Building a geo-specific investment thesis has its benefits and unique challenges.
There has been an unequal geographic distribution of venture capital. More than half of all venture capital offices in the U.S. are located in three metropolitan cities—San Francisco/Silicon Valley, New York, and Boston. Firms also disproportionately invest in startups in those areas, with 49% of all startups, with venture funding, physically located in those respective three cities.
A well capitalized area lends itself to more successful startups, which in turn brings more founders and startups to the area, this spurs more funding, and the cycle continues. With this understanding, more geography-focused venture capital firms are popping up across the US—Groove Capital included.
Startups are under no obligation to stay physically where they were started, but they often do. This means that the value—job creation, tax revenue, increased purchasing power—created by those startups reverberates in the local economy. According to the Small Business Administration, small companies account for 64% of new jobs created in the United States.
Additionally, successful founders often go on to become angel investors and philanthropists. When they reinvest in their area it furthers the positive feedback loop. And, although less tangible, successful entrepreneurs act as an example to future generations, signaling that the community is growing and success is possible.
People feel connected to their homes, communities, and states and the same is true for investors. Many investors (LPs and angels) look at early stage investments as an opportunity not only to earn a positive return, but also as a way to have local impact. Especially in underserved markets this can be massively important, and many investors understand this need. Geo-specific funds can make it easier for investors to tap into this goal to create a double bottom line with their money—seeking a return on investment and creating positive community benefits.
By operating in a well defined market, funds or angels can build a strong brand and position themselves to become the “go-to” group or person in the area. Leveraging this tight-knit network, is a superpower. This sets the foundation for increased referrals and spurs healthy deal flow of the area’s most promising startups.
Obviously it is impossible to screen every single deal in the world, so using location as a primary screening tool can be an efficient way to reduce deal flow to a more manageable size. This greater focus allows investors to be more tuned into their own locale, making it less likely to miss good deals when they come up.
With the rise of remote work, some of the traditional reasons to be located within a startup hub are becoming less compelling. Skilled workers, especially in tech, can login wherever they live allowing startups to tap into a wider array of talent despite where they live. Plus startups can benefit from the lower cost of doing business outside of these major markets, this in turn also saves investors money.
It’s not all upside though. As with all things, geo-specific investing has challenges. One of the biggest potential downsides to a geo-specific strategy is saying “no” to great deals that are simply out of market. Because the bulk of returns in venture capital is made off of a small number of winners, missing just a few deals that hit it big can be detrimental.
Additionally there is risk of going too narrow, especially when combining a geo-specific strategy with other investment thesis criteria. It is important to make sure there are enough quality deals in a region that fit both the geo-scope and thesis focus, in order to strike a balance and not inadvertently be too limiting. Adding a geographic filter may not be a fit for everyone, but the value created through returns and community impact can be transformative for those who do.