You typically think of sports when you hear the term ‘scout’ but there is a whole ecosystem of ‘VC scouts,’ who are people employed by the top venture capital firms to help them find companies in which to invest.
These VC scouting programs have been around for about a decade now and often are quite secretive, but we’ve got the goods for you
The nuts and bolts. Scouts are often founders themselves or people with varied backgrounds or large social media followings that may have unique access and/or a network to find companies that VC partners may not otherwise know.
They usually get allocations of $100K to $250K to invest in companies that they find – in some cases, the scout may have to write an informal memo about why the investment makes sense. If the VC firm invests, then the scout gets a piece of the carry, which is the VC firm’s stake in any capital gain made from the investment. For example, 20% of the gain in an investment is a typical carry, so a scout would be entitled to some portion of that 20%, which varies depending on the particular firm’s scouting program.
So, this is a win-win for the VC firm and the scout. VCs get a look at companies they might not have found themselves, and scouts make a commission on successful investments. And sometimes, the scout lands a full-time gig with the VC firm as well.
Ok, but is this good for founders? We are nerds – the primary dictionary definition of a scout is someone who is sent out to gather information about an enemy; this is probably applicable to what a VC scout is to founders. Why? Well, there are a couple of reasons:
1. Companies don’t get much cash from the scout. The typical investment from a scout is $25K to $50K, which is essential early-stage money, but not as large as a normal seed financing, of course.
2. Companies can’t say they got an investment from so-and-so prestigious VC firm. Since the investment came from the scout, the way the programs technically work is that the scout is making the call on whether or not to invest in the company, even though the cash comes from the VC firm. The net effect is that companies can’t tout an investment from the VC firm.
3. The existence of the scout’s investment could be a negative later on. How? Think about the optics of having a scout on your cap table who everyone knows is affiliated with such and such VC firm. If that VC firm doesn’t invest in the next round of the startup’s financing, the natural question is why did they pass? The optics are not great for the company in that case.
As with any financing, company founders need do their homework and go into these scouting deals with eyes wide open as to the positives and the pitfalls of this kind of early-stage financing.
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