As VCs and large institutional investors take the plunge into seed financing-and begin to incorporate the concept of incubators into their existing offices - one has to ask what’s the impact?  From the entrepreneurs perspective the upsides include: more funding choices in early stages, hence a greater chance to get the capital to build up your idea and show its viability;  access to the expertise of VCs and their advisors, and perhaps;  the security, albeit fleeting, of having a big player supporting your venture from the get-go.

Not to be a complete downer on this recent trend, but if you are talking to a VC or a large institution investor about the possibility of incubating your start-up, ther are some possible downsides to keep in mind.

When the time comes the VC may choose to pass up participating in the first round of venture financing for your company.  Are you prepared for this?  Getting passed up during the venture round by the VC that seed-funded you might create a high barrier to overcome when you’re meeting with other potential investors. Do you have a good answer for when an investors asks you:  “You had company X put down $250,000 to seed you through the incubation phase, why haven’t they chosen to lead or even partake in the first round of VC financing?”

Why your company is passed up, unfortunately, could have nothing to do with the viability of your idea or the potential success of your business, but it will get people thinking.  Remember, putting down $250,000 in seed on an interesting idea and a great entrepreneurial team is very different from putting down $4 - 5 Million even if you met your milestones.  Just the loss of a cheerleader at the VC or the fact that your company is operating in a space or using a business model that the VC is not fully comfortable with, might stop them from participating in a larger equity capital round.  

If they are prepared to invest in a venture round, the VC will probably be in the drivers seat.  They probably already have a right of first offer as a provision of their seed investment.  More detrimentally, there will exist a sort of mental curtain around the start-up team in terms of their other financing options.  Think about it, if you are incubated by a VC, chances are that you are probably not making the rounds, talking to potential investors, talking to Angels, being introduced to other VCs as you approach the VC funding stage.  VCs might make a strong play to participate in VC funding only if they can lead a syndicate of other institututional investors.  This comes with its own set of challenges and its own set of downsides for the company, but that is a story for another blog.