The Definitive Guide to Venture Capital Fund-of-Funds (2024)

A new report by Mountside Ventures reveals and analyses what the largest Limited Partner base in Europe, Fund-of-Funds, looks for when investing in VCs.

This week, we released our inaugural Venture Capital Fund-of-Fund (FoF) report, diving into the world of the largest Limited Partner base in Europe.

The report provides insights from 100+ global investors across 50 data points, with over £35 billion in assets under management (AUM) being deployed into VCs funds over the next 3 years. It’s the first time such a comprehensive analysis has been conducted with a focus on venture. The resulting study outlines the thesis, investment process and insights from the most common investors into VCs.

It builds upon our Capital Behind Venture Report, released in late 2020, which analysed responses from 63 Limited Partners who invest in Venture Capital (VC) funds. That report provided a first step into making the ecosystem more transparent and shedding light on best practices, preferred terms and practical advice for fund managers.

The report is published in partnership with the BVCA, Maxio and i³ investing. I would like to thank all 104 Fund-of-Funds who contributed, without whom this initiative would not have been possible.

Our objective in publishing this guide is to increase transparency in the VC and LP ecosystem by demystifying the world of Fund-of-Funds for emerging VCs, as well as providing a guide for LPs on how their peers are investing, and what they look for.

Without Fund-of-Funds, there would be no VC scene in Europe. They continue to be a critical component of a well functioning private market given the current lack of appetite from corporates and pension funds, and are the largest pool of funding available to new managers.

Ultimately, we want to increase the likelihood of emerging fund managers successfully closing their next fund by providing them with best practices, insights on terms and practical advice.

We’ve summarised the conclusion of the report below:

• A Fund-of-Fund (FoF) is an investment company which holds a portfolio of other investment funds such as Venture Capital (VC) funds. We segment them by generalists, VC-specific, Public, Retail and VCs. They are the largest Limited Partners (LP) investing in VCs in Europe
• Benefits of investing in FoFs include financial returns, access to emerging managers and co-investments, diversification and education, whilst drawbacks include illiquid assets, fees and portfolio bias.
• The report provides insights from 100+ global investors across 50 data points, with over £35 billion in assets under management (AUM) being deployed into over 700 VCs per year.
• A FoF’s appetite to invest in VCs is driven by returns, diversification, ecosystem contributions, deal-flow and market intelligence. Track record continues to be the most important criteria when selecting funds. Around half of FoFs have restrictions in where they invest which are geographic, sector-specific or size-related.
• 14k VC decks (in total) are screened each year, 9k VCs are interviewed, resulting in around 740 investments, representing around 5% of the population.
• The majority of FoFs want to engage VCs as early as possible in their fundraising cycle and knew them 1–2 years before committing.
• FoFs, like VCs, take an active role in the funds they back. They are particularly interested, in order of importance, in regular communication and reports, access to co-investment opportunities, thought leadership and a seat on the LP Advisory Committee.
• Emerging VC Managers, as result of their sector expertise, operational track record and differentiated strategy, make up a significant proportion of a FoF’s investments. 85% had invested in that community in the last three years, with 44% of them as cornerstone investors.
• The three biggest frustrations when VCs pitch their fund are a lack of differentiation, poor relationship building, and dishonesty.
• Luxembourg is the preferred jurisdiction, and 4 in 10 FoFs had a restriction on the amount available to invest.
• 1 in 4 FoFs have a requirement towards diversity investing, with women and ethnic minorities being the most sought groups after due to positive change in the ecosystem, better returns and better governance.

What is a Fund-of-Fund?

A Fund-of-Fund (FoF) is an investment company which holds a portfolio of other investment funds rather than a portfolio of companies. They are also known as multi-manager investment funds. We have identified 5 types of Fund-of-Funds involved in VC investing:

Types of FoFs

Benefits and drawbacks of investing in a Fund-of-Fund

• There are many benefits to investing in a Fund-of-Fund, instead of a Venture Capital fund, including access, diversification and education.
• Challenges include selection bias in the underlying portfolio, higher management fees and investing in illiquid assets.

There is no one-size-fits-all-all with emerging managers, nor is there a consensus on how they are defined. However, funds I-III remain the most common definition of an emerging VC in the eyes of the FoF community.

Emerging Managers continue to be the largest investee base of VC Fund-of-Funds due to their sector expertise, operational track record and differentiated strategy. 85% had invested in that community in the last three years, with 44% of them as cornerstone investors.

New and developing VC firms are consistently among the top 10 performers in the asset class, accounting for 72% of the top returning firms.

Cambridge Associates

A third of FoFs still think there are not enough opportunities to meet best-in-class VCs. This is something we’ve been addressing by running Europe’s leading LP-focused event bringing together 20 of the best emerging VC managers, and 100+ Family Offices and Limited Partners, through the Funding Venture Conference.

There were plenty of opinions on what needs to change about the current fundraising environment and what VCs should do differently. We featured a selection of these ideas below:

Improve the regulatory environment for non-EU investors.

Jessica Archibald, Top Tier Capital

Use taxpayer money to create a more private FoF ecosystem, instead of trying to replace or distort the market.

Ertan Can, Multiple Capital

To see more emerging managers with differentiation — thesis development and unique perspectives are key.

Dario de Wet, LTV Capital

LPs share many similar frustrations to VCs, with startups. 3 themes emerged from this topic; a lack of differentiation, poor relationship-building, and not being honest.

Don’t lie to me. Be honest if there has been team turnover, if your performance doesn’t include carry, or if there are companies that might decline in value. We ultimately find out.

Their own superiority

I don’t care if you got into a deal in a round after Index invested, I care whether you were a first ticket into a company, then brought Index in to follow on

Fake commitments

We teamed up with our partners at i3 investing, who are making VC more inclusive & intersectional (people who identify as belonging to various underrepresented minority groups). Where people responded, we collected anonymised information on the people behind the funds.

At a fund level:

• 1 in 4 FoFs have a requirement towards diversity investing, with women and ethnic minorities being the most sought groups after due to positive change in the ecosystem, better returns and better governance
• The most common reasons for backing diverse managers were to drive: Positive change in the ecosystem through a broader range of perspectives, better returns and better governance and decision-making

At an individual level:

• Looking at gender; 78% were men, 20% were women and 2% identified as other.
• 16% identified as intersectional and 2% identified as LGBTQ+
• White was the most common ethnic background, representing 83% of the respondents. Other respondents indicated they were Mixed Race, East Asian, Black and Other.
• There was a diverse spread of countries participants were born in, with no country making up more than 15% of the responses.

When analysing fund performance for Fund-of-Fund investing in US and European VCs, the data is clear — early vintages show strong financial returns across both the top quartile, median and third quartile across the Fund-of-Fund population. Later vintages (2016 onwards) also show reasonable performances even if they are still quite early in their fund lifecycle.

We interviewed three leading Fund-of-Funds in Europe and reproduced the Q&A in the report. Download the full report to hear what they look for in the VCs they back, what they think needs to change in the VC LP ecosystem, what they see changing as a result of tech and AI in the industry and what advice they would give to emerging fund managers.

👉 For a deeper dive and to explore the full analysis which includes more information on what LPs are investing in, and additional insights for VCs, the report is accessible free to download here. For further fundraising resources, click here.

Collecting this information from one of the more secretive communities in the ecosystem was no easy task, so I’d love to hear from you on what you liked or thought we should improve via jonathan@mountsideventures.com.

Mountside Ventures is Europe’s leading accelerator and early-stage advisory firm, on a mission to optimise the fundraising process for founders and funds and be their first point of call.