In the past few years, Europe’s tech ecosystem has been tweaking its model.
First-generation founders are raising their own VC funds. There's been a rise in VC-backed angel networks. Tech has been devleoped to make giving employees ownership easier. All these help more people benefit from the success of the whole ecosystem — and make sense.
But there's another new idea on the block, and this one may be stretching the definition of "sense".
A UK startup called Collective Equity has created the first equity pooling fund, which lets founders and startup shareholders pool up to 10% of their shares with other founders. When someone’s startup gets sold or goes public, everyone in that pool gets a share of the proceeds, and Collective Equity takes a 15% fee.
To take part in Collective Equity, UK founders need to have raised capital in the last six months and be backed by institutional or VC capital. The team’s first fund has pooled £3.76m of equity from 19 founders and shareholders covering 11 Crowdcube-funded companies. The cohort includes zero-emissions parcel delivery system Magway, eco-friendly period product brand &Sisters and and meeting booking tool CatchApp Bookings.
The idea has been percolating for a few years — when we reached out to friendly founders and almost all of them said they’d been pitched the idea at some point but were similarly mystified as to its benefits. The team first spoke to Sifted 18 months ago but Collective Equity’s cofounder Mike Royston admits that “it has taken a little bit of time to come to fruition.”
The first thing we don’t get: nowadays, more startup founders are able to take money off the table early. There are funds that specialise in buying these stakes, called secondaries. Those kinds of transactions put cold hard cash into the hands of founders. A stake in Collective Equity’s fund, however, will not pay your house deposit today.
If a founder wanted to hedge their risk by getting exposure to other companies, why not just ask one of your VCs for an allocation in their fund?
Royston says the downside of secondaries is that founders often have to sell at a discount. This is because the seller is essentially paying a premium for getting liquidity early.
His cofounder, Tristan Schnegg, argues that equity pooling gives founders a chance to put their money in something that might be worth much more. You can buy that house today or invest your money in a fund where it might one day be worth 10 of those houses. He also adds that Collective Equity’s fund is structured so voting rights for those shares stay with the founder, something they have to give up if they sell their stake on a secondaries market (though they’re usually not selling too much of their stake in a secondaries transaction).
The plan is also to make a cash payout on joining the Collective Equity fund a feature in the future.
The other thing we don’t get: if a founder wanted to hedge their risk by getting exposure to other companies, why not just ask one of your VCs for an allocation in their fund? (Kindred Capital does this automatically and investors from Seedcamp to Speedinvest have all offered portfolio founders the chance to put capital into their funds.) You’d have the advantage of your money being managed by an investor with a solid track record. And if it’s your VC, you can usually negotiate perks like lower management fees.
Schnegg says the team’s due diligence is “quite a rigorous judging process” and that they let founders know what companies they are considering for investment, unlike a VC. “They can see the entire portfolio that they’re going to be a part of,” says Schnegg.
The fund process takes about three to six months, Schnegg says. The company first gauges interest from founders, then discusses terms and does due diligence, and then they “open the subscription period for signing” to the strongest 10-15 companies.
A third thing we don’t get: Collective Equity says it wants to launch funds that are sector or theme specific, like one for climate founders. But, if 50% of your wealth is already locked up in your own climate startup, why would putting your money in a fund with other climate founders be a good idea? Wouldn’t you want to diversify?
Given that there have been huge uplifts in valuations in recent years that may not hold up now, how does Collective Equity make sure stakes are priced fairly?
To that question, Royston says that there are “many, many sectors that make up the climate sector. You’ve got SaaS products in there, you’ve got fintech companies, you’ve got hardware companies. It’s more of a philosophy.”
He also says that the funds will be diversified across stages so some companies would exit sooner than others. “We’ve found that the optimum number of companies is between eight and 20 companies in a fund.”
Also, what about valuation? Given that there have been huge uplifts in valuations in recent years that may not hold up now, how does Collective Equity make sure stakes are priced fairly?
Royston says that the team calculates “what the price would be if the company was to be sold today” using the post-money valuation of the last round and accounting for the shareholding structure and any other capital raised.
But maybe Sifted is being too capitalist about all this stuff. Returns and diversification? What about love and community?
Being an entrepreneur with all your eggs in one basket can be lonely and stressful, particularly when you’re operating in a challenging economy.
That’s certainly what founders seem to find appealing about this.
"Knowing that the other partners are looking out for cooperation and collaboration opportunities is a welcome support,” says Claire Lettice, founder of &Sisters. She has participated in the first fund.
“Being an entrepreneur with all your eggs in one basket can be lonely and stressful, particularly when you’re operating in a challenging economy. I've seen first-hand how amazing things happen when you’re all in it together,” says Andreas Adamides, founder and CEO of CatchApp, another company in the fund.
But it’s easy to be friends until we remember the laws of VC returns: there’s likely going to be one company that returns the fund. Maybe everyone else can cry together?