Cash Rich vs. Cash Poor VCs

One of the more interesting dynamics developing in the VC industry these days is the emerging battle between “cash rich” and “cash poor” VCs. Generally speaking, “cash rich” VCs are any VC with a fund larger than $500M while “cash poor” VCs usually have funds smaller than $200M.

Have Cash, Will Spend
Just like entrepreneurs that have raised a lot of money, VCs with large funds tend to be relatively loose with their cash.  Not only do they find it easier to write larger checks up front, but they usually have a lower bar for “doubling down” on their investments and putting up more cash.   In comparison, small VCs tend to be much more focused on the capital efficiency of their investments and can often take a frustratingly long time to work up the courage to write what seems like a small check.

Left to do their own separate deals, “cash rich” and “cash poor” VCs can co-exist in relative harmony, however when you mix the two together in the same deal it’s often a recipe for some real fireworks, the potential for  which tends to increase exponentially the closer the company gets to running out of cash.  For “cash rich” VCs, having an investment run out of cash, even one that isn’t performing that well, isn’t that big a deal (in some respects it’s actually a welcome occurrence).  After all they generally have more than enough cash left to invest and can therefore easily “afford” to double down and wait for things to potentially get better. 

In contrast, for “cash poor” VCs, having a company run out of money is a major issue that may require them to write a very large check relative to the size of the fund.  To make matters worse, if they don’t write the check there is very good chance that their ownership stake will be wiped out by “pay to play” provisions.  Faced with this dilemma, many “cash poor” VCs will push aggressively for a sale of the company.   Large VCs though usually oppose such a sale because even if the company can be sold for a profit the profit won’t be large enough to “move the needle” at their fund.

Not Selling Wine On Time?
The tension between these two camps can lead to some pretty spectacular clashes.  For example, a number of former employees/investors in Wine.com are currently suing the lead investor, Baker Capital, alleging that Baker purposely turned down a $67.5M buy-out offer from Liberty Media in mid-2005 so that Baker could instead do a $10M “cram down” round a few months later and wipe out the other investors.  Baker claims the offer wasn’t real, but apparently there was a signed term sheet on the table, so it looks like they are headed for an interesting court battle.

If legal precedent is any guide though, the small investors in Wine.com face an uphill battle.  That’s because the courts have already addressed this issue, most notably in a case that Benchmark filed against CIBC when CIBC washed them out of Juniper Financial.  Benchmark's suit was subsequently tossed out by a judge in Delaware who basically said "you’re a big boy, you knew the rules when you put your money in so stop complaining".

A Few Words of Advice
Given that this tension between “cash rich” and “cash poor” VCs is real and is likely to only get worse, I have a few pieces of advice:

• For Entrepreneurs:  When raising money, do you best avoid mixing “cash poor” and “cash rich” VCs.  Discuss exit expectations with all investors in advance of taking their money and discuss them at regular intervals once everyone has put their money in.
• For “cash rich” VCs:  Choose your co-investors wisely.  Let the other investors know you investment style and intentions in advance so that there are no misunderstandings.  Talk to a lawyer, for a long time, before you decide to cram down everyone else.
• For “cash poor” VCs:  Pay careful attention to the other investors you are investing alongside of and recognize that when you invest alongside the "big boys" everyone, including the courts, expects you to play by the big boy rules