VC Galaxy

The Rise of Microfunds: The Future of Venture Capital?

By:

Ivelina D

Date:

October 22, 2024

4 min

‍

While megafunds often dominate headlines, attracting attention with multi-billion dollar investments and massive returns, the real story reshaping the venture capital landscape might just be the rise of microfunds. These smaller, more nimble funds are making a significant impact, delivering competitive returns while avoiding some of the challenges faced by their larger counterparts.

This is what the classic microfund VC structure looks like:

‍

‍

Why Microfunds Are Gaining Momentum

🟣 1. Historical Outperformance of Smaller Funds

One of the key reasons for the growing prominence of microfunds is their historical performance. Data from PitchBook shows that microfunds, typically defined as those managing less than $50 million, have consistently outperformed larger funds in terms of return multiples. This is particularly true for funds that focus on early-stage startups, where there is significant room for growth.

Smaller funds can often invest at earlier stages, taking on higher risk for the potential of outsized returns. These early-stage investments are frequently less crowded with competition from megafunds, allowing microfunds to secure more favorable deal terms. According to Harvard Business Review, smaller funds are better positioned to deliver higher internal rates of return (IRR) due to their focused strategies and targeted exits .

🟣 2. Agility and Speed in Decision-Making

Unlike larger venture firms that have bureaucratic decision-making processes, microfunds—often led by solo general partners (GPs)—can move quickly and decisively. The flexibility and speed of these smaller funds give them a competitive edge when it comes to seizing new opportunities, especially in fast-moving sectors like artificial intelligence (AI) and fintech.

This ability to act quickly is crucial when investing in early-stage startups, where timing can be everything. With fewer layers of approval and a more concentrated investment thesis, microfunds can respond to founders and market shifts in real-time. This agility often translates into better deals and stronger partnerships between investors and startups.

🟣 3. Sector-Specific and Geographic Specialization

Microfunds often have a laser focus on specific sectors or geographies, which gives them a deep understanding of the markets in which they invest. This specialization allows fund managers to develop expertise and establish strong networks in their areas of focus, whether that's in AI, healthcare, or a particular region.

For example, as the rise of pre-seed and seed deals continues, microfunds are increasingly backing young companies before they become unicorns. With their targeted approach, microfunds can support startups in achieving sustainable growth, often leading to meaningful exits without the pressure of scaling prematurely.

2024: The Microfund Landscape in a Shifting VC Market

The venture capital ecosystem in 2024 presents a unique landscape for microfunds. While overall VC fundraising has declined due to macroeconomic pressures, there is still more capital flowing to startups than in most of the last 30 years.

One notable trend is the dominance of AI in the startup world. As of 2024, 42% of new unicorns are AI companies, highlighting the significant opportunities in this space. Microfunds are well-positioned to capitalize on this wave of innovation by investing in early-stage AI startups and helping them scale responsibly.

At the same time, an increasing "Series A crunch" is becoming apparent, where seed deals are far outpacing Series A deals at a rate of 3-to-1. This imbalance shows that while early-stage startups are booming, securing growth funding is becoming more challenging. Microfunds can play a pivotal role here by providing the necessary capital to bridge the gap and ensure startups can continue to grow without being stymied by the lack of later-stage investment.

Microfunds' Strategic Focus on Smaller Exits

From the perspective of a $25M fund manager, smaller, more strategic exits can provide meaningful returns to limited partners (LPs). Microfunds excel at identifying opportunities for early exits that might not attract the attention of megafunds, but still offer substantial returns.

For example, instead of pushing for a unicorn-sized exit, microfunds often focus on responsible scaling and finding acquisition opportunities at an earlier stage. This approach helps mitigate risk for both the startup and the investors, while delivering a healthy return on investment.

Are Microfunds the Future of Venture Capital?

As microfunds continue to thrive in the venture ecosystem, many are beginning to wonder whether they represent the future of venture capital or if they are merely filling the gaps left by larger funds. With their ability to act quickly, specialize deeply, and target high-potential early-stage startups, microfunds are proving to be more than just a temporary trend.

While megafunds will always have their place in the venture landscape, particularly for later-stage investments and scaling companies to the next level, microfunds are carving out a unique and valuable role. By focusing on early-stage companies, embracing niche sectors, and delivering meaningful exits, microfunds are poised to continue reshaping the venture capital industry.

In the end, both types of funds serve different purposes, but the rise of microfunds is undeniable. For LPs seeking strong returns with lower risk, microfunds might just be the smarter, more strategic bet.

‍

Key Players in the Global Micro VC Market

Sourced via Eqvista.

Fund Size – $0-25M

Fund size: $25M-$50M

112.VC | SF | Enterprise
212 Capital | Turkey | Multi-sector
Aligned Partners | SF | Enterprise
Amplify Partners | SF | Enterprise
Aperture Ventures | NY | Healthcare
Arafura Ventures | sf | Multi-Sector
Arena Ventures | LA | Multi-Sector
Birchmere Ventures | PA | Multi-sector
Bluepointe Ventures | SF | Multi Sector
Blume Ventures | India | Multi-sector
Bowery Capital | NY | Multi-sector
Bullpen Capital | SF | Multi-sector
Caffeineited Capital | SF | Multi-sector
Cervin Ventures | SF | Enterprise
Chicago Ventures | IL | Multi-sector
Clear Venture Partners | SF | Enterprise
Cloud Apps Capital Partners | SF | Enterprise
Collaborative Fund | LA | Multi-sector
Contour Venture Partners | NY | Multi-sector
Core Innnovation Capital | LA | Multi-sector
CrunchFund | SF | Multi-sector
Crystal Tech Fund | VA | Multi-sector
Cultivation Capital | MO | Multi-sector
Dace Ventures | Boston | Multi-sector
Data Point Capital | Boston | Multi-sector
Deep Fork Capital | SF/NY | Multi-sector
Draper Associates | SF | Multi-sector
Ecosystem Integrity | SF | Cleantech
Engineering Capital | SF | Enterprise
Expansive Ventures | SF | Multi-sector
FF Venture Capital | NY | Multi-sector
Flywheel Ventures | NM | Multi-sector
Freestyle Capital | SF | Multi-sector
Frost Data Capital | LA | Big Data
Frost Venture Partners | LA | Multi-sector
High Line Venture Partners | NY | Multi-sector
Hoxton Ventures | UK | Multi-sector
Illuminate Ventures | SF | Enterprise
Initialized Capital | NY | Multi-sector
Inversur | Chile | Multi-sector
K9 Ventures | SF | Multi-sector

‍

Ready to build your venture capital brand and attract LPs and top founders?

Check out our content services for VCs.

‍