6 concepts to guide colleges that are getting into the venture capital game

While university funds have great potential, they also face distinct challenges

By: Claire Broido Johnson and Joseph Kannarkat | September 9, 2021

Universities have long been viewed as spawning grounds for entrepreneurs and start-up companies. Now, many of those same universities have begun to focus on their ability to garner venture funding that can help launch those entrepreneurs and start-up firms.

Last year, PitchBook—a financial data company that tracks public and private equity markets—reported that since 2006, start-up founders at the top 50 undergraduate programs have created nearly 24,000 companies and raised over $660 billion in capital.

Historically, start-ups have acquired funding through external sources like venture capital (VC), angel investment or loans. Many universities, however, are starting to build VC-style funds to support start-ups born from their ecosystems.

While university funds have great potential, they also face distinct challenges. To fulfill university missions and align with academia, universities may need to diverge from VC-based principals, adapting everything from structure and management to objectives and expectations.

University funds come in all sizes. Some are managed by university employees and receive funding from philanthropy, allocated university funds, or public funds (particularly if they are affiliated with a state institution). For example, the Maryland Momentum Fund is a $10 million fund established with public funds and is managed by the University System of Maryland (USM).

Other funds are managed by third parties in collaboration with a university and operate more like traditional VCs (i.e., use of private and limited partners). This includes funds like Carolina Research Ventures Fund, which is run by Hatteras Venture Partners in connection with the University of North Carolina-Chapel Hill.

In the middle of the spectrum are funds managed by non-university managers which blend elements of both sides, particularly in their funding streams.

The management structure can impact the purpose of the fund. Unlike traditional funds, some universities have non-financial goals built into their investment mission—supporting underrepresented founders, keeping graduates in the region, or building the entrepreneurial ecosystem to name a few.

This may lead to investments that do not focus on maximizing a financial return-on-investment (ROI).

The UT Horizon Fund, a university fund spun out of the University of Texas System, has a mission to create both “social and financial wealth.”

While traditional VC funds may focus more on maximizing returns and minimizing financial risk, the UT Horizon Fund’s mission may change that balance, favoring support of the university entrepreneurial ecosystem overall.

Complexity and care are required

Here’s what universities should consider while building funds.

1. The role of a university fund in the start-up ecosystem. Funds should seek to address gaps in funding opportunities while avoiding unnecessary duplication of offerings.

2. Financing restrictions (e.g., public versus private) on the funds to be invested. Funds allocated for VC purposes may not be entirely discretionary, creating challenges with what types of companies can be funded and the mechanisms by which university funds can dispense capital.

3. Responsible allocation and financial management of capital. The stage of investment, fund size, expected returns, and timeline for those returns should be predetermined. This will determine the pace, type of investments to make at different points in the fund’s lifecycle, and extent that follow-on investments will be made.

Whether the fund capital is secured in a lump sum or in tranches, there needs to be enough capital on hand to take advantage of the best new opportunities while maintaining enough reserves for follow-on investing.

4. How investments will be evaluated. If there are multiple goals beyond strict financial ROI, the university should plan how they will measure non-financial impact to properly account for their net impact. Social impact assessment frameworks—tools that assess and manage the social consequences of activities—are helpful for capturing traditionally non-measurable impact.

5. Establishing processes to de-risk investments. With multiple missions, especially non-financial ones, it’s important to have proper processes for evaluating and de-risking potential investments (e.g., not foregoing examination of financial viability, market opportunity, and appropriate product-market fit for the sole sake of meeting a university’s non-financial goals).

One approach is a shared-risk investment structure, which may require an independent VC to match or co-invest along with the university fund. Another approach could be to recruit an external advisory board consisting of VCs to provide feedback on investment decisions.

6. University funds are only one resource universities can use to support innovation. Holistic pathways for product commercialization that include services such as intellectual property protection are also necessary. However, with proper preparation, universities can leverage their funds to introduce start-ups to their commercialization framework and make meaningful impacts in their university ecosystems.

Despite the complexity and care that can be required, higher education investment funds have become an important way for universities to contribute to the economic development of their states and regions as well as benefit the growth of students and faculty. Campus leaders would be wise to consider them as a potentially very important component of their institution’s economic development and advancement strategy.

Claire Broido Johnson is the managing director of the University System of Maryland’s Maryland Momentum Fund. She can be reached at cbjohnson@usmd.edu

Joseph Kannarkat is a third-year medical school student at the University of Maryland School of Medicine. He works with the Maryland Momentum Fund to evaluate potential investment opportunities in life science companies. He can be reached at Joseph.kannarkat@som.umaryland.edu.

Source: University Business