
What are the components of a great secret sauce?
In order to sufficiently de-risk yourself in the eyes of LPs, your secret sauce will need to demonstrate the ability to do at least one of the following:
- Find and close unique dealflow for your fund.
- Add operational value to your startup investments.
- Secure positive liquidity events for your portfolio.
Usually, this relates to your past experience, or through unique strategic connections you have related to the focus of the fund.
In addition, while it's always a good idea to be concise, your secret sauce requires specific details like company names, exit amounts, and other relevant details. So, for example, “based on the experience of the partners working in senior business development positions at Google and Microsoft” is a much better Secret Sauce than “based on the experience of the team.”
How do you know if you have a good Secret Sauce?
The measure of a good set of differentiators is how obvious it is to others that the firm will make money.
For example, here is a good Secret Sauce:
“after being a prolific angel in the sector over the last 10 years and securing 23x cash on cash returns.”
This short phrase demonstrates a few important things. First, it shows that the venture capitalist knows how to source deals and make investments. Most importantly, the venture capitalist has had success investing in the past, so it is likely that the venture capitalist will succeed in the future.
How can you determine your fund's Secret Sauce?
We recommend you follow these steps:
1. Identify your Initial Unique Differentiator
- First, think through which of the following Unique Differentiators best describes your strengths:
- I can get the best deal because I have _____(select one below)_____.
I help grow my portfolio companies by _____(select one below)_____.
- A large number of strategic contacts
- Extensive industry experience
- Proven track record of funding the best companies
- A well established brand/following in the market
I have contributed to various company exits by _____(select one below)_____.
- Advising the CEO on strategy
- Making productive sales and customer referrals
- Growing the team with top candidate introductions
- Helping to close subsequent financing rounds
- Helping the CEO to prepare the business for an exit
- Identifying ideal exit scenarios for a business
- Counseling leadership through an exit process
- Extracting maximum value for all parties in an exit
Next, rank your top three Unique Differentiators, and write a sentence or two about how your experience and/ or strategic relationships can support each.
Then, test the top three Unique Differentiators with Friendlies (anyone that you know well that might be an investor in your proposed fund). Determine which one makes them most confident in your ability to generate positive returns for Limited Partners.
Finally, select the one Unique Differentiator that (1) was considered most compelling by the Friendlies, and (2) you are most comfortable devoting a long period of time towards executing.
2. Refine your Unique Differentiator
First, take the one Unique Differentiator and draft three versions with different wording that captures the same sentiment and meaning.
Next, record yourself on video reading the different wordings, and watch the recording to see which feels most natural for you to say (and hear).
Lastly, integrate the most natural wording of your Unique Differentiator into the Secret Sauce component of your Investment Thesis.
Finalize your Investment Thesis
If you have been following this blog post series and completing our recommended first steps to starting a venture capital firm, you have just completed the final step in the Investment Thesis process.
You should now have determined your (1) Initial Thesis, (2) Fund Size, (3) Fund Focus, and (4) Secret Sauce above.
Now, let's put all the components together:
First, draft your whole Investment Thesis in the following format: “[Fund Name] is launching a [$x MM] [Stage] venture fund in [Country / City] to fund [Geography] [Sector / Market Companies] [with Secret Sauce]”.
Next, ask yourself honestly if you will invest in that thesis personally, keeping in mind that external Limited Partners will require you to contribute 1% or more of the capital required for the fund size.
Finally, we are here to help! If you need more feedback, send us your thesis using the template above to firstname.lastname@example.org.
What are the next steps?
If you followed the exercises above, then you now have a good foundation from which to build a VC Firm.
Just keep in mind that this is an iterative process, and first-time fund managers should be very receptive and malleable to feedback they receive from the market, advisors, and fund investors.
We strongly recommend you continue getting feedback from your Friendlies, and consider publishing the thesis on a blog or social media account. The more feedback, the better.
Accelerate your fundraising process
VC Lab is a free VC accelerator program that helps New Managers to start accelerators, pre-seed, seed or Series A venture capital firms globally. The goal is to help you complete your first closing in one year or less by providing a supportive community, tactical advice and resources through approximately 25 hours per week of structured work.
New and aspiring fund managers can learn more about VC Lab at FI.co/vc.
Do you want to help make Venture Capital better, fairer, or more inclusive? At the Founder Institute, we do - that's why we created the VC Lab program. If you're reading this now, and you share our vision for improving the VC landscape, please help us spread the word: scroll back to the top of this page, and give a quick share to this article on social media. You can help us change the status quo, help more great founders to raise funding, and ultimately build a better future for everyone.