For years, deep-pocketed venture firms have partnered with seed investors to get access to startups’ later rounds if their growth takes off. The bigger firms often invest in the seed funds, with a handshake agreement that they’ll get a heads-up if a hot young startup is about to raise again. A firm called Megalith, which has kept a low profile until now, is carving a different path to investing in the most promising young startups and compensating the seed funds for their discovery. It is targeting what’s known as the pro rata rights that an investor gets when first investing in a portfolio company, entitling it to invest in future rounds to avoid dilution of its stake. Megalith offers to take the seed funds’ pro rata allocation or other follow-on investments.
For years, deep-pocketed venture firms have partnered with seed investors to get access to startups’ later rounds if their growth takes off. The bigger firms often invest in the seed funds, with a handshake agreement that they’ll get a heads-up if a hot young startup is about to raise again.
A firm called Megalith, which has kept a low profile until now, is carving a different path to investing in the most promising young startups and compensating the seed funds for their discovery. It is targeting what’s known as the pro rata rights that an investor gets when first investing in a portfolio company, entitling it to invest in future rounds to avoid dilution of its stake. Megalith offers to take the seed funds’ pro rata allocation or other follow-on investments.
If the startup agrees, Megalith buys the new shares, while the seed fund retains most of the carry, or expected profit, on the new investment. Megalith makes money from the management fees. Lightspeed Venture Partners’ chief business officer, Michael Romano, recently joined Megalith as founding partner and stepped down from his position at Lightspeed. Megalith has raised $280 million for its second fund and is likely to raise more for it, according to a person familiar with the raise. Romano’s departure and details of Megalith haven’t previously been reported.
Romano spent more than 13 years at Lightspeed, a period of time when the firm’s assets under management rose from $2 billion to $65 billion. He mostly focused on raising money—more than $35 billion in total. He said he kept hearing the same complaints from limited partners, or the pension funds, endowments and sovereign wealth funds that have historically backed VC firms. Many wanted to invest in early-stage startups, either through VC funds or directly as a venture investor. But the LPs had trouble on both fronts: Multistage VC firms often pushed the limited partners into their larger, growth-stage funds. And LPs, even those with a presence in San Francisco, often had difficulty winning direct investments, which depend on speed and connections.
Meanwhile, many seed funds didn’t necessarily have the money to exercise their pro rata rights when one of their startups began to flourish—especially as skyrocketing valuations for startups sent check sizes higher.
“I found billions in unused investment rights held by seed funds in the rounds the world's most premier venture capital firms are leading,” Romano wrote in a note to Lightspeed’s limited partners Tuesday.
Romano, in an interview, said his new firm has capital immediately available when a seed fund has a startup that is outperforming and wants to raise more. That speed is important, since any small funds that want to lead a follow-on round may take days to line up the money, he said.
As for limited partners, “They want to get access to the earlier part of the ecosystem. They want to get a little bit more of a basket versus putting everything in one manager,” he said.
Megalith only invests in rounds led by about 20 firms with strong track records, including Sequoia Capital, Lightspeed, Andreessen Horowitz and Benchmark. Megalith also enables its limited partners to co-invest alongside its stakes.
About 40 seed funds have worked with the firm so far, said John Komkov, a former colleague of Romano’s at Lightspeed. He co-founded Megalith in 2021, during the pandemic’s investing boom, when he was running early-stage VC firm Fathom Capital, alongside Elizabeth Lowell, formerly vice president at Jeffrey Katzenberg’s WndrCo (now WNDR), and Preston Moore, previously an investor at Coatue.
Komkov says Megalith’s first, $110 million fund was a “proof of concept.” As more funds came forward with deals for the firm to back—about $1 billion in potential such deals this year alone—Komkov said he realized the firm could expand much further. It now has more than $500 million in assets under management, Romano said in the note to Lightspeed’s limited partners.
It typically writes checks of between $5 million and $10 million, though investments can increase to $25 million, including co-investments from limited partners, Komkov said. It makes money by charging a 1.25% blended management fee, less than larger firms, which usually charge 2.5%.
While the 20% carry ends up with the seed fund, Megalith gets extra for outperformance: once the realized profits increase twofold, Megalith gets 7.5% of those marginal, or additional, profits. That blended carry, of about 23%, is less than the 30% many large firms charge for early-stage funds, the partners said.
Megalith isn’t the only firm trying to find new ways to back young startups when their growth takes off. Some limited partners, like Singapore sovereign wealth fund GIC, have developed venture arms that have become prominent direct investors. GIC, for instance, co-led Anthropic’s funding round that valued the Claude maker at $380 billion. Many firms, such as Lightspeed, have helped their LPs directly invest in startup funding rounds.
Last year, former Founders Fund general partner Brian Singerman co-founded a new firm, GPx, that uses a portion of its money to invest in emerging managers’ funds and the majority to back those funds’ high-conviction bets. GPx’s fund invests alongside the fund manager so that the manager can lead a round. Unlike Megalith, the emerging managers may be in any stage, from early to late.
And more than a decade ago, investor Steve Brotman set up a firm, Alpha Partners, to co-invest alongside early-stage funds to help them exercise their pro rata rights.
It’s easy to see firms like Megalith as a symptom of this AI-driven market’s steep valuations that have priced out managers or led to the proliferation of alternative vehicles to raise money for mega rounds, such as special purpose vehicles.
Kimkov acknowledged the bull market’s pace of deals but noted the first fund weathered six quarters of a bear market as interest rates spiked in 2022. He said it’s this boom-bust cycle that makes it even more urgent for pensions and endowments to get into early-stage startups. “Being only in late-stage growth, that makes you a lot more susceptible to the ebbs and flows valuation,” Romano said.
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