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Who Should NEVER Start a VC Fund? | Sam Huleatt | Superclusters | S7E3

sam huleatt

“Lower barriers to entry doesn’t mean higher probabilities of success.” — Sam Huleatt

Sam Huleatt is the co-founder of The Side Letter, a platform driving network-based research for capital allocators. Prior to The Side Letter, he created and ran the The LP Institute at VC Lab, as well as let On Deck Angels at On Deck. Moreover, he’s a serial founder, active angel investor in over 35 companies, and an active allocator in emerging fund managers, including the likes of Notation Capital, Orange Fund, Inuka Capital, Asylum Capital, and more.

You can find Sam on his socials here:
LinkedIn: https://www.linkedin.com/in/samhuleatt/
X / Twitter: https://x.com/samhuleatt

Listen to the episode on Apple Podcasts and Spotify. You can also watch the episode on YouTube here.

OUTLINE:

[00:00] Intro
[01:34] Sam’s childhood
[03:24] The most persistent myth about Sam he never bothered to correct
[05:47] Bottom-up vs top-down investor
[13:37] Can career VCs develop empathy for the founder?
[18:43] Traits of someone who should definitely start a fund
[26:45] Traits of someone who should NEVER start a fund
[28:09] Air of inevitability
[33:44] Why was Outlander VC inevitable?
[36:11] Where should 60% of your Fund I capital come from?
[41:47] Starting a VC fund is hard
[44:46] Do LPs like GP accelerators?
[51:35] Top 3 considerations for first-time LPs
[58:03] How many GPs should 1st-time LPs meet?
[1:01:06] Governing law of VC: Adverse selection
[1:04:40] Incentive alignment on fees
[1:06:36] Terms in LPAs vs side letters
[1:11:16] What is The Side Letter?

SELECT LINKS FROM THIS EPISODE:

SELECT QUOTES FROM THIS EPISODE:

“A career VC has a lot more experience having been on boards. And because of that, because they’ve been a career VC, they’ve seen more companies operating at scale and the issues that come into play in those cases, whereas operators-turned-GPs often have a narrow aperture because they’ve spent most of their career at one or two companies. On the one hand, the operator-GP obviously has a lot of empathy for founders because they’ve been that founder, but they probably haven’t experienced all of the difficult issues that come up as companies scale across lots of different environments. Career VCs have.” — Sam Huleatt

“The best investors have an air of inevitability. It’s not asking for permission or doing something because it’s perceived to be high status.” — Sam Huleatt

“Lower barriers to entry doesn’t mean higher probabilities of success.” — Sam Huleatt

“Most people, after starting a fund, should assume that 60% of that Fund I—you should raise that from first-degree connections—people you already know. It may not be easy, but if you don’t have a network that’s large enough or has those resources, you either need to reconsider your fund target size or maybe you need to spend more time building your network before you start to go out and do that raise.” — Sam Huleatt

“If you don’t have an edge going into [a GP] accelerator, you’re certainly not going to find an edge in the accelerator.” — Sam Huleatt

“Why do the best GPs in the world want you to be on the cap table? A lot of people forget that a key aspect of venture is not just picking, but being picked. That’s true for LPs and it’s true for GPs.” — Sam Huleatt

If you somehow made it to the bottom of these show notes, I’m also trying a new experiment where I write my reactions to the episode on my second blog, Superclusters After Hours. For Sam’s episode, you can find my reactions here.

Follow David Zhou for more Superclusters content:
For podcast show notes: https://cupofzhou.com/superclusters
Follow David Zhou’s blog: https://cupofzhou.com
Follow Superclusters on Twitter: https://twitter.com/SuperclustersLP
Follow Superclusters on TikTok: https://www.tiktok.com/@super.clusters
Follow Superclusters on Instagram: https://instagram.com/super.clusters

Stay up to date with the weekly cup of cognitive adventures inside venture capital and startups, as well as cataloging the history of tomorrow through the bookmarks of yesterday!

The views expressed on this blogpost are for informational purposes only. None of the views expressed herein constitute legal, investment, business, or tax advice. Any allusions or references to funds or companies are for illustrative purposes only, and should not be relied upon as investment recommendations. Consult a professional investment advisor prior to making any investment decisions.

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Permanence

ink, permanent, permanence

When I first started journaling again after years of not doing so (If you’re reading this, thank you, Professor Kellogg), I did so with pen and paper. Mostly due to an exercise Professor Kellogg had us do by finding comfort in the mistakes you make along the way. That that too is art. Is expression. Is personality. Most of my classmates eventually regressed back to pencil for notetaking or digital devices, but it is a practice that has stuck with me even till today.

When I first started dating my now girlfriend, she noticed me writing in ink. Every so often, I’d mess up and just strike through the words that were misplaced in my notes. She’d ask me why I didn’t write with a pencil. To which, I told her what Professor Kellogg told me and that over time, it became a habit. It made me write more intentionally. Also, I will note that ink looks better on paper than graphite does. At least when it comes to writing. High contrast, you know.

I grew up at the tail end of the Kodak and camera roll. I remember a time when every picture had to be taken with intention. With purpose. The framing had to be right. The lighting had to be perfect. The eyes had to stay open on flash. We now live in a world where digitial hoarding has become really, really easy. Google’s got me good, making m pay more and more as I somehow never delete emails anymore, only archiving them. One of my good friends has over 35,000 photos on her iCloud, and hasn’t deleted a single one since the first one was taken. Still a crazy number to me.

At the same time, the ephemera of the internet makes things easy to forget. Easy to erase. Public and private mistakes are erased as if there’s no digital footprint in the first place. Nearly every messaging platform allows you to delete a DM you send. I say “nearly” since I haven’t tried every single one out there. But it’s most likely, all. Snap was born on the idea of erasure, something many other platforms have inherited. Any post, tweet, or website can be erased. Many assume that you write in pencil, but forget even after rubber absorbs the graphite into its folds, the indelible imprint still exists. Watch any spy moie where they smear more graphite over an erased string of words to reveal the negative spacing of the letters that were, if you don’t believe me.

So, for those who share their voice in whatever capacity on the digital world, never forget the echo. The web archives exist. “This message has been deleted” exists. Local downloads exist. Witnesses exist. Screenshots exist. Granola exists.

As our civilization gets closer to a world that never forgets, what more can we do?

What less should we do?

Just a gentle reminder that we all write with pen on paper.

Photo by Nicolas Thomas on Unsplash

Stay up to date with the weekly cup of cognitive adventures inside venture capital and startups, as well as cataloging the history of tomorrow through the bookmarks of yesterday!

The views expressed on this blogpost are for informational purposes only. None of the views expressed herein constitute legal, investment, business, or tax advice. Any allusions or references to funds or companies are for illustrative purposes only, and should not be relied upon as investment recommendations. Consult a professional investment advisor prior to making any investment decisions.

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“I Write-Off Every Sourcing Slide” | Alex Felman | Superclusters | S7E2

alex felman

“The game you play as you’re building a reputation becomes a different game than when you have a reputation. And I tend to find, from an LP’s perspective, when you’re building reputation, that’s actually when you deliver the most value.” — Alex Felman

Alex Felman is an entrepreneurial and family office professional. For over 10 years, as a second-generation member, he has run his own family office, Felman Family Office, and works with family offices around the world through his family’s multifamily group, MSF Capital Advisors. Using his expertise in Molecular Toxicology and Bio-entrepreneurship (B.A from University of California -Berkeley, MBA from Copenhagen Business School), he advises them in biotechnology, healthcare, and other futuristic tech industries with the goal of maintaining long-term wealth through innovation. He regularly speaks at family office and private wealth events on topics such as tech investment, manager selection, generation and succession issues, rising generation trends, and more.

He has used his experience within the family office industry and 20 year background as an educator to create Exponential U, a family office education program designed to help families become multigenerationally sustainable. His proprietary L3 framework (Learn, Leverage, Legacy) allows the holistic development of family members to ensure a smooth leadership transition.

You can find Alex on his socials here:
LinkedIn: https://www.linkedin.com/in/alexwfelman/

Listen to the episode on Apple Podcasts and Spotify. You can also watch the episode on YouTube here.

OUTLINE:

[00:00] Intro
[04:36] The ‘tastemaker’ for family offices
[05:54] Exploration vs discipline
[08:15] The hero’s journey in investing
[09:49] The life line
[13:39] Building and having reputation
[16:06] Risk appetites for asset owners & allocators
[18:44] Why won’t an institution invest in me?
[19:50] The quiet thing LPs don’t talk about
[25:15] When did Alex get involved with his family office?
[29:09] Writing off sourcing slides
[35:33] Different flavors of “sourcing from YC”
[38:41] Emerging GPs are “investments-as-a-service”
[40:08] Fund power law is greater than startups’
[43:44] Emotional value of investing in funds
[44:45] Most VC funds are scams!
[50:01] Optimistic cynic
[51:43] Reminders today about the good ol’ days
[54:17] Late stage capitalism
[59:10] Post-credit scene: Dave Chappelle and podcasts

SELECT LINKS FROM THIS EPISODE:

SELECT QUOTES FROM THIS EPISODE:

“Every great conversation dances on the line of your understanding. You dance between both sides of the line and try to find out where what you know and what they know intersect and end. Good conversation is like play.” — Alex Felman

“With my background from the family offices, I almost believe that most family offices moving forward will need their own personal tastemaker or sommelier. Someone who’s curating the world specifically for the needs of that family.” — Alex Felman

“People get into trouble when they’re using the wrong tool or trying to do something for a different purpose. For example, I’m going to try to do discovery when I’m in my routine. Ok, you’re probably running into problems. Or routinizing my discovery. Those two things are in conflict with each other.” — Alex Felman

“One of the things people always forget—… What they remember from the hero’s journey is adventure, and we fight the dragon, and we get the treasure. But at the end of the hero’s journey, you’re supposed to bring that back to your community. And you’re supposed to forward it to your community. And you’re supposed to make your community better from the dragons and the treasure that you fight or find. Most people often leave off that last part. And I actually think that last part is extremely important.” — Alex Felman

“The game you play as you’re building a reputation becomes a different game than when you have a reputation. And I tend to find, from an LP’s perspective, when you’re building reputation, that’s actually when you deliver the most value.” — Alex Felman

“If you have a family office where you’ve actually outsourced it, your employee is more of an allocator than an owner. And in that case, that allocator is often making decisions to save their own job. Or to ensure that they continue to have a job.” — Alex Felman

“What I find is slightly sad is that ultimately because of security and comfort reasons, things like people’s pensions which should be more secure, are actually, in my opinion, taking riskier bets. And bets that will lead to worse outcomes.” — Alex Felman

“I believe that the amount of due diligence you do doesn’t matter depending on the deal size. So let’s say they’re writing five $100 million checks compared to 100 $5 million checks, that is literally 20 times the amount of work. So even if they’ll get a better return on that 100 $5 [million checks], on a realistic level, it forces them to play certain types of games.” — Alex Felman

“With at least funds on a standard two and twenty, somewhere around $75-100 million fund size is where the incentives shift from being carry-oriented to management-fee oriented. Once you get larger than that, then it actually becomes more incentivized for the fund managers to build up their funds than the actual returns itself.” — Alex Felman

“I would argue that power laws apply even more to funds than to startups.” — Alex Felman

“The intersection of venture as a product or service meets venture as a job career. And there are a lot of fund managers who see venture as a job career and essentially want to use it as a way to get a paycheck. And because of that, they’re going to put out a fairly boilerplate fund.” — Alex Felman

“Many venture funds are basically scams. I believe it’s a scam if you knowingly sell something you know you can’t deliver on. And the dirty secret in venture is if you purely look at venture from a financial point of view, most fund managers know they cannot hit their targets and yet they still sell that promise anyway. And I think that starts to become kind of scammy.” — Alex Felman

If you somehow made it to the bottom of these show notes, I’m also trying a new experiment where I write my reactions to the episode on my second blog, Superclusters After Hours. For Alex’s episode, you can find my reactions here.

Follow David Zhou for more Superclusters content:
For podcast show notes: https://cupofzhou.com/superclusters
Follow David Zhou’s blog: https://cupofzhou.com
Follow Superclusters on Twitter: https://twitter.com/SuperclustersLP
Follow Superclusters on TikTok: https://www.tiktok.com/@super.clusters
Follow Superclusters on Instagram: https://instagram.com/super.clusters

Stay up to date with the weekly cup of cognitive adventures inside venture capital and startups, as well as cataloging the history of tomorrow through the bookmarks of yesterday!

The views expressed on this blogpost are for informational purposes only. None of the views expressed herein constitute legal, investment, business, or tax advice. Any allusions or references to funds or companies are for illustrative purposes only, and should not be relied upon as investment recommendations. Consult a professional investment advisor prior to making any investment decisions.

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(Not) Relationship Advice

relationships, biking

Earlier this year, when catching up with a friend and talking about love, he shared his greatest relationship advice. “You want to marry someone who believes the world happens because of them, not to them.” And it really stuck with me. Both he and I are people who have big dreams. That in order to make our dreams happen we need every oar rowing in the same direction. That includes the people we surround ourselves with. More than anyone else, our romantic partner is likely the one we spend the MOST time with. But that in itself is a slight digression.

In a somewhat parallel sequence of events, at the end of last year, I had the opportunity to join a much, much larger shop. And while I ended up choosing not to join, the primary question I was asking myself was: If I were successful here, would I be successful in spite or because of the institution? The truth was from an outsider’s perspective, maybe even personally, it’d be really hard to tell.

Now why do I share the above? And where the hell am I going with all of this? What does love have to do with career opportunities?

So… this won’t be my most graceful transition between thoughts, but in my head, they all orbit the same genre.

One of the questions I used to ask LPs during my time in investor relations was: “What was the last investment you made that didn’t work out? Without naming names, what happened?”

And there are two reasons I ask that:

  1. Oftentimes, knowing what an LP doesn’t or won’t ever invest in again is more telling than asking them what they do invest in. LPs are, by definition, generalist. And under that premise, they technically invest in “everything,” so you’ll end up getting very broad answers, especially if they cover more than one asset class.
  2. Do they describe an investment that didn’t work out with active or passive verbs? Did it happen to them? Or do they own up/exhibit agency over their own decisions? Are they arbiters of their own destiny? “I made this investment decision, learned, and this is what I won’t do in the future. Or will still continue to do.” is different from… “This mishap happened to me. How could I have known? It is what it is. It’s not my fault. It was out of my control. It was someone else’s decision.”

For the latter point, people who don’t seem to be able to own up to the decision will likely not be your greatest champions if you’re an emerging manager. If at all. To them, life happens to them. They can’t control it. They have a narrative they keep telling themselves that they have no power. Some might be true. But these folks rarely stick their neck out for you.

By default, most emerging managers look less than pretty. A million reasons (most of which likely true) of what could go wrong. And it’s actually in the best interest of a capital allocator’s career and income that they stick their neck out for risky bets. Many institutions don’t compensate their team based on outlier performance. So incentives won’t be aligned. But to borrow an adage of Jobs, “the people who are crazy enough to think they can change the world, are the ones who do.” And at the very minimum, they have to believe they can change their own world.

When things are non-obvious—from a returns perspective or strategy or anything else—you need people who can and will invest courageously and own that decision.

Photo by Everton Vila on Unsplash

Stay up to date with the weekly cup of cognitive adventures inside venture capital and startups, as well as cataloging the history of tomorrow through the bookmarks of yesterday!

The views expressed on this blogpost are for informational purposes only. None of the views expressed herein constitute legal, investment, business, or tax advice. Any allusions or references to funds or companies are for illustrative purposes only, and should not be relied upon as investment recommendations. Consult a professional investment advisor prior to making any investment decisions.

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“Venture is a Who Business, Not a What Business” | JD Montgomery | Superclusters | S7E1

jd montgomery

“One thing that is unique to private equity and venture capital is persistence is a little easier because of the brand. ‘They did good deals, so therefore, the good deals come to find you.’ If you were in a long-only private equity shop or hedge fund, Amazon is not going to come find you because you invested in Shopify.” — JD Montgomery

JD Montgomery leads the Family Office division at Canterbury Consulting and is a seasoned advisor with nearly four decades of experience serving prominent families with a focus on strategy, organization and measurement. Based in Newport Beach, he serves a select group of multi-generational families and helps them navigate the complexities of wealth, purpose, and legacy. Mr. Montgomery partners with his clients to help them optimize the allocation of their resources across generations. Over the years, Mr. Montgomery has developed a deep network of relationships in the venture capital industry. He has helped his clients gain meaningful exposure to venture funds and direct investments and develop relationships with leading innovators and investors globally. He is a Managing Director, shareholder, and board member at Canterbury Consulting. He graduated from Stanford University and holds the Chartered Alternative Investment Analyst (CAIA) designation.

You can find JD on his socials here:

LinkedIn: ⁠https://www.linkedin.com/in/jd-montgomery-6161341b/⁠

Listen to the episode on Apple Podcasts and Spotify. You can also watch the episode on YouTube here.

OUTLINE:

[00:00] Intro
[02:18] The “some day” exercise
[11:12] Why does JD do “some day” every 6 months?
[12:33] JD’s life line
[16:44] When JD is 85 years old…
[18:05] JD’s relationship with fatherhood despite the trauma
[22:40] Annual dad report cards
[25:33] Intentionality with GPs
[28:41] How to avoid one-hit wonders
[33:43] How to transfer self-esteem
[36:05] How do you get GPs off of their talk track?
[37:36] Non-obvious things JD looks for in GPs
[41:43] Is selling 0.2X DPI in the first 4 years meaningful?
[44:27] Should you recycle capital or deploy out of the next fund?
[46:34] Why did JD choose to work with families?
[48:07] “Never eat alone”
[51:34] How does JD think about time allocation?
[55:06] How many new GPs does JD meet with?
[59:07] How did JD pass on then back Founders Fund?
[1:03:22] The difference between unexplored gold veins and rotting trash
[1:08:13] Mayan Mocha at Austin’s Picnik
[1:08:58] JD’s secret street taco recipe
[1:11:09] JD’s reminder that we’re still in the good ol’ days
[1:13:20] Post-credit scene: No garlic and onions

SELECT LINKS FROM THIS EPISODE:

SELECT QUOTES FROM THIS EPISODE:

“I don’t have a mentor per se. My mentor is hundreds, probably thousands of people—I’m sure thousands—people that I’ve met where I try to learn just the amazing talent that person has and I smush it with the next person that I meet that might be most kind person that I meet or the most organized. So it’s this blend of a lot of people that really becomes the mentor.” — JD Montgomery

“DOD – dear old dad.” — JD Montgomery

“Kids grow up like trees and saplings. And a sapling needs a guiding post to hold them up when it’s windy.” — JD Montgomery

“One of the other questions I will ask is: ‘Tell me about the hardest thing you’ve ever done in your life.” — JD Montgomery

“To whom much is given, much is expected.” — JD Montgomery

“In estate planning, you can transfer money, but you can’t transfer self-esteem. Self-esteem is gained by going through the school of hard knocks and doing things and relying on yourself.” — JD Montgomery

“One thing that is unique to private equity and venture capital is persistence is a little easier because of the brand. ‘They did good deals, so therefore, the good deals come to find you.’ If you were in a long-only private equity shop or hedge fund, Amazon is not going to come find you because you invested in Shopify.” — JD Montgomery

“If they’re passionate about something—if they want to leave the world just a little different—their ding in the universe—and they want to give back, money doesn’t ruin them.” — JD Montgomery quoting a North Carolina professor

“I am not in a ‘what’ business; I’m in a ‘who’ business.” — JD Montgomery

“Gross IRR; gross performance. I don’t care. I care about net. It’s okay to show gross and then net. I prefer net. But if you show gross only, it’s just gross.” — JD Montgomery

If you somehow made it to the bottom of these show notes, I’m also trying a new experiment where I write my reactions to the episode on my second blog, Superclusters After Hours. For JD’s episode, you can find my reactions here.

Follow David Zhou for more Superclusters content:
For podcast show notes: https://cupofzhou.com/superclusters
Follow David Zhou’s blog: https://cupofzhou.com
Follow Superclusters on Twitter: https://twitter.com/SuperclustersLP
Follow Superclusters on TikTok: https://www.tiktok.com/@super.clusters
Follow Superclusters on Instagram: https://instagram.com/super.clusters

Stay up to date with the weekly cup of cognitive adventures inside venture capital and startups, as well as cataloging the history of tomorrow through the bookmarks of yesterday!

The views expressed on this blogpost are for informational purposes only. None of the views expressed herein constitute legal, investment, business, or tax advice. Any allusions or references to funds or companies are for illustrative purposes only, and should not be relied upon as investment recommendations. Consult a professional investment advisor prior to making any investment decisions.

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The Texture of a Thesis

Meriam-Webster defines texture as “the visual or tactile surface characteristics and appearance of something” or “the disposition or manner of union of the particles of a body or substance.”

A more interesting definition, at least on the tactile front, might be the resistance you feel when your skin brushes against a substance. The friction you feel. The subsequent expressions of rough or smooth follow the amount of friction you experience.

I was reading Scott Belsky’s latest blogpost. In which, he wrote the following:

“The more you remember, the more you will feel you have lived. I can’t vividly remember the details of more than a couple beach vacations, because they all blend together. But I vividly remember a night out in Tokyo at a tiny bar with my friend Joe, the first time I skinned up a mountain in Colorado, the longest run I ever took in the rolling hills of Tuscany, and getting lost in the streets of Kyoto with my daughter. The experiences I remember most are those that had texture — some sort of surprise or hardship that implanted them in my brain. These experiences create “core memories” that remain distinct and persistent, no technology required. My thesis on the future of humanity is that we will optimize for more of the experiences we’ll never forget. We will seek activities with texture to create memories that grip. And when we look back, the more of these textured memories we have, the longer we will feel we have lived.”

In a similar way, the ‘texture’ of life includes the moments we most struggled. And in the physical and metaphoric definition of ‘texture,’ leaves us scar tissue that protect our body from future similar experiences. It’s hard to recall the vivid details of life when it was all smooth sailing, but near impossible to forget our greatest character-building moments.

I’m a big believer that theses are the same. A product of our past experiences. And the restrictions we place on ourselves are a function of that. So regardless if an investment thesis is specialist or generalist, what I find more interesting are areas a GP chooses not to invest in, which include what they have never invested in, or have and will never again. Even more interestingly, assuming one only had the chance to interpret the “visual” nature of the thesis, what are the types of investments most people would think falls under a GP’s thesis, but a GP still will not invest in? The latter of which is the “tactile” nature of a thesis. The contact sport. That unless you interact directly with the GP, it is hard to tell.

Oftentimes, the GP may have more boundaries for themselves than we as LPs place on them. And that is always worth digging into.

The texture of the thesis.

Stay up to date with the weekly cup of cognitive adventures inside venture capital and startups, as well as cataloging the history of tomorrow through the bookmarks of yesterday!

The views expressed on this blogpost are for informational purposes only. None of the views expressed herein constitute legal, investment, business, or tax advice. Any allusions or references to funds or companies are for illustrative purposes only, and should not be relied upon as investment recommendations. Consult a professional investment advisor prior to making any investment decisions.

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“How do I prove to an LP that I have good deal flow?”

So, this is the first blogpost I’m cross-posting from my brand new Substack, Superclusters After Hours. Don’t worry, I’ll still write here weekly. This blog has always started as a personal blog. I write about what I want to write about on a weekly basis. Sometimes, it’s about venture. Other times, it’s about food, adventure, and random things I think about. The goal of the new blog is to become the primary catalog and archive for ephemeral LP content that I post on LinkedIn, with event invites whenever I do them. Events, for those of you reading this blog and know me, I have almost never publicized them before or after the event. And it’ll continue to stay that way. But I’m going to start playing around with the idea of doing Superclusters-only webinars with a very strict rule of confidentiality. TBD.

Here’s a question I got from a GP recently, which to be fair, took me much longer than I initially intended to respond to.

To the GP who sent this to me, and I know you’re reading this, thank you. It’s a great question. And one I’ve heard frustrate many a good GP out there.

So I’m going to include below what I wrote to that GP — word for word. So apologizing ahead of time for typos and grammatical errors.

Ok, this is an awesome question! Took some time here so I could better process my answer for you. Apologize for the delay and ramble ahead of time.

So I think there are 2 questions here: (a) how do you stand out as a GP who actually has deal flow when everyone claims they do, and (b) in a broader scope, how do LPs diligence deal flow?

I’ll start with the former.

(a) How can you prove to LPs you have deal flow that’s different/better than others?

So first off, most people say the same thing: “I get deal flow from founders in my network and co-investors.” But if everyone says that than even if it’s true, how does yours look any different? The truth is most LPs don’t know either. And in some ways, it might be easier to guide LPs how to think, that not only helps them diligence your fund, but also makes them a better LP, period. Keep in mind, most LPs cover a wide variety of asset classes and venture, much less emerging managers, is the smallest of the smallest chunk. And so they don’t have the incentive or the experience to really dedicate all their time to try to figure out how to better underwrite venture.

It’s similar to a question a friend of mine recently asked me. My friend is someone who eats to live (as opposed to lives to eat. Yes, those people exist in the world). And recently he found himself in love with someone who loves to eat, and by function of that, lives to eat. And so he asked me, despite having eaten at a bunch of restaurants, “how do I know which fine dining restaurant to bring his girlfriend to for their 6-month anniversary?” And I gave him a whole list of things I look for when it comes to picking restaurants. For instance, reading Google and Yelp reviews, but specifically the 3 and 4-star ones, not the 5- or 1-star ones because they’re so biased. And on top of that, I gave him recs of date-ish things to do pre- and post-dinner as well based on proximity to the restaurant. I also told him in the reservation to ask for a 10-15 minute kitchen tour after the dinner as an extra special experience. And after giving him all of that, he stares blankly at me. Not because he didn’t hear or understand what I told him, but because, really, he was just looking for a name. One name. He would then book it, and move on with his life. Because food, for him, was and is not his focus area. He had other “more important” things to focus on in his life and in the relationship.

Similarly, most LPs are the same when they look at venture. They do it because they need to think about total portfolio allocation or the David Swenson model, but they don’t do it because they love it or that they believe in it. And so they need to know a name, and that’s all they need.

So to get off my preamble, assuming that an LP has committed in their mind to spend time and do the work in emerging manager land, then you proceed with the next step. And unfortunately, most won’t. And that’s okay. They’re just not the right fit for you now.

So, the next step is really to guide them. One thing I’ve found to be helpful (if you have it) is to take your strongest few co-investors that you think you have the best relationship with, and ask the LP, “Let’s take X firm. What are the best investments they made in the last 12 months, say by revenue growth or headcount growth? And I will tell you if I saw them before they made their investment and who shared it with me.”

Conversely, you should look at who else you know well in their existing portfolio, and have them vouch for you and the type of deals you see. Also potentially more importantly, the kind of person you are. The strongest co-signs are often GPs in their existing portfolio and institutional LPs that specialize in venture that they’re really close to.

Another thing I’ve seen a GP do (paraphrasing here): “I’m going to give you a list of folks who send me deals, short list, and I can give you a longer one if you’d like. And I haven’t told them you’re going to call, so please use your best judgment when asking for their time. But ask them how many other VCs they passed the last 5 deals they shared with VCs to? If they’re doing their job right, they’ll likely pass to more than one. But see if my name comes up. If it doesn’t, you have your answer. If it does, you have your answer.”

Going a step further, and I don’t think I’ve seen any GP do this yet, but I feel like it should be more of a thing: Take all the deals you’ve gotten from your “network” (i.e. founders, investors, etc), and segment them by, who sent you a deal because:

  • You co-invested with them in the past
  • You invested in them
  • You didn’t invest in them (compliment to an investor to get strong deal flow from someone they passed on) – anti-portfolio, but keep in mind this only matters, if the people you receive it from are successful founders in the eyes of an LP, maybe you asterisk these
  • You had no prior economic relationship with them
  • You used to work with them
  • They’re a fan of you/your content/etc
  • I’m sure there are other segmentations, but you get the gist.

And in addition to that, when you pass on a deal that someone refers, categorize the deal into why it’s a pass:

  • Not a strong founder
  • Too expensive, but good founder
  • Good founder, but not in sector/thesis
  • Not raising at the time

And all the above you would show to an investor and I think should be a good snapshot as to the quality of your deals. Then if you’re comfortable with them, challenge them to try the same exercise with other investors. Part of proving something to an LP is to help them become a better investor, period. Whether they invest or not.

(b) How do LPs diligence deal flow?

The simple answer is: they do references. In terms of how many, I’ve heard everything from 3 to 40. The highest end being Cendana. Most institutions

For those that do 5 or less, primarily either use an oCIO/RIA (i.e. Cambridge, Stepstone, Hamilton Lane, some kind of MFO, etc.) or they primarily bet on firms that are hard to get but also won’t get them fired, largely because they don’t just have the time/resources/team members to specifically underwrite emerging managers in venture. Because of the optimization of “I need to see ‘everything’” and I don’t have the time to go deep and assuming they choose to do (in some parts) their own work, they:

(i) talk to a lot of spinouts ‘cause easier to reference and draft a memo to get buy in

(ii) talk on stage at conferences with the perception that they are open for business, which they technically are, but very selective

(iii) have you go through really long ODDs and DDQs in front of a (large) panel of stakeholders and decision makers in the organization. Ranges for 3 to 20-something people all listening to you answering questions. At that point, it’s your word against your word, but a committee will nitpick on everything. The upside is that it’s easier to share something you do that you’re 1 in 5 or 1 in 10 who do (as opposed to FoFs and venture-focused MFOs or institutions who need you to be 1 in 100 or 1 in 1000). The downside is you need to appeal to a larger group of people, and it takes more time outside of meetings (up to 350 question ODD).

But I digress. For the purpose of your question of your question and what I believe your frustration might be, I’m going to focus on diligencing deal flow when you’re not in the room. Assuming it’s an LP who is actually intentional about diligence AND is open-minded enough to not bring too many of their own biases in…

  • On-list
    • Founders: sticking to the facts. How did you meet the GP? What did you talk about in the first meeting? How long did they take before they committed? What questions were asked? Did other VCs ask the same questions? How competitive was the round? If you offered any special terms, why and who else did you offer it to? Did they all take it? Have you introed any other founders or people to the GP? Has the GP provided you value post-investment?
    • Co-investors: Who gives you the best quality of deals? Intro to meeting ratio? Meeting to diligence ratio? Meeting to commitment ratio? How does this GP stack rank against other relationships/other verticals? Did the emerging GP intro you to the deal you’re co-investors in?
    • LPs: How many other firms of a similar strategy did you talk to? What were the sourcing strategies for the other firms? Compare and contrast.
    • Former employers/misc: deal flow isn’t really diligenced here. The best thing these folks can attest to is your character + network.
  • Off-list (a lot of off-list is done with people who, in the words of an LP, “owe you [the LP] more favors than they owe the GP”)
    • Founders: Rank your favorite investors on the cap table. Who are your top 3? Why? If you were to start a new co, who would you take with you again?
    • Co-investors: How much signal is a deal if that GP sends it to you? Compare with other GPs. Why?
    • LPs: Have you gotten co-investments from the GP? How is their level of communication post-investment?
    • Others: Same as above.

Stay up to date with the weekly cup of cognitive adventures inside venture capital and startups, as well as cataloging the history of tomorrow through the bookmarks of yesterday!

The views expressed on this blogpost are for informational purposes only. None of the views expressed herein constitute legal, investment, business, or tax advice. Any allusions or references to funds or companies are for illustrative purposes only, and should not be relied upon as investment recommendations. Consult a professional investment advisor prior to making any investment decisions.

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Spiky, Lumpy, Smooth

spiky, hedgehog

A number of investors I’ve had conversations with recently used the word “spiky” to describe their investments and investment prospects. Both VCs who described founders that way and LPs who described GPs that way. With the latter, I want to caveat that these LPs were fund-of-funds and smaller family offices. The investment profile of a larger LP may look quite different given the incentives of the organization. But I digress.

What is “spiky?” Spiky, or ‘spikey’ (I’ll let you decide what your preferred spelling is), is an adjective used to describe someone who has a few traits that excel quite extremely. Not many, just a few. The implicit understanding is that sometimes they can be poorly proficient in many other areas. For example, you can be the world’s greatest AI researcher, but not know how to make scrambled eggs or cook at all for yourself. But in the areas where an individual is “spiky” in, they are in the world’s top 0.01% with very little other competition.

I’m also personally a big believer, that you really do have to be in at least the top 0.1% on something if you want to have a chance at top decile (10%) returns because by order of you needing to take on other responsibilities in a company and/or firm where you might not spike in those as much, your overall “spikiness” slips two decimal points. So, as an LP who aims for top decile minimum, I look for people who would be 1 in 1000. An a startup investor/VC, to bet on the 100Xers, the top 1% per say, you need to find people who have 1 in 10,000. Metaphorically speaking, the bar is higher since you’re less diversified compared to LPs.

So if that’s spiky, what is “lumpy?” You’re better than others in many areas. Potentially most areas. If 3.0 was the grade point average of your competition, you’re a 3.5 or 4.0. Numerically better, but you don’t particularly excel in any particular area. Or at least not in ways that make you an N of 1.

In emerging GP land, there are a lot of ‘lumpy’ people. Investors who are probably already in the top quartile, even top decile of the human population. To have the ambition, the track record, the network, and the wherewithal to start a fund requires a certain state of privilege, luck and effort that most can’t afford or have. They have just enough to be better, but not enough to be the best. These are, at least for me, the hardest people to say no to (assuming they’re good people). They’re people that I’ve described to other allocators (when they do diligence) as “good human beings” and “people I really enjoy hanging out with.” All true statements, by the way.

But even for spiky people, is their differentiator enough to create portfolio divergence? Sometimes, it doesn’t. Arguably, oftentimes, it doesn’t. Then the question becomes is their portfolio converging with others to a point where there’s still alpha? And for the (established) firms they’re converging with, (a) will they continue to converge (i.e. will the other firm(s) always want this investor around for their spikiness?), and (b) are the other (established) firm(s) best days ahead of them or behind them?

Expectedly so, you are now underwriting the other firm(s) as well.

I wish it were an easy judgment call, but it isn’t. And I’m likely to be wrong more often than I’m right. As most of us will be.

Then, there are people who are “smooth.” Some may call them generalists. Others may say well-rounded. And while both can be true, in a world of attention scarcity, whether in the mind of founders or co-investors or other LPs, you need to stand for something. And “smooth” people are easily forgotten. We don’t talk about them much because we forget about them.

Photo by Sierra NiCole Narvaeth on Unsplash

Stay up to date with the weekly cup of cognitive adventures inside venture capital and startups, as well as cataloging the history of tomorrow through the bookmarks of yesterday!

The views expressed on this blogpost are for informational purposes only. None of the views expressed herein constitute legal, investment, business, or tax advice. Any allusions or references to funds or companies are for illustrative purposes only, and should not be relied upon as investment recommendations. Consult a professional investment advisor prior to making any investment decisions.

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Nemawashi

early morning, nemawashi

I learned a new word today. Nemawashi.

The Japanese word for the business practice of building consensus and hearing people’s opinion before the decision or change is formally proposed.

And I don’t think I know the English parallel to that.

I’ve always told the GPs and founders I work with/have invested in that they should involve their investors in major decisions before they’re proposed and discussed. That no board meeting or LPAC (LP advisory committee) topics should ever be a surprise. It also shows that you’re not talking at people and you’re trying to involve them as a true partner for your business. Both LPs and VCs (to founders) highly prefer that. Conversations should never be out of convenience, but they should feel intentional. You also don’t have to be perfect, neither should you pretend to be with the people who’ve chosen to be with you long-term. Just as you shouldn’t hide any trauma, sentiment, and harbored feelings from your romantic partner and family.

The quarterly board meeting and the LPAC meeting are merely formalities. You should be able to trust your investors outside of those structured events. You may not need to bring up certain topics because it’s not written in the term sheet or limited partner agreement, but that doesn’t mean you shouldn’t. Partner struggles. Off-thesis investment opportunities. Major hires. Or layoffs.

There are a lot of VCs and LPs who would love to be true partners with you, but sometimes they don’t know how to help unless you ask for help before you make the decision. Have the conversation early on about how they would like to be involved in your business. And for those who do, go to them before you propose a decision or change.

Now I know there’s a word for it.

Photo by Jasper Graetsch on Unsplash

Stay up to date with the weekly cup of cognitive adventures inside venture capital and startups, as well as cataloging the history of tomorrow through the bookmarks of yesterday!

The views expressed on this blogpost are for informational purposes only. None of the views expressed herein constitute legal, investment, business, or tax advice. Any allusions or references to funds or companies are for illustrative purposes only, and should not be relied upon as investment recommendations. Consult a professional investment advisor prior to making any investment decisions.

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DGQ 26: Which Slide in my Deck Stood Out the Most?

slide

One of my most used lines in my diction is: “Your mileage may vary.”

Maybe because of what I’ve written historically about. Maybe ’cause of my previous life in investor relations. Or maybe, it’s because of the interesting node I sit at in the venture ecosystem. I often get asked by GPs and founders alike for fundraising advice. Now before you come to any conclusions, I don’t have a silver bullet. I’m not even sure if my advice when it comes to fundraising is any good. While I’m lucky to have heard back from a number of people I’ve shared my thoughts with on the result of their fundraise after employing my “advice,” I’m still not completely sure how much of it was the fundraiser themselves and how much of it was the advice. And how much the color of the jersey matters.

And so when I share what I’ve seen or done, I always caveat with that first line. That said, what I think is more useful than any advice I could give pre-mortem is listening to the feedback of the market. The people you’re pitching to. When someone says no, why do they say no? When someone says yes, why do they say yes?

Inspired by a conversation I had the previous week at a summit, getting feedback from someone who passed is tough. Through the archives of fundraising, you’re more likely to get no’s than yes’s. And when you do, do you know why? Very rarely do you get much feedback. Investors (LPs and VCs) are either too busy or have too much to go through to give feedback as intimately as you probably like. And so I’ve always found it useful to make it easy for people to give feedback. Naturally, it’s never guaranteed you’ll get a response, but usually, the below question I like to ask reaches less deaf ears than “Can you give me feedback?”

I know you’re busy, and you simply don’t have the time to give every pass a share of feedback. But if I could ask for 30 seconds of your time (no more than that), which number slide on my deck did you most notice (good or bad)?

Or… was there a particular slide in my deck that piqued your interest the most that led you to schedule our initial meeting?

The goal of this question is to triangulate attention and mindshare. When you get the answer, then you can come to your own (hopefully intellectually honest) conclusion about whether the message shared on that slide is strong or weak. Controversial or not.

Moreover, you’re not overstaying your welcome. The advice and feedback you’re asking for in pointed and doesn’t consume a lot of time for the other party to answer (yet will feel to them as if they’re doing you a favor and/or being helpful).

Only once you know why people say no can you actually iterate on the pitch. Of course, there are many different ways to ask for feedback, and… your mileage may vary. Usual fundraising advice gets you through the first 10 pitch meetings. After that, you need to course-correct based on the feedback you get back.

One thing I will note is that in the age of agentic venture firms and tools that can be built within hours that cover every stretch of the imagination. One thing an LP told me that a GP told them was that some founders are getting smart. Preparing two decks for investors: one for the human eye, the other for the agentic audience. The latter with more appendices than the former. I imagine that it’s only a matter of time before VCs do the same to LPs as LPs are building agentic deck readers. In that sense, asking for deck feedback may not hold as much weight as it used to. Who knows?

Nevertheless, if there’s one takeaway from this blogpost, it’s that if you want help, if you want feedback, make it specific, low friction, and direct.

The DGQ series is a series dedicated to my process of question discovery and execution. When curiosity is the why, DGQ is the how. It’s an inside scoop of what goes on in my noggin’. My hope is that it offers some illumination to you, my readers, so you can tackle the world and build relationships with my best tools at your disposal. It also happens to stand for damn good questions, or dumb and garbled questions. I’ll let you decide which it falls under.

Stay up to date with the weekly cup of cognitive adventures inside venture capital and startups, as well as cataloging the history of tomorrow through the bookmarks of yesterday!

The views expressed on this blogpost are for informational purposes only. None of the views expressed herein constitute legal, investment, business, or tax advice. Any allusions or references to funds or companies are for illustrative purposes only, and should not be relied upon as investment recommendations. Consult a professional investment advisor prior to making any investment decisions.

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