Incentives Are Everything

By Max Reiff, Partner

The Modern Misalignment In VC

Three primary players shape the venture capital ecosystem: General Partners (GPs), Limited Partners (LPs), and Founders (Portfolio Companies). LPs, including pension funds, universities, and family offices, provide capital to GPs, who then invest in startups led by founders. Traditionally, these relationships were inherently aligned and success flowed through the entire chain: when founders won, GPs and LPs won too.

With scale however, the VC landscape evolved, and alignment between GPs and founders became less inherent in the business model. As noted by Altimeter Capital’s Jamin Ball in his piece Misaligned Incentives, today’s inflated fund sizes have created perverse incentives that often conflict with founders’ long-term interests. As such, founders should be wary of firms where rapid capital deployment outweighs genuine partnership and support.

As a firm with a 25% GP stake, we’re committed to transparency about these dynamics, because knowing who is really in your corner makes all the difference.

The Evolution of VC Incentives: From 20% to 2%

In the early days, venture capital was relatively straightforward. Funds were smaller, and GPs were motivated by the “2 and 20” model: 2% management fees and 20% carried interest (profits on successful investments). GPs focused heavily on the 20%, which only materialized when portfolio companies achieved major exits. This aligned the incentives between GPs and founders, creating a shared goal: build great companies, generate massive outcomes, and profit together.

However, as the industry scaled, the landscape shifted. Fund sizes ballooned, and with larger pools of LP capital (often with lower return expectations), management fees — the guaranteed 2% — became more meaningful. A $100M fund at 2% provided $2M annually for salaries and operating expenses, but as funds grew to $500M or $1B, the management fees scaled proportionally, often outweighing the uncertain upside of carried interest. This reality has led many GPs to prioritize raising and deploying large amounts of capital to capture guaranteed fees, even if the success of their underlying portfolio companies remains secondary.

How This Affects Founders

For founders, this shift in GP incentives presents new challenges. What was once a game centered on achieving material exits has, for some investors, become a game of rapid capital deployment. This is not just a theoretical concern — it directly impacts how GPs engage with startups.

The critical question for founders then becomes: Are you working with a 2% or a 20% firm?

This distinction can profoundly impact your company’s journey. While 2% firms prioritize quick capital deployment to optimize for management fees, often treating companies as vessels for AUM (assets under management), 20% firms focus on aligning with founders to build enduring, high-impact companies that create meaningful exits for all stakeholders.

Signs of a 2% Firm

1. Oversized Rounds and Inflated Valuations:

If you’re offered significantly more capital than you need, it might be a red flag. While a $50M round being upsized to $100M can seem enticing, it often reflects an investor’s focus on capital deployment rather than conviction in your business’s true potential. Accepting higher valuations early on can also set expectations that are difficult to meet, risking your future funding options.

Ask yourself: Is this investor committed to your long-term vision, or are they rushing capital to justify fund size? From 2020 to 2022, many lofty valuations came with pressures that didn’t always align with sustained growth. The results speak for themselves.

2. Transactional Support:

While the Power Law in venture capital dictates that a small number of portfolio companies often drive outsized returns, this doesn’t justify neglecting the rest. Some firms treat startups as “call options,” assuming most will fail and offering limited support beyond initial investments. This transactional approach leaves founders without the guidance they need during critical moments. Founders deserve investors who recognize the potential in every company, offering hands-on help and doubling down when challenges arise, rather than retreating in difficult times.

Ask yourself: Will this investor stand by you when obstacles arise, or will they back out, viewing your company as just another swing?

3. Minimal Engagement:

Some firms spread themselves too thin, lacking the bandwidth or specialized know-how to meaningfully support a growing portfolio. Founders partnering with such firms may find themselves competing for attention or relying on generic advice that doesn’t address their unique challenges. A truly engaged investor brings a diverse skill set and the capacity to offer tailored guidance to every company, ensuring no founder is left to navigate critical moments alone.

Ask yourself: How engaged can this investor realistically be, given their portfolio size?

Aligning Incentives for Success

Ultimately, the question is one of alignment: Is the investor prioritizing management fees through quick deployments, or are they deeply invested in helping you achieve shared, long-term success? This isn’t about fund size alone — large funds can certainly be aligned with founders — but rather about the culture that underpins their strategy and partnership that follows.

Final Thoughts: Choose Partners Wisely

The venture ecosystem has evolved, and not every VC is playing the same game. As a founder, it’s more important than ever to understand which game your investor is playing:

• 2% Game: Focused on raising large funds, deploying capital quickly, and collecting large and steady management fees.
• 20% Game: Committed to creating meaningful outcomes by partnering with founders to build companies that deliver exceptional exits.

So, when choosing investors, ask the tough questions:

• Why are they offering this amount of capital?
• How many companies are they actively supporting?
• Do they have the conviction to stay with you through challenges, or are they merely deploying capital?

Building an enduring business is incredibly challenging, and the stakes are too high for misaligned incentives. The right partners should share in your long-term vision and be fully invested in the journey, optimizing for transformative outcomes rather than incremental gains no matter the circumstances. They should be there without hesitation when challenges arise, which they will, and willingly roll up their sleeves in the face of chaos.

At the end of the day, this level of alignment only happens when their personal success is directly tied to yours. That’s why we don’t just optimize for the 20% game; we also maintain a significant GP stake of 25% in our funds as well, ensuring our success is deeply aligned with our founders.

We’re not here to just deploy capital. We’re here to build something remarkable, together.