SPEAKER_01: I think the chance of winning the lottery and take the NPV of it, do whatever you want with it and compare it to like low, like bottom quartile venture and it's not as good.
SPEAKER_03: Somebody make a chart of that.That's a really good blog post I should do.But like if you took scratch off tickets and you took the bottom quartile of venture capital, better off putting in a venture capital.So maybe they should have scratch off tickets and you scratch it off and you get a certain amount put into a venture capital.
SPEAKER_00: I love it.Yeah.Which one?That'd be fantastic.I'm in.Scratch it off.You got, Oh, I got three Sequoias.I need one more Sequoia to get in there.
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SPEAKER_03: All right, everybody, welcome back.This is the final season of what we've been calling Angel here at This Week in Startups.You know, when I came out with the book Angel, we would interview angel investors and seed investors.But then as my career grew and I started to have funds and we're on our fourth fund now. We thought, hey, maybe we'll retire the angel brand since I'm more of a fund manager now, which is typical in venture capital.People start as angels.They build a track record.They then build funds.And so we thought here for the final season of Angel, we would focus on interviewing LPs.What's an LP?
I'll remind you again, that's a limited partner.LPs are the people who give money to a VC firm. At the VC firm, you might have a general partner.So in the industry, you're going to hear this over and over again.LPs, GPs, GPs, LPs.LPs give the money.They represent pools of capital.You probably know some of these pools of capital.It could be a retirement fund.It could be an endowment like Harvard's or Yale's you've heard of.
It could be a sovereign wealth fund you've heard of, like in Qatar or UAE or the Saudis Fund, which is called PIF. you have all these different funds around the world that have LPS who give money to GPS, that's just a shorthand for our industry.And today we have Jordan Stein from Crescent partners, this is one of the big players in venture capital.They're what's called a multi family office, that means they manage the investments for a category which you may remember from the WeWork series, ultra high net worth individuals, you HNW eyes, and these family offices, They need help, and they're typically trying to preserve capital and also grow it.So they have multiple mandates, and they will help a family.Typically, those families come from some matriarch, patriarch that built Walmart or some great company, and now they're two or three generations later, and they're trying to keep that wealth in play, sometimes to fund nonprofit operations, sometimes to fund businesses and make investments, do all kinds of interesting things in the world.So they'll make investments across real estate, private credit, private equity, and of course, everybody, the darling of all of private investing is venture capital.We'll get into why that is.
Jordan's a director at Crescent Venture Capital.Jordan is the director of Crescent's Venture Capital Investment Practice.So welcome to the program, Jordan.
SPEAKER_01: Thank you, Jason.It's great to be here.
SPEAKER_03: Yeah.So you heard my sort of ramble there.I'm trying to educate founders, you know, listening to the pod here, and, you know, catch up people who are angel investors and make sure they understand it.You have a very large pool of capital.From what I understand, it's 40 or $50 billion, roughly, and some percentage of that the families that you represent want to put in venture capital, just to educate the audience, why do they want to put money into venture capital?
SPEAKER_01: Yeah.So from our perspective, the thesis around venture capital was pretty simple.If you look historically, last 10, 15, 20, 30 years, venture capital has driven a significant amount of returns for big single family offices, for institutions like the ones you mentioned.It's a very powerful place to invest in terms of the category. it can also be really, really difficult to access.And so if you're not investing with the best venture managers, our view is it's probably not worth doing.And it's created a bit of a sort of barrier for a lot of family offices, a lot of high net worth and ultra high net worth individuals in terms of their ability to access.And so... What we've tried to do is put together a portfolio of these top quartile, top decile managers who are looking for GPs that are big and reliable and consistent and hopefully answer the phone so that we can provide exposure to these families, to our clients, as well as other external investors that we have to that type of portfolio.And so it's enabled that to be part of, as you mentioned, a broader diversified asset allocation strategy, which is what we really believe in at Crescent.
SPEAKER_03: So when you look at VCs, you mentioned something very subtle there in your answer, which is GPs, if they answer the phone, this is like, let's be candid here.The people who run venture capital firms are quixotic, unique people in all the world.And they don't answer to anybody.Typically, if they did answer to somebody, it would be a limited partner.But the truth is, the funds tend to be small, and the pools of capital tend to be large. So if the venture capital industry could maintain their returns, and be 10 times bigger, there would be enough capital that would rush over to it.But the fact is, we all know, there's a certain amount of startups created every year, it's a finite number.And there's a certain number that break out and get product market fit.So there are some constraints here.What's it like when you build a practice like this, and you've been crested, it's only been around since 2017.
So you're a startup yourselves. what's it like getting those folks to pick up the phone?And then I guess you got to fight to make your case, hey, we'd like an allocation in a top tier fund.And you know, some of the top funds, I think you're in founders fund, a 16 Z cowboy ventures alien, which Lee was just on the program, lights, etc.So let's talk candidly about that weirdness that exists in venture capital is very weird boutique yet large industry.
SPEAKER_01: Yes.It being capital constrained is kind of key to GPs having their pick of the litter when it comes to deciding which LPs they want.These top funds that we're talking to, almost without exception, are all oversubscribed.And they then get to pick... which LP they want to join them.Not all money is green.And so for us, you know, the founding story of Crescent here, as you mentioned, we're kind of a startup.We were founded in 2017 and our two main co-founders were ex-private equity guys who were retired and spent a year looking to become a client of a multifamily office or wealth management firm. and didn't really find anything that they liked.And one of the big disconnects that they noticed was if you look at the most successful multi-generationally wealthy family, that group you're talking about, that's second generation, third generation, go to seventh generation, they're allocating a significant portion of capital to private markets.
And most single family offices that are subscale and most wealth management firms and multifamily offices aren't resourced to do this well. They don't have the talent.They don't have the resources.And so they end up woefully short of, in some cases, could be 30%, 40%, 50%, 60% allocations to privates.And you see this at Harvard and Stanford and Yale and all of those institutions.They're able to actually make those types of allocations.So from day one, we really created two sides to Crescent. We have Crescent Asset Management, which is our wealth advisory group.And we've got about 130 advisors at this point, work with a few thousand clients who, as you mentioned, are ultra high net worth as well as high net worth individuals.And the other side, which is where I sit, Crescent Partners, and we are basically the group that is tasked with sourcing, underwriting, and providing institutional quality private investment opportunities.
And what's been interesting is we started thinking about, okay, we're going to do this for our clients.It's going to be very connected.And over time, we ended up getting a lot of interest externally from other family offices, other investors who were like, wait a second, I'm not getting into any of these opportunities.Can I invest with you?And it's been about 65% clients and 35% external.So with venture specifically, it was... The second to last strategy that we've added within Crescent Partners, holistically, we want to be able to execute across all different asset allocations and asset classes.And so we've got, in real estate, a qualified opportunity zone, series of funds, some other real estate-focused strategies.We've got direct private equity strategies, fund strategies, secondaries, co-investments.We've got a big evergreen private credit fund.
And venture, we waited to launch until a couple of years ago, which is when we launched our first venture fund. And we waited because we couldn't get into these funds prior to that point.We were not interesting to them.And in 2021, we effectively crossed like the $20 billion AUM mark.Our growth story was kind of crazy at that point.You know, we had kind of gone from like 3 billion AUM in the first year to 6 to 12 to 25.And as you mentioned, we're now north of 40 today.But that was the time when we felt like, okay, now we're interesting to some GPs. And it also helped that, you know, some of how we've grown, it's been mostly organic, but some through acquisition and merging with other firms.One of those groups, a firm called True Capital Management, their VC practice had been led by now my partner, a guy who's fantastic, his name is James Danforth.
They managed money for athletes and celebrities. And venture capital firms really like athletes and celebrities, as you probably know.And so they had gotten pretty tremendous access and had built a great roster of relationships, but they just weren't quite big enough.And so when we launched our strategy back in 2021, I basically sat down.We have a bunch of what we call sort of centers of influence within our firms, people who are just really well networked. and reached out to that group along with crew to figure out, OK, who can we get in front of and actually talk to?How do we crack open the door so we can tell our story and see if we're a fit?And when we tested the waters, we pretty quickly got access to Andreessen Horwitz Founders Fund and actually FPV, where our first three investments run by Wes Chan, who you may know is fantastic first time fund spun out of . and then Lightspeed shortly thereafter and Cowboy shortly thereafter.And we're like, okay, wait, we can do this.
And it kind of snowballs from there and you get behind the doors, if you will.And now you're able to access the ecosystem in a pretty significant way.And so it was difficult and we couldn't do it until we had kind of reached that scale and reached that threshold in terms of our ecosystem and our relationships.And then since then, now it's, you know, we have this fantastic set of relationships and feel really to be a part of that community.
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That's linkedin.com slash angel pod for a $100 credit terms and conditions do apply.And you're also your timing, in some ways was fantastic.Because when the market came apart in 2022, we had this crazy recession, depression, really, if you if you're in our industry, it was a depression, just in terms of the valuations coming down for software companies. 2023, a year of reckoning and cleaning things up here we are in 2024, you came into the market when hey, maybe some LPS were lowering their commitments, lowering the number of names.And so that does open up, you know, some some slots on the dance cards, I would assume, and people maybe would be willing to take a little bit more capital, etc.
SPEAKER_01: Well, I would say yes and no.I will say that even then, all those firms I mentioned and we're in Kraft, we're in a whole bunch of these other groups.Every single one of them was still oversubscribed to the point where we didn't always get the allocation we wanted being a new first-time LP.Truthfully, sometimes it was a little bit lower.And we thought there would be more of a hole to fill.And honestly, we found there really wasn't as big a hole as we expected.
SPEAKER_03: So what does that say about venture capital here in the United States?We had this crazy bust, you know, after a huge run up the Zerp environment.Obviously, the press is having a field day with all of this.But from your perspective, you're coming in and talking to the top names in venture.And it seems like things are still cranking.So maybe what does that say about, I don't know, the resiliency or how venture capital is viewed by people making thoughtful decisions with large pools of capital?
SPEAKER_01: I think within venture, there's a difference between the groups that we're talking about and kind of your average venture firm, right?And so I think new venture firms, people who are not as branded, as well networked, as accomplished as a founder themselves, people like that have struggled mightily to fundraise.And I know plenty of very good firms, frankly, that just aren't able to get the capital.I think... at this upper echelon, you have a fear from LPs that if I don't reallocate in some way, shape or form, I may not be able to reallocate the next time.And I don't want to change my whole strategy and get worried about being crowded out.Um, I'm going to have to sort of lean in here.And so instead of cutting my allocations to, you know, the founders funds and the FPVs and the cowboys and crafts in the world, right?They're like, I'm still going to re-up to those, but I'm investing less in the category.
So I'm going to cut out new managers and I'm going to cut out some of the, you know, maybe fluff underneath.
SPEAKER_03: Yeah, that tracks.I mean, if you think about it, there was a firm that left Sequoia at one point because they had expanded, I think, with their China strategy.People can look it up.There was a lot of news in the venture community.And then there was one firm, and that was also news that left Benchmark. you know, during, I think, the Great Recession, maybe, or dot com, I can't remember which one it was, but I think Great Recession.And those people, then, if you're a GP, and you think about it, somebody doesn't believe in you, you know, when the market has a rough patch, but you've made money for them before, and you're theoretically, if you work hard, going to make money for them in the future, and they're not loyal to you in that down market, yeah, why would you bring them back to, you know, selectively cherry pick funds or something like that, you're looking for some consistency, right?There were a lot of venture tourists, A lot of hedge funds and people kind of coming down into dipping into the category.Maybe they ran up the valuations of these companies in an unsustainable way.
And then you maybe had some venture tourists starting their micro funds, 10 to $100 million funds, or it would have been a seed fund, I think, in the past. So what's the state of sort of venture tourism now?And, you know, how do you look at the portfolios you're in?And you might have caught the tail end of some of these overpriced rounds and then markdowns.And how are you managing that with your clients and the GPs?Because you sit between... a bunch of high net worth individuals who, hey, I'm just picking a name out here.Maybe they were investors in Stripe or Instacart, two names that have reset their valuations.Instacart was pretty brutal.And I think Stripe was maybe 50% at some point.
And I think Instacart maybe was 30 or 40 billion, depending on 20, 30, 40 billion when you got in and then probably trading at 7 billion.This is pretty disheartening, I guess.So how do you manage that?Or does it not come up with the your customers, as it were, the families you're managing money for, when they see these incredible investments that they thought were going to the moon, and they get a massive haircut?
SPEAKER_01: Yeah, no, it absolutely comes up.And I think I always go back to the Warren Buffett quote, when others are fearful, be greedy, and when others are greedy, be fearful.And I think that very well encapsulates risk-off environments.You mentioned earlier, we got very lucky in terms of our launch timing. We made our first commitment in early 2022.And things were still hot in early 2022 in terms of overpriced rounds.But... And our fund is closed now.We're going to launch our next strategy here shortly.But we're 30% deployed. they're about, right?
And so most of that was over the last 12 months, as opposed to very little happening, frankly, in 2022.And so we got very lucky if we had crossed that threshold.And we're not believers in necessarily trying to time the market, right?Our idea is, hey, Mr. and Mrs. Client, you should have a consistent allocation to venture just in the same way you'd have a consistent allocation to private credit or private equity or whatever.And you may rebalance here and there over the years.But the point is, you're going to have up cycles, you're going to have down cycles, and you want to be consistent throughout because timing the market's really hard.But we did get lucky.And I think it is resonating with our investors, certainly now, who always start with the question of, Well, you know, how much 2021 exposure do I have?
Like, what are we talking about here in terms of these haircuts?And we're fortunate enough to be able to say none.Effectively, everything is net new 2022.And even though 2022 is still probably a little bit high, that's 5-10% of your broader portfolio. not 10x.No.And Pittsburgh has done some work recently on this looking at, you know, sort of a pendulum of investor friendly versus founder friendly environments.And 2021 into 2022 was the most founder friendly environment of the last decade.And that means valuations were stupid high.Diligence was stupid fast.
and terms were really, really friendly to founders.That is fully shifted back the other way, according to their research, such that now the opposite is true.And we are seeing the most investor-friendly environment we've seen over the last decade.And I think that's intuitively something that our clients and a lot of investors do understand when presented with that information in the data.It's like, okay, yeah, this makes sense.There's been a reset. And then I think coupling that with what we're seeing in AI, which we can talk about, and I think we'll have a lot of winners and losers, kind of like an internet or mobile or whatever trend or super cycle you want to go back to, is creating significant opportunities, again, for these top echelon fund managers.
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So maybe you could give your best explanation for that.Because I hear different, you know, people could steal me on it.And, you know, argue each side.So argue, argue the side, I guess, of having a co invested program.
SPEAKER_01: Yeah.And I think it's been an interesting trend to watch where most strategies that are, say, primarily a fund-to-funds type strategy are doing this in some way, shape, or form.For us, our co-investment program right now is a part of our overall fund strategy.So 10% to 20% of our fund will be for co-investment opportunities.What does that accomplish for us?Well, it has the benefit of a few things.Number one, it usually blends down fees a little bit, right?And so... If a manager charges, say, 2 and 20 or a little bit higher, depending on the manager at the baseline for their fund, it might be 0 and 10 or 1 and 10 or 0 and 20.There's any range of outcomes there.
So it does help lend down fees a little bit, and it creates faster DPI.I think one of the most difficult elements of venture is it does take a long time.And frankly, it's gotten longer in terms of that time frame, the way companies are staying private for a longer period of time.And it's double edged sword because they're private for longer. you want to access them in private markets where more value creation happens, but it can take a little bit longer to ultimately end up with an exit.And so if you include a bit of co-invest into your portfolio construction, then you'll be able to hopefully generate some faster DPI for our investors.So that's a big part of it.I think The second element is, when we're talking to fund managers, and this should be true across asset classes, you ask the question, what's your right to exist?Why should I give you my money?
With every investment I make, there's an opportunity cost where I'm not investing in someone else.We look... inwards and ask ourselves the same question.Why should people trust us in the venture category?Because we've got pretty unique access and what I think is a fantastic portfolio.Why should they trust us in the co-invest category?I'm not going to pretend that we are as good as many of our, I'd expect probably any of our GPs that we've invested in.Hopefully not.
SPEAKER_03: Hopefully not.That would be like a misalignment if you suddenly became better than the GPs.It would be like the manager of the restaurant being better at cooking the steak.Yeah. Not the way it should work, yeah.
SPEAKER_01: No chance.But what I'll say is, we also get the benefit of that ecosystem.So I'll give you an example without mentioning names specifically, but we looked at a co-investment opportunity in a really interesting business just a couple months ago.And within five days, we had talked to five of our fund managers and a few others about the opportunity, many of which who had seen it, many of which had looked at it in an earlier stage.And so we can actually... extend beyond the talents of our team and benefit from the broader ecosystem that we're now a part of in terms of really selecting the best co-investments.And that's important because there is adverse selection within the co-investment world.If you are a GP, you're not always going to want to give away your best deal.You want to back up the truck. And to the extent that there's any additional room, then sure.
And so part of the magic of the co-invest is we don't really want the stuff that GPs aren't fully leaning into.We want the things that, okay, they are fully leaned into, but this is the allocation they got, or there's no more room left in the fund or concentration limits or whatever.And having that benefit of being able to discuss that with the ecosystem really helps us hone in on that.
SPEAKER_03: Yeah.And this is the great paradox of what we do for a living.We deal in, you know, an asymmetric information environment where people are making trades on insider information, not illegal in public markets, in private markets.That's the entirety of what we do is, you know, private companies do not give their information to the public.They're not out there.And it's hard to get that information.So If you have five fund managers, three of them own the shares in this company.They did the seed round, the series A, the series C, and you're trying to do the series D. Man, what an advantage is that?You have the two people who passed on the D for this current round, and they tell you you're thinking.
Pretty amazing.But there's also something there.It could be adverse selection. But I think you have to double click on it, don't you?Because it could be, well, if I was the seed investor, and I own 10% of the company, and I'm up 200x, 400x, do I really want to add on to that position?There might be a case for it.There might be a case for that seed manager to deploy that company in what they think is the next Uber, Robinhood, Coinbase, DoorDash, whatever it is, right?So it does take a little double click.Absolutely.
SPEAKER_01: And you get into reserve math too, where there's a lot of seed and series A firms or pre-seed firms, all of these groups who have some sort of capital reserved for follow-on investments, right?And that also may be an area where, hey, we'll invest in seed primarily, and then we'll do follow-ons at A, but we're not doing anything after the A. It's just not consistent with our strategy.Our opportunity cost, if we do Bs and Cs, is that we can't put it back into finding the next Uber or the next DoorDash or whatever it is.And so that's absolutely a factor.It's not always adverse selection.There can be a number of things.But to your point, yeah, you really got to drill down and understand it.
SPEAKER_03: Yeah, I mean, I've been having this conversation a lot as a pre-seed and seed investor with our fund, because the question I'm getting from a lot of LPs is, when do you start liquidating?And my answer to them is, when we have the opportunity and we're up 50%, 100%, 200x, we're going to take 10% off the table, even if we think it's still a rocket ship.Because my experience with Robinhood, with Uber, a company worth $14 billion, $150 billion, is, you know, if you can take off 10% in your six, in your nine, in your 12, and get that money into the pockets and get that DPI locked in, you know, that the cash on cash that a lot of investors are looking at, and you know, how much do I invest in this firm?And then how much do they actually give me back in cash?We're really, you know, cognizant of that as one of the wonderful things, just you know, during this holiday week, a lot of people are off.I've been given some thought to this.My Lord, it's incredible how functional our ecosystem is.The seed investors are making these crazy bets, pairing their positions, but then there are these later stage investors who want those shares.
And then there's a public market after that.And then there's co invest.And you know, In some ways, it's so vibrant, and the transactions are happening at different stages with different goals.I'm not saying it perfectly, but now that I've been doing it and going into my second decade, you start to see the chessboard a little bit more, and it's beautiful.It's just a beautiful symphony of... risk taking, you know, like, unbelievable, insane risk taking, which is what I love about it, the fact that we can tell people with a straight face, we're going to invest in 100 companies, two of them based on the power law are going to be 95% of the returns.And they're like, which two and I'm like, I mean, I could tell you what I think, but if I'm being candid, historically, when I look back on my track record, the idea that a taxicab company and a stock trading company where you don't pay to trade stocks and a meditation app come would be three of our biggest returns, I would be like, kind of lying, you know? we thought they were really great teams, don't get me wrong, we see it was clear they were going to be winners, but it wasn't clear the extent of the win.
And how do you think about the power law?Because you're investing in so many different funds, you're actually in some ways trying to capture, you know, the average, maybe and then some, you know, because you're managing entire portfolios, how do you think about that and risk, generally speaking?
SPEAKER_01: The power law definitely exists.I think there's no doubt about it.And it's hard to find evidence to the contrary.And I echo what you have found within your own portfolio.I have yet to meet very many managers who at a pre-seed stage can predict with significant accuracy. the winners.It's very, very difficult to do.And so the way we think about it is in the context of a complete portfolio, right?And so we have kind of a barbell, if you will, where funds like Andreessen Horowitz or Founders Fund or Lightspeed, they're a little bit bigger.And so they're not going to benefit quite as much from the power law.
I think they're going to generate fantastic returns for us.And I think they're absolutely brilliant.Do they have a shot at the 50x?I think that's a lot harder.The math is a lot harder to get there.
SPEAKER_03: to take a billion dollar fund to 50 billion is really just it's not going to happen folks you're investing at much later stage companies when you know it's pretty clear they're a winner you know to a certain extent yeah
SPEAKER_01: And even if you're really leaning in, I mean, if you've got a billion-dollar fund to 50 exit, to take that extreme example, generating 50 billion, if you own, say, 10% at exit, you're creating $500 billion of enterprise value.That is really, really difficult to do in terms of IPOs.And so, yeah, it's just not going to happen.
SPEAKER_03: Just to explain that to folks... to go from one to 50 billion is not the total value of the companies you invest in.In the best case scenario, as you're correctly putting out here, you might own 10% on average of the companies.So that 50 billion, if you were theoretically able to get it would be 10x in market capitalization, 500 billion in market capitalization, it's that would be like hitting Apple, Tesla, Uber, and Google, like it's just, you know, it has happened at the seed stage, you know, Instagram, which was actually kind of a smaller, you know, outcome at a billion, but Instagram and Uber and Twitter, which was the larger one, we're all in Chris soccer's $8 million fund.And you know, you do get those 200x funds from time to time 100x fund, but they generally happen at seed is what you're saying.
SPEAKER_01: Yes.And the counter, I guess, is unless you can generate a ridiculous amount of concentration and ownership, and I've only seen a few do that really well.I will tell you, Oren Zev is a solo GP on the West Coast that I have the most respect for.We're an LP in his fund, and he has the most incredible returns, and he is not... necessarily invested in hundreds of companies.But when he does, he has super high conviction and doubles down and triples down.And that has worked really, really well.And you start to get into those upper echelon numbers.
SPEAKER_03: So he's able to, Oren, watch the seed investments he makes. and then determine a definitive or likely winner in some way, and get that second and third bet in the Series A and the Series B. Right, right.
SPEAKER_01: But it's really, you know, there aren't that many out there who do it well, and I frankly haven't seen anyone have done it as well.Founders Fund's actually very, very good at this too.
SPEAKER_03: We just had Brian Singerman on for the same series, and he was talking about, I don't know if you saw the episode, but he was talking about Airbnb, SpaceX, Andro, I don't know if Andrew was in that shortlist yet.I think that's his future list.He believes that will become one.I think that's pretty good logic there.But I think it was Palantir, Airbnb, and SpaceX, where they backed up the Brink truck, 15% of the fund, 20% of the fund into one of those names. Which is bold.
SPEAKER_01: Yeah.But when it works, it works really, really well.And I think the folks at Founders Fund are some of the smartest out there.I mean, they've really built an incredible program.And there is something to... Again, there's not many, but they definitely have a little bit more predictive ability, I think, than others.So that is one side of the portfolio.And then you layer on the emerging managers who are going to be, in some cases, $500 million funds.In some cases, we're an investor in a $60 million fund. and everything kind of in between.And you have a little less volatility with the Andreessens and the founders and the Lightspeeds of the world at their size, with their coverage, with their expertise.
They're not going to lose money.They're going to generate, you know, two, three, four, something that's very solid.And then you can layer on these emerging managers or what we call established a little bit more under the radar managers And define that as more under the radar for like our client base, who's not intimately familiar with venture.Oren would be an example of that.But everyone in venture knows Oren or Ray Tonsing, a caffeinated capital.You know, there's a number of examples there.And so that type of portfolio construction, we believe, can create this really strong risk return profile where you've got a little bit more vol, but increased potential for that, you know, 10x, 20x portfolio. whatever X fund on the one side, buttressed with the more established managers who are a little bit bigger and are going to generate more stable returns.
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Visit lemon.io slash twist. So tell me, how do you evaluate emerging managers, emerging managers?And how do you define emerging managers?So maybe for the audience, we could start with how you define what an emerging manager is.And then since it's emerging, you don't have 20 year track records, you don't have 10 funds to look at, how do you determine where to place a bet?
SPEAKER_01: Yeah, so it's definitely tricky.And the way to start with the definition here, and it's changes a little bit, you know, we've, again, bifurcated into kind of established, established, but under the radar, and then emerging, and we view emerging managers as you're on fund 123. Maybe for kind of depends your size and your network and your brand.For us, we have generally been looking for groups that have spun out of institutional players.And so I mentioned, you know, Wes Chan at FPV, who spun out of Felicis before that Google Ventures before that Google, it does give us a track record. Attribution can be a tricky thing, but we can get comfortable that, okay, this is someone who's been doing this for a long time and we think can continue to generate these types of returns.Tomas Tongas, a firm called Theory, spun out of Redpoint.We're an investor in his new fund.Same type of idea, right?We can get comfortable.
So that's easy.
SPEAKER_03: They had a track record.They were at a great firm.You can kind of look back into what they had their fingerprints on.And then there's... folks who, and I have a little bit of that to a certain extent, because I had Sequoia Scouts portfolio that people could look at.So what do you do for somebody who's, hey, I'm just, this is my first fund, this is my second fund, just get to know them, and we'll talk to you on your third fund?
SPEAKER_01: Not necessarily.Not necessarily.So I think, you know, we think about answering a few basic questions, right?So Is this individual or fund?And usually it's individual.I feel like ventures become very individualized in terms of there's been a movement that I've observed.I'm curious if you agree with this, where people, founders are often interested in working with specific investors within brands or otherwise versus like, I just want Fund X. Sequoia, whatever.
SPEAKER_03: You want... Alfred Lin at Sequoia, you want Stephanie, you want Roloff on your board.Yes, that is the thing.Yes, people start to identify the individual and their traits and their reputation and their network.
SPEAKER_01: So that first question is, okay, are you someone that's going to see the best opportunities and the best ideas, right?Are you getting that kind of coverage?And then the second layer is, can you win investments into those businesses?Because that is equally important.You could have like the most crazy CRM system in the world and you could get in front of every great founder before they even launch.But if that founder doesn't want your capital, then it doesn't really matter, right?So are you actually able to get into these really eye-popping opportunities?And then how do you demonstrate that?And that third piece is the most difficult.
So the way that we will go about underwriting for... a new fund manager who we don't really have full track record for is... We certainly aren't going to invest in someone if they've never made an angel investment or an early stage investment.That's kind of a non-starter.But we think network is probably the most powerful thing in venture capital.And at the core of that is trust.And so we will go talk to... And we'll do this really for any fund we talk to, but it's weighted higher, if you will, for these types of managers Other GPs, we'll go ask Andreessen Horowitz or Founders Fund or any of the groups I've mentioned, right?Hopefully someone who shares a board with this individual and say, hey, what's your view of them?How's it been working with them?Are they really sharp?
Does the founder respect them, et cetera?We will go to the LP community, talk to other institutional investors or family offices who have broken through and say, hey, what are your views on this LP?You're an investor.What made you get excited about this?And then arguably one of the most critical pieces is we'll talk to founders. And we'll say, okay, tell us in a demonstrable way, like, what has so and so done in their relationship with you starting from the beginning?How did they find you?Why did you pick them?And what have they done since?And then you're really looking for the core question, which is, if you've got a founder friend, would you recommend them?
And would you recommend them over? one of the other folks that you've mentioned and that we've talked about, right?And if we can't get comfortable that GPs think this person is rock solid, I would bring them into any deal that I have and be happy about it.LPs are able to say, okay, because we could do 10 references and another LP is going to do another 10, another 10, and you start to benefit from that scale.And then the founders, right?If we can get comfortable across all three of those lenses, and it makes sense from a portfolio construction perspective, because we're looking at stage, we're looking at size, we're looking at sector, then great.That's, that's how we would get comfortable.But it's, it's not as straightforward as, you know, looking at one of these great firms that's been doing it for a while.
SPEAKER_03: Yeah, it's, I'm in 20 funds that are not my own 24, including my own.And yeah, I, I am almost exactly parallel to yours.Do they have some unique deal flow?Right?And then can they compete for a deal?Now, I tend to do seed stage deals, seed stage funds, and I do pre-seed and seed.The great thing about that is by the time people get to Series A, there's between 30 and 50 names.So the competition is not as dogged as people perceive it to be because they're used to Series A and Series B competition.Most LPs don't understand that the seed stage...
because there's no, you know, evidence here, or the evidence is not as clear as a series A or series B investment.You don't have one person backing up the truck, you have people going, huh, I would like to put 250 or 500k into this $1 million round.And they're like, the founders like just to take the whole million.And they're like, Yeah, maybe I pass the hat here and spread the risk a little bit.And then I'll put more money into the next round.So It's, it is definitely competing for deals.And I think this doubling down strategy, your decision making strategy is super important.And some people have great decision making, some people don't.And I think, you know, your doubling down strategy is critical, as we talked about earlier.
And that's the one I am obsessed with right now.Yeah, because we do pre seed and seed. We just get people to send us monthly reports, quarterly reports, roll them up, and then we have some secret sauce.Some of it should be obvious, like revenue, or what's the level of the investor who's interested in the next round and which investors are inbound to them or which ones respond to our introductions.Sequoia and Kraft and whoever, Benchmark, are really interested in meeting with the firm.Man, that's pretty good for us.Yeah. yeah, maybe we need to, if a top tier fund is going to give them a term sheet at series A, maybe we need to take that option and put another 500K in.So I have really gotten obsessed with, I have a framework now.
I guess I could share it if you're interested.Yeah.Well, I like to vet them and I like doing it publicly because I don't feel I'm in competition with anybody.We have the second largest amount of inbound of any firm.It's like YC and then us, 45,000 applications and we get 20.So with all these applications coming in, we don't really feel like if we lose a deal, it's our fault.Not that we didn't get to the company.So I've now defined likely winner, and definitive winner coming out of the seed stage.So these are my criteria.
Likely winner, definitive winner.Now that doesn't mean definitive DPI, IPO, parade, you know, pop the champagne, but coming out of seed to series A. Likely, they tend to have a party round going on. And there's, you know, two or three leads.So multiple leads putting in money.When it's a definitive winner, it's usually a known VC firm.Okay, so you can compare those.Multiple co-leads, one person.A convertible note in the likely winners, a price round in the winners, definitive winners.So just the legal instrument, because somebody's putting in 3 million, 5 million, whatever they're doing in the definitive winners, they're just like, I want to price these shares. And because there's three people leading this one and a couple of angels or whatever doing their pro rata, they just do a convertible note.
Okay, so you got two criteria there.And then on the on the third criteria, governance.In the first one, the likely winners, there may not be a governance change, they may not have started the board meetings, nobody wants to take the board seat.Then when you get to the definitive winners, somebody specifically wants a board seat. So that's how I've now parsed the world.And when I see a likely winner, I tell my team, which bucket does this feel like more?And they tend to have the same growth.Could be two or three, four X growth year over year.They had 100K in year one, year two, they have 500K, or they went from 200 to 600. But it's that it's how seriously you know, the round is the next round is coming together.
And is the organization becoming properly governed?We know with the right investors now it's not perfect, but it definitely signals it and they just say, tell me if it's a likely or definitive.And it's so rare that you see the definitive set as i've outlined it it's rare but you do see a lot more i would say it's 10 to 1 we'll see a note come together for 3 million bucks and then the definitive you know 5 million bucks comes down from craft or whoever gets greedy and wants the whole round and they want to be on the board and they want to you know i use greed as like the good type of greed yeah like i want to see this succeed you know the passion come in i don't know what do you think of that
SPEAKER_01: I like it.I think it makes sense.Yeah.
SPEAKER_03: If anything, yeah.This is a working theory.I'm still working on it.I'm about 70% of the way there with this theory.
SPEAKER_01: That's pretty good.That's pretty good.I think there's a few things.One thing that's interesting is you'll hear a lot from VCs that in order to make the highest returns, you need to be contrarian.And so interesting within that context of And I think it fits well, actually.If you have one strong lead and you don't have others at the table who are trying to co-invest, you kind of could have that contrarian view.Yes.So that's really interesting.I think that fits well and makes a ton of sense.
I think the one piece... There's some firms out there, Goodwater, for example, or an investor in Goodwater.I think they're really, really smart.They are more data-driven.And one of the things that they are trying to identify is... other than the obvious, right?That sort of Stanford computer science graduate who has already built a billion dollar company and is starting his next one or her next one.How do you figure out the opportunities that other people will miss?And so actually, I think that fits into your framework well, too.But the interesting question is, I don't know that the The founders, funds, the Andreessens, those folks of the world, maybe they do, are willing to take as big of a risk on someone like that who may create a different category and maybe, you know, a dentist who may be, you know, someone who doesn't fit the traditional bill.
I'm talking myself into a circle here back to actually thinking if you've got one lead, that's actually a huge, a good positive signal.
SPEAKER_03: Yeah, it's conviction, right?So it could be contrarian.I was thinking conviction, but I like your punch up there that it's conviction and also contrarian.Like, it's not like... There's four people, five people, everybody's group thinking, okay, this is some AI startup.Yeah, we all got to put 500k into it.Everybody talks themselves into it.Everybody's taking a little bit of risk, not a lot of risk.So it's like when you have whatever size fund, you know, the 500k check, you can get a little frisky.But the $5 million check, got to think it through.
People are going to notice that bet.Yeah.
SPEAKER_01: 100%.How do you think about, you know, that's kind of pure signal from who's investing.The other side of the coin might be, you know, say product market fit, right?And so one of the interesting concepts I've heard from one of our fund managers is, you know, I'm really looking, I get excited when I see extreme product market fit, right?Huge growth with no marketing.
SPEAKER_03: And so there's a term for that.Yeah, it's market pull is what Andy Ratcliffe from one of the benchmark founders called it has called it and market pull is you know, when you see it, it's like the stuff is flying off the shelves faster than you can do it and your issues become customer support. Your issues become customer success, salespeople, just the number of requests coming in, servers.The whole nature of the startup changes.The problem set moves from, okay, let's come up with a great hamburger and a great way to present it to, oh my God, we're out of napkins.There's too many people online.We're going to run out of iced tea. you know, it's that kind of thing.If you thought about it like a hamburger stand, it's kind of like, what are Shake Shack's problem?
Shake Shack's problem is the line's too long.You know, when you go to Madison Park, it's like, that line's too damn long.Okay, let's put a camera up so people can see when the line's shorter and they can time it or, you know, whatever.We'll tweet out when the line goes under 30 minutes or something.That's a different problem.So, we do look at that.Yeah, absolutely.And, you know, at the seed stage, you have to you have to start talking to customers.That was the thing I found very disturbing in the Zerp environment that last three or four years to see people not want to join the board and own a higher percentage than we did.
So we might own, when we own over 5%, we want to be a board observer or have a board seat.We think that's reasonable.Yeah.And we really don't care if it's an observer or a full board seat in most cases, because in my experience, I've never seen in a startup, like the board vote be some dramatic, television hbo movie where like oh my god the future of this startup is based on that it's very very rare happened with uber it has not happened a second time in 400 it almost happened with open ai right to a certain degree yeah so that the reason these are notable is because they're rare yeah um and really what you want to know when you're on the board is when's the next round when is the next round happening?So you don't get left out of it?And are they going to sell the company or not?Right?And they just having that early signal, like, hey, they're thinking of selling the company,
Or are there secondaries occurring?Just like there are major financial transactions occurring.And if you're a VC firm who owns over 5%, you own 8%, 12%, 6%, whatever it is, that could be a very meaningful moment for you to expand your position, to clear some of your position, to take your pro rata to not.And if you know about it early, you can really make a more thoughtful decision.So... That's always been very troublesome to me, people not calling customers and no governance.Those are my two huge red flags.And man, I saw that happen.It was one vertical where it happened more than others.It was crypto.
SPEAKER_01: Yeah, I was just thinking that.I mean, there's FTX in a nutshell.
SPEAKER_03: I mean, it was so weird to see these companies come in and I'd say, Who's your customer?And they'd be like you and I'm like, No, no, I'm an investor.So yeah, no, we want you to invest in the token.I'm like, Yeah, but what does it do?Oh, you know, it helps you render there was like a render coin.It's actually done pretty well.helps render videos, whatever.Like, okay, it's really novel concept in the world.I appreciate on a technical basis, but we're the customers, we'll find out what your value in the company at a billion dollars and we'll find out like, how about we find out lean startup style? ask a customer get them to use the product and then see if they'll give us their credit card after the trial or take their credit card and say on day 31 it's going to get charged like there are some founders who do that you can use it for 30 days but i need your credit card day 31 if you don't cancel by day 31 it's going to charge it and you can cancel after that but you know you're at least going to get that one month out of you some founders are afraid to do that
It's interesting.
SPEAKER_01: I mean, you can do, there's this concept of, you know, painted door tests too, right?Where like, even before you launch, you know, you could say, okay, we want to see if this is product that's going to resonate with the market.And so we're going to create a website.We're going to create basically like the minimum amount of stuff we need to do to have it be there.And then let's see if we get pre-orders.Let's see if we get website visits so we can drive traffic.
SPEAKER_03: I never heard it as the pre-order.The Painted Door Test is a really good evocative name.That was a lot of Steve Blank and Eric Ries started this lean startup movement over 10 years ago and the science of it.And yeah, just put up a landing page with the name of your product, sign up for $49. ask people to put their credit card in and then say, yeah, we'll charge your card.When the product comes out, we've put you on the mailing list.We're going to send you 30 days.And then they wouldn't even start it, but you at least see if people have any inclination.That was the thing I liked about Kickstarter.It's too bad.
Hardware sucks as a category.
SPEAKER_01: Yeah.It's a lot harder.
SPEAKER_03: I mean, have, have we seen any hardware consumer hardware company have a great venture outcome in the last 10 years?Name your top three.
SPEAKER_01: I mean, it's, It's tricky because yeah.Okay.Okay.I found her.I was, I was going to just dodge your question there, but I'll think about it for a second.
SPEAKER_03: Bought by Google for nest, whatever that was.Drop cam became nest.I guess that was 500 million.I mean, I I've been down this road so many times.It's really hard to find consumer hardware that works.
SPEAKER_01: I think it goes to the exception proves the rule back to the earlier point.It's tough.I mean, and it starts with margins to a certain degree, right?And growth to a certain degree.And then you got to sell for distribution.You got to sell for manufacturing.You got to sell for like so many more things.Defensibility.Yeah.Defensibility.
SPEAKER_03: Tesla would be the one.Tesla would be the one.If you consider it like it is a hardware product.
SPEAKER_01: All of those have huge software components, right?So it's maybe less a little bit GoPro, but even there.
SPEAKER_03: Yeah.All right, man.This has been amazing.You know, the one thing I wanted to talk to you about was just the democratization of VC.You work with a lot of family offices.And we actually did our raise 506C.And I just published the deal memo at launch.co slash memo.And hundreds of people asked for an allocation.Now we have a limit on the number we can give to accredited investors and we can't accept non accredited so we can really only accept qualified purchasers at scale, but we did get a lot of accredited investors and accepts a lot of them with 50k 250k checks, which was great.
You see a lot of demand, you know, in the long tail or the medium tail for this space?And how do you think about capturing that?
SPEAKER_01: I love that you're doing that.And as a personal note, it's something I'm passionate about.I think that certain regulatory agencies make it way harder than not to invest in top tier venture firms by basically incentivizing structural changes such that they only take qualified purchasers or even accredited investors.And if you think about like, I could go buy name your coin tomorrow, but I can't invest in a top tier VC fund.It makes literally no sense.And so I hope that we see greater democratization in this space.I think you're leading the way and I applaud you for it.I think that there is trillions of dollars in value that right now has no home in that market segment.And I think to the extent that they educationally understand the power of venture capital,
And to be fair, have the ability to allocate to a space that's not going to return capital for quite some time.That is something that would be fantastic to see more of.So I do think it's... I'd love to say it's inevitable.I don't know based on the things that have to move in order to create more people doing it.
SPEAKER_03: The SEC has to really... They have a mandate to create an accreditation test.And I really think that would be helpful.I think taking the accreditation limit off... Like accredited investors who pass a test should be able to invest in whatever they want.If you take a five hour test, or let's just say a test that takes five hours of studying, the test itself could take half an hour.But you know, like, imagine you had to sit through five hours of of course, where on diversification, on interest on private companies, how long they take to go public, how many fail, and you just showed people the statistics for venture capital and the IRR, private equity, real estate, and then you made them take a test that prove they understand, you know, the failure rate of these and what did the top quartile venture firm firms do and the average one do? And they just had a general idea of like, the risks they were taken, or, you know, a very concrete idea of the risks they were taking. They don't do that in Vegas.They don't do it on, I don't know, all this fantasy sports stuff people are betting on.
And people can gamble the heck out of the state lottery.
SPEAKER_01: Take a state lottery.I mean, it's unbelievable.And you look at how that disproportionately affects lower income people, right?I mean, it's like, okay, you're going to let them do that.I think the chance of winning the lottery and take the NPV of it, do whatever you want with it and compare it to like bottom quartile venture and it's not as good.
SPEAKER_03: That would be actually correct.Somebody make a chart of that.That's a really good blog post I should do.But like if you took scratch off tickets and you took the bottom quartile of venture capital, better off putting in a venture capital.So maybe they should have scratch off tickets and you scratch it off and you get a certain amount put into a venture capital.
SPEAKER_00: I love it.Yeah.Which one?That'd be fantastic.I'm in.Scratch it off.You got, Oh, I got three Sequoias.
SPEAKER_03: I need one more Sequoia to get in there.All right, Jordan, you've been a great guest.I'd love to have you on again and we'll see you all next time on this week in startups and the angel podcast and whatever this is.Okay.Bye-bye.Thanks Jason.
