I think one problem is opportunity cost for the VC. Arguably, they have to spend as much time on diligence for that .25MM investment as for a 10MM one. Put another way, to deploy a $125MM fund, you’d have to do 500 of these microinvestments.

Not just the diligence. Also the time post investment to mentor the founders and deal with various problems that crop up over the year. No startup older than a year or two that hasn't seen at least one major crisis that could have killed the company (and in many cases it does).

VC investors look aim for 12% return, approx 3x over 10 years. But returns are hugely variable (power law?), so returns heavily dependent on one winner e.g. one success at 30x out of 10 investments gives 3x.

Your numbers don't work unless you can get 10x returns on 3 out of 10 investments (which seems unlikely).

https://techcrunch.com/2017/06/01/the-meeting-that-showed-me...

Edit: And how far is that $250k going to stretch on salaries, especially over a few years!

You got it right: VCs are not interested in that 250k investment, and you forgot the time component - they want that 10x over a relatively short period (<5-10 years) that the small business is unlikely to achieve. Plus there is nobody to sell to if it’s not a growth stock, publicly traded, and no incentive to buy back the shares. The company will be pushed harder and to invest in growth strategies that make it not-a-lifestyle-business anymore, i.e. a startup.

You cannot have it both ways, and why would you even need a huge lump of cash for a business that is already sustainable? Traditional loans are a much safer source of funding for that.

Why would a company bother buying back the investment? Surely there’s not much reason to do that unless the terms of the investment were different than what is common today.