DEFINITION of Pledge Fund

A pledge fund is a special type of investment platform in which members work toward a specific investment goal by making defined contributions in a pool over a period of time. Many angel investors have started to employ a pledge fund format in venture capital investing.

BREAKING DOWN Pledge Fund

After the dotcom bubble, venture capitalists became more concerned about the startup companies that they would finance. Many venture capitalists decided to set up pledge fund-style angel investor clubs instead of following the conventional format that was popularized in the 1990s. This was largely because using a pledge fund format would not force individual angel investors to invest in ventures that the majority of the group decided on, but would allow each member to elect whether to take part in an investment opportunity on a case-by-case basis. This method was well received by investors who were skittish about startup investments after the dotcom bubble had burst.

How a Pledge Fund Operates

Pledge funds can be launched to pursue investment opportunities across a multitude of industries and business sectors, including the real estate and energy markets. The concept is not limited to backing startups. Due to the nature of a pledge fund, wherein investments are made on a per-deal basis, members may find it easier to raise funds, compared with other types of investment platforms.

The format and structure of a pledge fund can still resemble a conventional private equity fund to a certain degree. Cash is contributed to a special purpose vehicle, and in turn shares are purchased per the deal. Investors may also be called upon to pay certain operating expenses. However, there is a considerable amount of greater control over how and where deals are made. A pledge fund offers even more assertive control over deals when compared with a blind investment pool, which takes funding from investors but without a stated objective for the deals that will be made.

There are potential drawbacks to a pledge fund and its limited partnership structure. For instance, more time may be needed to assess and screen investment opportunities, which is counterproductive to the opportunist nature of a pledge fund. It may also be harder in some cases to bring on third-party co-investors for a given deal.

The target of the investment might not be as receptive to a pledge fund and could instead opt for traditional, committed equity. Furthermore, committed equity deals might close more immediately than a pledge fund.