Cup of Zhou

First off, this post has nothing to do with mining or minerals. If you’re curious as to why this post is called “Pyrite,” you’ll get it if you find out the nickname for pyrite.

Secondly, if I had a dollar for every time the below are said in an AGM, I’d be rich.

This was inspired after I read Brendan’s post from a few days ago. “Things we all already know that you can stop writing on LinkedIn about.”

As such, these are all the things we, as LPs, already have heard a million times at AGMs from GPs who believe these statements mean something real, but either (a) want to hear something different, or (b) is in many LPs’ eyes and ears, straight bullshit:

• “This is the best time to be investing. AI is going to change the way we live, work and play.” We get it. We likely wouldn’t be at the AGM if we didn’t think so.
• “These are the best entrepreneurs we’ve ever seen.” Or “Founders today are higher quality than we’ve ever seen before.” Or “Our top of funnel/(quality) deal flow is as robust as we’ve ever seen.” All to relate to “Entry valuation increases are to be expected because quality entrepreneurs and the growth they can achieve are unmatched in history. Historical prices shouldn’t be a tether.” Then should we anchor ourselves on anything you initially pitched LPs? Is the promise we invested in the same as the fund that currently exists? What are exceptions to the rule and when do exceptions become the norm? Assuming you did invest in higher priced rounds, what is the venture math necessary to 5X the fund? What are the possible exit paths for that exit to be meaningful to you? Citing Chris Douvos’ old blogpost here that elucidates that.
• “The portfolio is really trending in the right direction.” We want to hear the lowlights on top of the highlights. Not everything is sunshine and rainbows. So let’s not pretend it is. Also let’s not forget to talk about the performance of older funds that may or may not have zombie companies. Are you proactive with new marks?
• “Trillion dollar IPOs are here.” Twitter and LinkedIn and any major publication has already informed us of such.
• “Venture arrogance score (Shoutout to Josh Kopelman for the initial nomenclature) for big funds”, and/or “small emerging managers outperform” and/or “venture math is broken” and/or “multi-stage funds have raised 50%+ of this year’s dollars.” Yes to all of this, but with a caveat. The dispersion of returns at the emerging manager level is far higher. Higher risk of ruin, and higher chance you return less than 1X your fund size. As an asset class to “index,” emerging managers are realistically a bad bet. Moreover with emerging managers, in the words of a large institutional LP who told me this, “we invest in venture because we like taking company-level risk, but not fund-level risk.” All the above statements are technically true, but I’ve also seen so many emerging managers “forget” to move their warehoused deals into the fund, call more capital than they promised their LPs back-to-back, drift from their strategy, move their final close date 5+ times, leak sensitive LP information to their intern/associate, get kicked out of their own fund by a fund platform, breakup the partnership mid-fund, and the list goes on. I’m not saying established funds are immune to this, but it is important for an LP and a GP to be aware of the whole package that’s getting pitched. Usually most institutional LPs in emerging managers are already well aware of the above, which is why to then, LPAC seats matter to get on top of the matters.
• “We believe the company is growing into its valuation.” More often than not, that’s not the case. This is just a version of sugarcoating really high last round valuation (LRV) marks. This usually indicates a flat or down round at best, the next raise, assuming the company can raise.
• “We consistently get allocation in competitive rounds.” Probably. But also introduces the question of what does “competitive” mean. Does your definition of competition and the LP’s definition match up? AND is competitive or hot always good? AND are you outsourcing your decision-making to other firms? Unfortunately, the answer to the last question is often yes for a lot of emerging managers.
• “We beat other investors and at lower prices.” Probably again. But is it adverse selection? There’s a massive graveyard of companies that raise once and never get traction in any direction (i.e. customers, investors, etc.). So rather than saying that, show us why said companies are generational talent and ideas. Who else did you talk to and have a chance to invest in before you picked this one? Is their revenue growing in a direction that suggests it isn’t adverse selection? Admittedly, this one you have to do more work to show most LPs why. Otherwise, doubt will always linger.
• “We have a strong pipeline of LP interest ahead of our next fundraise.” Unfortunately, no one says the inverse. And so while it may be true for you (time will tell), no one can verify that statement outside of wired commitments, unless they dig deep.
• “We have a 90%+ win rate.” Personally, I don’t care. Some LPs do. But I know of a lot of institutions who have a dedicated venture team do not as well. Win rate can be engineered. There are funds that only offer verbal commitments with no term sheet that claim a very high win rate, so only the ones they offered a term sheet “count.” Also, no one will ever say they have a 50% win rate (even if they do, I don’t care as much as the other metrics that you could optimize for). No one will also say 100% win rate. And if they do, THAT is the thing you need to double click on and be wary of.

And finally because of all the above, this is why junior people go to AGMs, as a box to check, as opposed to senior partners and CIOs. The same is true for Demo Days these days too.

Thanks to Chris (who actually first inspired this post ages ago on the pod), Asher, Youngrok, Dave, and a few other LPs who chose to stay anonymous for keeping me grounded on this post and making this post more robust. And to Brendan who re-inspired me to finish this one.

Photo by Caleb Jack 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.