Tag: lp

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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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“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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AI-Native VC Firms

wall e, ai, robot

There’s been this term that’s been thrown around as of late. By GPs. Funnily enough, not by a single LP so far. The “AI-native” venture firm.

Somehow everyone seems to think they’re the only ones doing so. But they’re not. While not everyone approaches it in the same way—and the definitions do get muddled a little—there is a growing audience of GPs building a firm leveraging agentic tools.

So, inspired by a recent conversation with my man Arkady, here’s me offering my definition of what an AI-native VC firm is. It’s a set of workflows that even the large incumbents cannot replicate by adding more people to the problem, despite the fees they draw. It’s where technology is at the core of the firm, as opposed to humans. It’s where experience actually becomes an inhibitor to investment innovation. Call it the legacy tax. Or experience tax. Or as Bret Taylor puts it, the strategy tax.

In a recent Uncapped episode, Sierra‘s Bret Taylor put it this way when speaking of SaaS business models. “In these moments of big platform shifts, what were your strengths can become weaknesses. […] You start to say that ‘Well, I don’t want to just start from scratch. We’ve got all these assets. So how do we do it in a way that takes advantage of all of our assets.’ And so all of a sudden, you’re like, ‘Let’s not just build a great product. Let’s transition from this product to that product.’ […] ‘That’s our strength, we should play to our strength.’ And you start to basically make all these decisions that sound sound very clever because you’re playing to your strengths. And in practice, if the technology wave is bigger than the category, which I think the web was as an example, you end up chipping away at doing a pure play value proposition.

“It can also work with business models though. In that time, you have perpetual license software and moving to software-as-a-service, that’s a huge change for a business to make. For your customers, that goes from being CapEx to OpEx. For you as a company, it changes ratable revenue. Shantanu did this at Adobe. Very few companies can make that transition. You have to sell it differently. You have to compensate salespeople differently. Revenue recognition is different. So you have the product strategy tax. You have the business model strategy tax. You have even the incentives of sales people—there’s a strategy tax. […] All the advantages that you had, all of a sudden, become anchors that are holding you back from doing the right thing.”

But I’m probably not the only one that can see the transposition of venture models on this analogy of SaaS models. I’ve also been in a few rooms where LPs are starting to slow to halt their pacing into investing in AI companies and funds. If so many of these products can be built overnight with Opus/Cowork, Codex, Cursor, Replit, Base44, Emergent, OpenClaw (and all of its clones in the last 2 weeks) and the list goes on, how many of these application layer AI companies will be stripped of their value almost immediately. And likely, in one month’s time from writing this piece (if not within the next few weeks), the list may already be obsolete.

In fact, I was catching with my LP friend (who’s not technical) last week and he used one of the above tools to build a portfolio management tool in two hours that has more functionality than what I’ve seen from companies trying to solve the exact same problem who’ve raised up to 9-figures. And I wish I could say I was joking. He told me, “Tools for us have historically been limited by the marriage of domain expertise and technical expertise. Most of us didn’t have both. But with these tools, they solve the technical expertise part, which empowers domain experts to build their own tools. So why bother paying for any other tool that doesn’t have the same depth of data that I’ve accumulated across decades?”

Henry Ford has that line many of you are probably aware of, “If I had asked people what they wanted, they would have said faster horses.” Most investors—big and small, multi-stage and emerging, generalist and specialist, solo GP or partnerships—are building faster horses.

So an AI-native firm has to reimagine the way the venture business is done. That isn’t an AI-written memo. That’s not just an agent strapped onto a data scraper. Assume everyone at some point can discover and find every company out there. Today’s firms who claim being AI-native (in my anecdotal experience) are highly focused on sourcing. What pools of data aren’t actively being collected now that software can relentless dig into. Today’s firms aided by AI are leveraging tools to make more informed investment decisions. The picking. It still requires, for the most part, a human in the mix to make the final call. There are very, very few, arguably no one, truly leveraging AI nativity to win deals.

In venture, there used to be the classic question VCs would often ask founders: “What’s stopping Google from what you’re doing?” Now it’s “Why can’t OpenAI or Anthropic just do what you do?” Analogously, why can’t a16z or GC do what you do? Historically, the answer, if there is a good one, is tied down to:

  • Business model and portfolio construction, which is still a valid point if you plan to stay as a first check purist.
  • Or, it’s come down to the person. You have lived experience that no one else does in cybersecurity or leading healthcare systems. You have privileged relationships no one else has. You’ve built communities that are centered around you as the central node. It’s usually been a “people” answer.

But with AI-native firms, the answer must be technological. Even if large firms were empowered with the idea, why will they still fail in the technological implementation of it? Why can’t these large multi-stage funds:

  • … “see” the volume you do? Are you pulling data from non-obvious hubs or non-public datasets? How defensible is it in the longer term?
  • underwrite deals at an earlier stage like you do? Are you doing diligence at scale? How do you get the “truth” from sources that other firms powered primarily by human capital cannot?
  • provide the portfolio value (at scale) like you do? Do you give your portfolio companies access to the same systems you’ve built? Can they leverage your tools to empower their customers and/or talent?
  • provide the same liquidity opportunities to LPs at a predictable pace like you can? Not sure if agentic software will be good enough here for now, given how much humans themselves are still figuring this out. But a goalpost for some visible future.
  • provide their co-investors with the same value as you can? This one might be hard. There’s always the balance of what is unique to you versus unique to others. The more you share, potentially, the less of an edge you’ll have. But my stance has always been, if access to certain analyses or information will be inevitable at some point, it’s better to be the rising tide that raises all ships than the last drop of rainwater in the ocean.
  • provide LPs with the same depth and/or breadth of value like you do? This last one is probably not something any AI-native firm I’ve talked to is focused on, but given that all venture firms are marketplaces at the end of the day, answering this question would be extremely powerful.

I’m not saying that’s the only way to do business. That’s not the only way to invest. I’m confident that even when GPT 15.0 and “Opus” 9.4 comes out, there will still be firms that operate primarily around a core set of individuals as opposed to technologies. We have mass-produced cars, but there is still a great demand for hand-crafted luxury vehicles. The same is true for fashion and accessories. So yes, there will still be a world even if they’re not the largest players by market cap where people prefer the luxury of the human touch.

Photo by James A. Molnar on Unsplash

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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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Will AI Take Over LP Investing?

I recently watched Brandon Sanderson’s keynote on whether AI is art or not.

It’s a great talk. And I highly recommend you check it out even if you don’t work in the creative industries.

We’ve seen writer strikes in Hollywood as well as a proliferation of AI use cases in creative industries. James Cameron joined the board of Stability AI. The Russo brothers behind Marvel’s superhero sequel prowess have created their own AI studio. Pouya Shahbazian as well, using AI over the next four years to create 30 AI-generated films. The list goes on. As such, the question of “Is AI art?” is an interesting one to answer. And admittedly, harkens to a series of conversations I’ve had with allocators on leveraging AI in investing practices.

From the VC/GP side, there are folks like Yohei, Sarah, and Ben and Matt, just to name a few who’ve all been building and incorporating AI recently into their workflows and deal flow pipelines. Yes, I know I’m missing a lot more names. But you get the point. From the LP side, progress is still slower, but many younger LPs are quickly adopting AI as well. The conversations I’ve had come from senior allocators on whether it makes sense to use AI. And if so, how much?

Which begs the question: If AI can do your job, do you still have a job?

I was at a dinner last year where the CIO of a large endowment shared that the reason she knows what to look for in managers today, how to underwrite funds, and how to build a venture portfolio was due to the fact she made a plethora of mistakes on her way up the allocator ladder. Small mistakes, like mixing up a decimal on the spreadsheet which led to a venture fund needing a $10B outcome instead of a $1B outcome. Or like Jamie Rhode once said on Superclusters, that she failed to check before she made a commitment to a fund if the fund actually had the commitments that the GP advertised, leading to her check being a larger proportion of the final fund size than she anticipated.

A lot of senior leaders in the LP space seem to be quite skeptical of what AI can do for investment decisions in its current state, yet junior team members seem to widely adopt it to write memos, to inform investment decisions, to create portfolio construction models, and so on. And so far, there’s been a general consensus that AI, at least with respect to investment decision-making, has yet to reach its desired state. In one comment at the same dinner, a senior allocator remarked that one of her direct reports submitted a fund construction model that was built via AI and suggested that in order to return the fund, they needed almost a quarter of the companies to become unicorns. And when questioned, the junior allocator saw nothing wrong with the model. Only to further defend their choice. Or as Brandon Sanderson says in the talk, the problem with AI “is because they steal the opportunity for growth from us.”

“The process of creating art makes art of you. My friends, let me repeat that. The book, the painting, the film script is not the only art. It’s important, but in a way, it’s a receipt. It’s a diploma. The book you write, the painting you create, the music you compose is important and artistic, but it’s also a mark of proof you’ve done the work to learn because in the end of it all, you are the art. The most important change made by an artistic endeavor is the change it makes in you. The most important emotions are the ones you feel when writing that story and holding the completed work.

“I don’t care if the AI can create something that is better than what we can create because it cannot be changed by that creation. Writing a prompt for an LLM, even refining what it spits out, will not make an artist of you because if you haven’t done the hard part—if you haven’t watched a book spiral completely out of control, if you haven’t written something you thought was wonderful and then had readers get completely lost because your narrative chops aren’t strong enough, if you haven’t beat your head against the wall of dead ends on a story day after day until you break it down and find the unexpected path—you’re not going to have the skill to refine that prompt. The machine will have done the hard part for you and it doesn’t care.”

Growth comes from making mistakes. It comes from the struggle. The “distance travelled,” to borrow a term Aram Verdiyan used before. This is why investors often prefer partnerships and co-founderships. It’s why many firms have “red teams.”

There is probably a day when AI can do our job. But for now, the art of investing is in the friction it takes to make a decision. The character-building moments. The moments where you question your own priors. So if AI enables you to have more nuanced dialogues with yourself, if it challenges the way you think in ways you hadn’t considered before so that you look for evidence that either proves or disproves the null hypothesis, then there will still be room for the use of AI in investing. Otherwise, if you’re regurgitating scripts based on singular uninspired prompts, then you likely won’t have a job for long.

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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 Currency of Trust

Recently, I had three conversations about trust. So forgive me, but that’s the soup du jour today, as their comments are still swimming in my mind.

I spent some time with the Head of Investor Relations at a high nine-figure AUM firm. And he said something that echoed much of the reality of fundraising these days. “Fundraising is all about trust. It’s not about the performance metrics. It’s about who believes in you.”

Then, immediately after, I caught up with an LP friend, who said, “Investor relations is a wasted job title in VC. They’re glorified note takers and relationship managers. I won’t invest in any fund where I haven’t met the GP.” Only to later share how much we both admired a certain Head of IR at a large multi-stage fund.

At first glance, the irony is blinding. The funny thing is that both are equally as true. GPs have a bank account where they can deposit trust. They withdraw trust every time they make an ask. Whether it’s for capital or special terms on the term sheet or for a certain ownerships target or for a guest speaker for an event they’re hosting. Before a GP starts a firm, they need to bank a lot of trust. They should give more than they take. And to run a firm, there are three types of primary customers you need to bank trust with:

  1. Founders,
  2. Co-investors,
  3. And LPs.

You also can’t take a loan on trust (in other words, outsource trust) before you’ve deposited enough trust in your own bank account. Or else, you’ll be in debt. If you’re in too much debt (i.e. have a negative balance), your reputation takes a hit. But when you’ve banked enough trust, you can have a separately managed trust account managed by others. An IR professional who manages the trust account with LPs. A community/platform person with co-investors and talent. And so on.

Having others manage these accounts too early in the firm lifecycle means taking debt and impacting reputation. So when my buddy who’s the LPs says he doesn’t like most IR folks, it’s because before the IR person was hired, the GP didn’t bank enough trust.

And the truth is trust is built not in grand gestures and one-off deals. It’s in the small interactions. How fast do you respond? Even when you’re busy, do you make time for people important to you? Do you remember what you talked about last time? Do you close the loop on advice you get from LPs—whether you use it or not? Do you remember their answer to ‘What did you do last weekend’ 15 weekends ago? Do you follow through with what you promise—even if it’s a restaurant recommendation you mentioned in the call?

In a conversation with a Fund I GP yesterday who successfully raised his 8-figure fund in 8 weeks (and yes, part of that duration was over the holidays), he said something I really liked: “Every LP is looking for returns. That’s a given. But every LP is also looking for returns plus X. Your job during the fundraising process is to find out what X is, and it may be less obvious than you think it is.” For some, X is undoing boredom. For others, it’s the front row seat to learn. Others still, it’s the prospect of social capital that will come with making an investment. And you can’t find any of these out, if you don’t spend the time to build trust with the other party.

Photo by Marek Piwnicki on Unsplash

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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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Diligence on a GP’s Social Media Presence

social media

A lot of what I will say applies similarly to assessing founders and with senior talent, but for the sake of this blogpost, I’m going to focus primarily on doing diligence on GPs.

Sequoia’s Pat Grady co-wrote a piece on AGI that’s been making its rounds the last few days. FYI, this post has nothing to do with AGI, so don’t get your hopes up. But in it, he shares:

Source: Pat Grady’s X post on AGI

Note the highlights above are all around how to better understand an individual’s internet presence. While not all-encompassing, understanding someone’s brand via their social media is more than just how many followers, likes, comments, and shares. As my good YouTuber friend once told me, “Not all subscribers are created equal. English-speaking personal finance content get paid the most per impression.” Analogously, the same is true for LinkedIn or Twitter/X content.

Just because you have 25K followers, how often are you just resharing your employer’s content? Or your portfolio company’s content? How often do you share your thought leadership? Do people follow you because of your perceived status or do people follow you because of the weight of your ideas? There’s a great Simon Sinek talk about the former Under Secretary of Defense on this, which I won’t bore you with the details, but if you want the full story, it’s here. In summary, if you no longer held the job title you do today, would people engage with you differently?

That’s what I’m trying to figure out.

The first filter is: What is your insight per post ratio? This includes reshares and comments they make on other people’s posts. At a high level, do you recognize what good content looks like?

The second filter is: What is your original insight per post ratio? How much of your activity is original ideas? Is that what people engage with? Or do they engage more with your reshared content? When they do engage, how?

  • Level 1 is a like. The least number of clicks to engage with you.
  • Level 2 is a reaction other than a like. It takes a second longer to do so, but is more intentional. To be fair, a spam-like content (i.e. “LFG”, “Proud of you”, “Excited”, etc.), I also put in this tier.
  • Level 3 is a thoughtful comment that you can’t use on any other post. They’ve read and thoughtfully engaged back. Also on this tier is a quick reshare.
  • Level 4 is a thoughtful reshare. Or on Twitter (still not easy to call it X), a “quote retweet.” You’re staking not only your personal brand and reputation with your own followers, but you’re also letting others know how you’ve thought about the content being shared.

It’s not a perfect scorecard, but I do keep a rough mental tally (which goes into my own memo) of what a GP’s social brand is. And at what point was there an inflection in their thinking and/or following. Usually quite correlated with each other.

Other things I find interesting to observe, but cannot be understood in isolation:

  • Most frequent commenters and reshare your content
  • Reactions-to-follower count ratio
  • Connections-to-follower ratio
  • How similar/different their content on LinkedIn vs Twitter/X vs Instagram/TikTok vs podcast platform is
  • AI-search optimization (AEO): What keywords and/or questions do certain GPs own in search traffic? How does it compare across ChatGPT vs Claude vs Gemini? And in incognito AI search.
  • Frequency of getting tagged by others on social media outside of viral periods
  • Endurance of content even when little to no engagement, usually for podcasts, blogs and newsletters. And why do they continue doing so even when it’s not producing the results they desire (more of a qualitative understanding on the personality traits of a GP)
  • Frequency of guest appearances on others’ content channels and how do those appearances’ views compare to said influencer’s average view-to-subscriber ratio

Photo by dole777 on Unsplash

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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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What is Adverse Selection?

directions, adverse selection, sunset

One of the most interesting self-reflective questions I think GPs should ask is: If someone else had the exact same strategy and offered the exact same terms, why would someone not pick you over another VC? That’s adverse selection.

One of the three pillars (or five pillars, depending on who you ask) of underwriting a venture fund is winning. The others being seeing and picking (and supporting and selling). But sometimes what’s more interesting than underwriting why a GP wins is understanding all the reasons they won’t win.

It’s an interesting thought exercise I like working through with a GP. “Why won’t a founder let you invest?” or “Assuming you wanted to invest, why would you lose out on a deal?”

The most common answers are always:

  • “I missed the timing.”
  • “There was no more space left.”
  • “They weren’t raising at the time.”

In my opinion, while possibly true, all cop-out answers. Then I follow up: “Assuming you wanted to invest, and there’s space left, and they’re currently raising, why would a founder say no to you?” Or “Why wouldn’t you be able to invest?” More often than not, I get an answer along the lines of: “I win (almost) every deal I want.” Or “I have yet to raise my fund.”

Even if true historically, it doesn’t answer the question. It’s like asking a job candidate: “Tell me about your weakness.” And they respond with, “I’m too honest.” Or worse, “I have no weaknesses.”

What I’m trying to get at in these questions is not the “right” answer. There is none. But rather what are the reasons you’ll fail to win a deal. Which of those reasons are areas where you would like to improve upon? Which of those reasons are areas where you will continue to be unrelenting on? What will you not change? Only then can I get a better understanding of the GP you will become 2-3 funds from now. And if so, does it make sense to do business with each other today?

There’s a Fund I GP I ended up investing in. When I first asked him the question above, he reached the conclusion that his pitch and value-add resonated more with second-time founders than first-time founders at the pre-seed stage. And given that he wanted to grow into a lead investor eventually, what he had to figure out was how to build a strong enough brand with first-time founders, requiring both education and intentional positioning. For me as an LP, it became easy for me to see how he would grow into a Fund II GP. Between then and his next fundraise, I’d just track how many first-time founders he invested in, try to spend time with them at events, and ask why did you take this GP’s check and what did you really want from him.

There is no right answer as to what founders wouldn’t want to work with you. It’s just an exercise of self-awareness, so you can figure out what’s worth working on and what’s not. Adverse selection reasons I’ve heard in the past, in no particular order, include:

  • Political alignment
  • Naming a firm after their own name instead of an ideal (yes, that is a real answer I’ve gotten before)
  • Speed to make a decision
  • High ownership targets
  • Response time, including taking the holidays/weekends off when their peers might still be dealmaking
  • Lack of brand awareness
  • No founding experience
  • No experience at a large established firm
  • No relationships with key potential customers
  • Values shared publicly / controversial opinions
  • Personality (i.e. too nice, people pleaser, argumentative, arrogant, name-dropping/logo-shopping, too humble, etc.)
  • Lack of talent networks
  • Having invested in a competitor
  • A homogenous partnership
  • A rumor that is widespread but may not have real credence
  • A single remark from an influencer in the ecosystem (or a close friend), then what’s more interesting is why someone would say something like that
  • The way a GP dresses (especially important in certain geographies outside of the US)
  • The initial outreach was done by a junior team member or a broker/dealer
  • Subsequent conversations done by a junior team member
  • A reference call with their network done in poor taste
  • Someone with no board experience asking for a board seat
  • Having someone else on the team take the board seat even though you did the deal and the founder wanted you
  • Aggressive term sheet terms (1X+ liquidation preferences – participating and preferred)
  • Having no respect for prior round investors (especially, in relation to their most helpful investors so far, often related to their pro rata)
  • Badmouthing their existing investors and/or teammates

Photo by Javier Allegue Barros 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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