Direct Venture Investing vs. Investing in a Venture Fund

A Nation can invest in young companies two ways: directly, by buying shares in startups it picks itself, or indirectly, by committing to a venture fund whose manager picks for it. Direct investing offers more control and lower fees, but it demands a skilled team, steady access to good deals, and enough money to spread across many companies. Fund investing buys diversification and a professional manager in exchange for fees and less say. For most Tribal governments starting out, the deciding question is capacity: who will find, evaluate, and manage the investments, and for how long.

What is direct venture investing?

In a direct investment, the Nation, or an entity it owns, buys an ownership stake in a startup and holds it on its own books. The Nation chooses the company, negotiates the terms, and may take a board or observer seat. Any gain or loss is the Nation's alone, with no manager's fee or share of profits in between.

Direct investing comes in degrees. A solo investment is one the Nation finds and leads itself. A co-investment is one the Nation makes alongside a venture fund, usually at the fund manager's invitation, in a company that fund has already chosen. Co-investments let an investor add money to specific deals with lower fees, while relying on the manager's diligence.

What is investing through a venture fund?

In a fund investment, the Nation becomes a limited partner (LP), committing money that a professional general partner (GP) invests across fifteen to forty companies over several years. The GP finds the deals, sits on boards, and decides when to sell. The Nation pays a management fee and shares profits through carried interest, and in exchange it gets diversification and expertise it doesn't have to build. The mechanics are covered in How Does a Venture Capital Fund Work? and the LP's position in What Is a Limited Partner in a Venture Capital Fund?

Some investors use a third route: a fund of funds, which commits to several venture funds at once. It adds a second layer of fees in exchange for wider diversification and help choosing managers.

How do the two routes compare?

The routes differ on five practical points:

1. Access. The best startups often raise money from investors they already know. Established venture firms see a steady flow of companies; a new direct investor has to build that flow from scratch.
2. Diligence. Evaluating a startup takes industry knowledge, financial analysis, and legal review, deal after deal. A fund spreads that work across a professional team. A direct program has to staff it.
3. Diversification. Because most startups return little and a few return most of the gains, an investor needs many companies to give itself a real chance at the winners. A fund provides that breadth in a single commitment. A direct program needs enough money and enough deals to build it over time.
4. Cost. Direct investments avoid fund fees and carried interest, which can be significant over a fund's life. The savings are partly offset by the cost of the team and advisers a direct program needs.
5. Control and governance. Direct investing gives the Nation choice over each company and its terms, and sometimes a board seat. It also puts each decision, and each loss, in front of the Nation's leadership.

What does the research say about direct investing?

The best-known study of institutions investing directly looked at twenty years of private-market deals by seven large institutional investors. Published in the Journal of Financial Economics in 2015, it found that co-investments underperformed the funds they were made alongside, which the authors attributed to adverse selection: the deals offered for co-investment were not the best ones. Solo investments outperformed fund benchmarks, and the authors found that an investor's ability to resolve information problems, such as knowing a market or company well, appeared to drive those results.

The lesson cuts both ways. Direct investing can work when an investor has real knowledge and access, and it can disappoint when the investor relies on deals others choose to offer.

What would a Tribal government need to invest directly?

A direct program is closer to building a business than to making an investment. It needs people who can source and evaluate deals, legal and financial advisers, an investment committee with delegated authority to act on a startup's timeline, and enough capital to make many investments over several years and support the best ones in later rounds.

The Southern Ute Indian Tribe offers an example of what that capacity looks like. In August 2023, the Southern Ute Indian Tribe Growth Fund announced Kava Equity Partners, its direct private equity investment group, with a managing director to lead it, making majority and minority investments in lower middle market companies aligned with the Tribe's cultural, environmental, and economic values. Kava invests in established private companies rather than startups, and the Growth Fund built it on decades of experience managing the Tribe's businesses. The example shows that a direct program comes with its own team, mandate, and governance.

Many Nations use both routes over time: funds first, to build knowledge and relationships, then co-investments or direct deals in sectors where the Nation's own enterprises give it an edge, such as energy, construction, or health care.

What a Nation gains

Comparing the two routes lets a Nation match its venture strategy to its real capacity: funds when it needs diversification and skills it doesn't yet have, direct investments when it has the team, access, and knowledge to choose well. Venture returns are uncertain and take years to arrive by either route, and the risks of each are covered in The Risks Tribal Investors Should Understand Before Investing in Venture Capital.

If your council or finance team is weighing direct and fund investing, send us a message.

Sources

• Fang, Ivashina, and Lerner, "The Disintermediation of Financial Markets: Direct Investing in Private Equity," Journal of Financial Economics 116(1), 2015.
• Southern Ute Indian Tribe Growth Fund, "Southern Ute Indian Tribe Growth Fund Announces Kava Equity Partners and New Hires," August 30, 2023.