• VC Brian O’Malley on the Next “On Demand” Wave

    bpo lrgBrian O’Malley is good at his job. He’s good enough, in fact, that two years, ago, Accel Partners plucked him out of his former firm, Battery Ventures, so he could bat for its team instead.

    As venture industry watchers know, these moves are rare, and they often pay off. Two famous examples include Sequoia Capital enticing Jim Goetz to leave Accel in 2004; Goetz has since led hugely profitable deals for Sequoia, including WhatsApp. Peter Fenton, also formerly of Accel, has similarly done a bang-up job for Benchmark, which lured him away in 2006.

    Earlier this week, we sat down with O’Malley at Accel’s new San Francisco office to talk about switching firms, as well as why, despite a sudden cooling toward on-demand companies, he’s as bullish as ever about them.

    We’re running one part of that chat today; stay tuned for the rest.

    Across both Battery and Accel, you’ve backed numerous startups that meet on-demand needs, like HotelTonight, the sports ticketing app Gametime, and the food delivery app Sprig. Are you still interested in apps that meet last-minute needs?

    At Accel, we’ve done three on-demand companies. We put a small piece in Sprig. We’ve backed the [Uber-for-kids startup] Shuddle. And we invested in Din [formerly called Forage], which is kind of like Blue Apron but that leverages the whole on-demand infrastructure, so you aren’t relying on all this packaging and UPS to get food across the country.

    You mean Din is piggybacking off other on-demand startups?

    If you think about it, Uber, Postmates, Sidecar — they all have APIs…

    More here.

    Connie

  • Having Won Over VCs, Y Combinator Turns to LPs

    y_combinator_logo_400-400x220Last week, Y Combinator ran investors through 105 presentations by early-stage startups in a two-day show it calls Demo Day. The pace of deal-making for such events, staged every summer and winter, has grown so feverish that the incubator introduced a new wrinkle: backers could commit to plowing millions into a company by simply clicking the equivalent of an “easy button” via an online dashboard that Y Combinator created.

    Many local VCs seemed too busy to notice. Brian O’Malley of Accel Partner was walking around on his phone. Jon Sakoda of New Enteprise Associates made the rounds. Hunter Walk of Homebrew looked to be taking a couple of meetings, too.

    Yet there were other, more surprising guests. There, in the front row, was “Stevie” Cohen, the famed hedge fund manager. Elsewhere in the audience, a money manager for Major League Baseball sat rapt, listening to the procession of startup presentations.

    Perhaps the most interesting category of attendee, though, were more traditional limited partners, who typically invest in venture and private equity funds.

    Indeed, while it used to be that VCs treated their LPs a bit like mushrooms, keeping them mostly in the dark, today’s LPs want to be closer to the action, and for them, Y Combinator is Ground Zero.

    More here.

    Connie

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  • To Atomize or to Grow?

    seedlingBy Semil Shah

    The growth in micro VC funds is now well-documented. While there are many reasons to explain why this trend took hold, the more interesting question to ask is: What will happen to those funds which survive?

    Grow the Team

    A natural desire of any entrepreneurial endeavor  — including starting a fund — is to keep growing it. In the context of small funds, traditional LPs will naturally hope this new crop of managers who emerge will grow a franchise, will add people to the team, and ultimately manage more money. Eventually, some of these franchises can grow to manage quite a bit of money per fund per GP and can, in effect, become a new type of Series A firm. This is the theory. It remains to be seen if more than just a few can make this transition, as the models at seed versus Series A are obviously quite different.

    Stay the Course as Lone Wolf

    While it may sound traditional to turn a good micro VC fund into a more traditional venture franchise, creating a strong general partnership is not a simple, check-the-box activity. Noting the difficulty, some micro VCs have opted to stay as solo operators longer than LPs had imagined. (See Manu Kumar.) Some, of course, continue to outperform and earn the right to manage more money per fund (if they choose to). In this instance, the LPs aren’t able to invest more and more of their funds into the GP. In the same way a large VC fund may look for opportunities to increase their ownership in a great company in their portfolio in order to make its own economics work, a large LP will often have a similar desire.

    Differentiate and Evolve

    Just as investors may have “app fatigue” or “food delivery service” fatigue, LPs pitched by micro VC funds have their own flavor of fatigue. As a way to cut through the noise, many of them drill into what differentiates a GP they’re considering an investment in. This can nudge micro VCs to differentiate on the basis of sector (hardware, Bitcoin, etc.), or geography (focusing in emergent areas outside the Valley especially), or stage (pre-seed vs seed, etc.), and more. And the success of Y Combinator and the potential for more steady budgets for an accelerator or incubator could encourage more to let go of the traditional fund model altogether.

    I know these choices because I have been faced with them. The LPs rightly ask these questions and conduct references to determine which way the micro VC wants to go. But the truth is that, just like most at seed don’t know how well a company will do at the very early stages, most of them also don’t know what the optimal path to take is. This can lead to an awkward discussion, where LPs may want or need to hear certain things to “check the box” in their processes versus having the raw discussion about what is working and what doesn’t. The truth is that most people don’t know, and in this market, which is changing year to year, the main value in these smaller funds is that their inherent nimbleness by virtue of being small gives them the right level of flexibility to adapt to a dynamic, ever-changing environment.

    Connie

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  • Jenny Lee of GGV Capital on What to Know Now About China

    jennyleeBy Semil Shah

    Jenny Lee of GGV Capital knows China. She set up the Shanghai practice of the cross-border venture firm a decade ago, and her performance since earned her the number 10 slot on Forbes’s Midas List earlier this year. It was the first time a woman has broken into the list’s top 10 dealmakers and hers represented the highest ranking ever for a woman in the list’s history. (Among Lee’s prescient bets: Leading an investment in the privately held smartphone maker Xiaomi, which was valued at $45 billion as of last December — a figure that billionaire investor Yuri Milner has said will look quaint soon enough.)

    We talked with her recently about what, exactly, is happening in her vast backyard right now.

    A few weeks ago, the Chinese economy was the talk of the town. Can you summarize what happened and what we should expect moving forward?

    The Chinese stock market, which is largely retail driven, took a dive for a few consecutive weeks and resulted in a series of panic selling. The government had to step in with measures to calm down the market, including putting a temporary halt on new IPOs, halting trading on [other stocks], and encouraging the state-owned companies to acquire shares of “undervalued” listed companies in order to restore confidence in the market.

    It is important to understand that the Chinese stock exchanges are still relatively young, and over the years they’ve been steadily opening up and attracting more institutional investors similar to international markets. However, the transition will take time and investors in China will need to have a strong stomach for such fluctuations. For example, the IPO market has been halted more than 8 times in the last 20-plus years whenever retail frenzy takes hold. But from a long-term perspective, the direction is toward more openness and transparency and on cultivating an investor base that is more institutional versus retail driven.

    How has the correction in Chinese markets affected early-stage entrepreneurship in China? Do you believe it could have any affect on what’s happening in the U.S.?

    Historically, only traditional and local companies –stated-owned, manufacturing, etc. — have been listed locally. The markets have profitability listing rules that have made it harder or impossible for technology companies to fund raise or list in the local markets. But despite past events, early-stage entrepreneurship in China (which, interestingly is largely technology and internet driven) continues to flourish and we see a record number of startups every day.  Good quality companies will always be able to find a listing venue either offshore or onshore when they are ready.

    I believe China entrepreneurship will continue to generate some of the biggest returns in tech history, and for those who are familiar with China and the China-based VC managers who have generated real returns for their investors, the market will continue to be a hot spot for fund inflows.

    On a short-term basis, any impact in the U.S. will likely be felt most by the Chinese ADRs listed in the U.S. whose stock prices see huge downwards pressure when their investors take profits to fulfill their margin calls for their domestic positions in the China stock market.

    What are three characteristics of the typical Chinese mobile consumer that entrepreneurs in the West don’t fully comprehend?

    Chinese mobile consumers are not one homogenous segment but rather highly segmented by age, usage behavior, demographics gender, location, and more. A 14-year-old female teenager living in Anhui province is very different from a 40-year-old woman working in Shanghai. For example, companies can target the “average joe” segment, also known as “diaosi” users, or target the “aspiring” segment, also known as “baifumei.” Both are huge consumer segments in China.

    Another thing: Chinese companies prefer the subscription model, virtual currency/ items, commerce model versus a pure ad-based model.  Most people do not consume ads online, especially on mobile.

    Also worth noting is that a lack of a fully built-out offline retail and services in second- and third-tier cities in China means that many services and products are not available offline. Variety and convience factors are lacking. Hence mobile commerce is a very natural transaction-based value for users.  Thanks to Alipay and Tencent’s further efforts to tie users’ phones to payment providers, the ease of payment has greatly enhanced e-commerce, and anytime anywhere transactions via the mobile devices.

    As a long-time observer of Baidu, Alibaba, Tencent, and Xiaomi, do you expect them to be acquisitive in the U.S. as a means of deepening their ambitions in America?

    Yes, you will start to see more Chinese companies expand overseas after they have “conquered” enough market share in China. The question is not whether they will come but when they do come, how U.S. companies will feel about feeling acquired by a Chinese company.

    How does the Chinese startup ecosystem perceive Silicon Valley today? Is it seen as something to mimic, or something that could be leapfrogged given China’s enormous market power?

    It’s seen as place that is driven by innovation and where the tech talent lives in the U.S. Many CEOs see Silicon Valley as a very complementary talent pool to their teams as they try to expand overseas. There’s also a large pool of Chinese engineers and entrepreneurs who have spent the last 10 to 20 years living or working in the U.S., who are now ready to return home to China.

    It’s not about “mimicking” the U.S., since China is already more advanced in terms of mobile user base, mobile adoption and usage behavior. Also, the Chinese don’t view the U.S. as the center of the universe.  For overseas international markets, the U.S. is just one of the markets. They can also address the India market, the South American market or the Southeast Asia market, among others. In many cases, it makes more sense to address other markets first before the U.S. as Xiaomi has done.

    Connie

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  • Quick Chat with Anamitra Banerji of Foundation Capital

    ab-new-squareBy Semil Shah

    A number of early Twitter employees have landed at venture firms over the years. Think Mike Abbott, a former VP of engineering who is today a general partner at Kleiner Perkins Caufield & Byers. Or Ryan Sarver, former director of platform at Twitter who is today a partner at Redpoint Ventures. Or, more recently, Jessica Verrilli, a former director or corporate development at Twitter who joined Google Ventures in late spring.

    Anamitra Banerji, who spent two-and-a-half years as a product manager at Twitter, has also carved out a new career for himself as a venture capitalist after becoming a partner at the 20-year-old venture firm Foundation Capital in late 2012. (Earlier gigs include years of leading product development and marketing for Yahoo’s performance display ad product, and roles with Overture and Tata Consultancy Services.)

    We recently talked with Banerji about his role at Foundation — currently raising up to $325 million for its eight fund, according to a months-old SEC filing — to see how things are going.

    Two of your board seats are in NYC, and you’ve only been in VC a few years. How do you manage to stay engaged with them and live on the West Coast?

    Great startups are being built outside of Silicon Valley all the time, especially in NYC and Boston. Some of these startups have been exceptionally successful – DoubleClick, Tumblr, and Etsy to name just a few. I am sure we will see iconic companies from the East Coast soon, too, and hopefully a few of them will be from our portfolio. But there’s no doubt that as a West Coast-based board member, the company-building effort on the East Coast is harder work with a greater board load.

    A high degree of trust and communication is key to staying top of mind if you are not there in person. This means regular texts and calls with the CEOs and management. One of the things I used to do at Twitter is to send out a weekly email to everyone with three good and three bad things that happened during the week – just six brief bullets – to keep everyone posted on what’s going on. Some of our portfolio CEOs have adopted the same communication format, which increases the ambient intimacy I have with these remote companies.

    Foundation seems to be hosting and organizing a lot more events throughout the week. Has that always been the case, or is this a conscious decision to be out in the community more?

    We have always done function- and category-specific events aligned with areas of interest for my partners, such as design, fintech, marketing tech, and security. My focus has been consumer and product and our Product Minds Dinner series is part of that. We also brought on board Meg Sloan [who worked in business marketing at] Facebook, who is our VP of Marketing. Meg has been weaving her magic through the firm and our portfolio companies, and her focused efforts are adding fuel to the fire.

    Your career has been consumer and ads, but you’ve made some SaaS investments, too. How do you prepare for these new areas as a VC?

    I started my career as an engineer, and then switched to product management – at Overture, Yahoo and Twitter. When it comes to new investment opportunities, I operate from a product primitive, irrespective of the category. When it comes to the SaaS companies that I am involved with, I have found two things very compelling about them. First, the products themselves behave like consumer products, meaning they’re sticky and easy to use, and second, the focus of the go-to-market is the ground war as opposed to the air war, meaning they’re selling to the rank and file instead of selling to suits.

    Twitter continues to dominate headlines. You were a very early employee. If you were to return to the company, what would be three things you’d love to see and why?

    I was fortunate to be the first product manager at the company and started advertising products and the revenue team. When I was interviewing we were around 20 people; by the time I joined we were 25. I continue to be a heavy user of the product, and an advocate for the company and the phenomenon that’s Twitter. The company is [making strides]. Incremental product releases have accelerated. Experimentation has accelerated. [Yet] I think the time has come for Twitter to make bolder product moves. Incremental improvements and experimentation is not enough.

    Connie

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  • The High Cost of Small Checks

    moneyBy Semil Shah

    Naively, one of the most profound lessons I had to learn in attempting to raise funds from limited partners is that most institutions prefer to write large checks. By “large,” I mean commitments to VC funds that are equal to at least or oftentimes two to three times more than what a typical decent startup may raise in its lifetime. It is all rational. The time, attention, diligence, legal burdens, and administrative headaches of doling out smaller checks to more funds reduces a larger institutions’ ability to concentrate and, frankly, creates a roster of more egos to manage over a long period of time.

    An LP friend and mentor of mine summed it up perfectly to me: “Semil, I like you, but you gotta understand, my friends don’t get out of bed unless they’re writing a $25 million check.”

    To those who haven’t raised funds or been around fund formation, it can all seem inefficient. For the rash of micro VC funds that have formed (mine included), we collectively confuse, vex, and overwhelm traditional institutions, including because of our higher pace of investing, heavily reduced levels of ownership, lack of toothy pro-rata rights, and a host of other issues.

    Luckily for micro VCs, it doesn’t really take that much money to get going. My first fund was $1 million. It was really hard to raise. Some people have access to wealthy folks, family offices, or corporations, but it isn’t a slam dunk to raise a small fund. The second fund was considerably bigger (relative to the first), yet was still too small for institutions. The third fund will be even bigger — perhaps just at the size where the larger institutions like to build a relationship and track, much like a large VC firm who drops a $100,000 check into a company with the hopes of monitoring its progress.

    As other non-traditional LPs (companies, high net-worths, and even funds) have stepped in, it’s created a boon for entrepreneurs. People with the right networks and halfway decent concepts can raise as little as $1 million in a month, even in a category where every early-stage investor knows there are four or five nearly identical competitors working on the same thing. Many of these attempts won’t go on to raise traditional venture capital, and the institutional LPs know that.

    So, while there’s a high cost of writing so many small checks, we will have to wait a few years still to see just how costly it is. On the other hand, the cost of starting up may, in fact, decrease during any kind of correction as talent becomes less fragmented and major cost drivers (rent, salaries, benefits) decrease. Founders who are in demand and who are dilution-sensitive may want only specific people on their cap table, and they may want $100,000 to start, not $10 million or even $1 million.

    We are a few years away from that, but this is where I see the trend headed — that being nimble enough to be invited to the cap table is what will define individual investors and firms. Those definitions can’t really be bought with money, and that’s what will make the next wave of micro VC investing so interesting — that is the high cost of small checks.

    Semil Shah is the founder of Haystack, a seed-stage fund that has backed Instacart, DoorDash, and Hired, among other startups.

    Connie

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  • Quick Chat with Homebrew’s Satya Patel

    SatyaBy Semil Shah

    Some people are operators, some are investors. Few have so effortlessly moved from one side of the table to the other — and back — as Satya Patel, who over the course of his career has held such roles as VP of products at Twitter, partner at Battery Ventures, senior product manager at Google, and senior associate at Impact Venture Partners.

    Put another way, Patel — who in 2013 cofounded the venture firm Homebrew with former Google colleague Hunter Walk, an outfit that’s already on its second fund — knows a thing or two about Silicon Valley’s undulations. We talked with him about it recently.

    With companies staying private longer and fewer M&A deals being done, how much of a liquidity crisis are early-stage investors facing?

    Most early-stage investors have a long-term horizon for liquidity, so the fairly recent changes in the IPO and M&A markets haven’t had a major impact on their ability to raise new funds. Over the longer term, if the IPO and M&A trends hold, the combination of a lack of liquidity and expensive holdings is going to mean a real crisis for them.

    Do LPs sense exits could be further out given the shifts we’re seeing in the private markets?

    Yes, LPs definitely see that the time to achieve liquidity is longer for various structural reasons. But the bigger concern is the increase in cost basis for most investments, particularly at the later stage. They believe that when liquidity does come, returns will be depressed relative to historical norms for all except the very best funds.

    What’s a deal at Homebrew you missed on and regret?

    The honest answer is that we’re only two and a half years old, so it’s hard to say that we regret anything that we missed or passed on yet. Those companies are nowhere near liquidity, even though in a ton of cases they have gone on to raise huge amounts of capital at high valuations.

    That said, there was an investment in the commercial real estate software market that we lost six months after starting Homebrew that we consider a likely major loss. The company chose to work with investors that had been around much longer, with extensive track records in relevant markets. We would have made the same decision at that time as the founders, but we still consider it one of the ones that got away. In general, we have conviction about our strategy and believe that in many cases, we’ve passed up short-term write-ups to avoid long term pain.

    There’s been a growing chorus of people saying that seed is the new Series A. Do you buy that?

    I think the labels are meaningless. At which “stage” a fund invests and with what dollar size investment is largely a function of fund size. Our goal at Homebrew is to be first institutional capital supporting a company with an investment between $200,000 and $1 million. Often that is pre-product, and other times that’s with a beta or more developed product in the market. Because there are so many seed-stage companies, the bar for raising the next round of financing is that much higher; even more is required to stand out from the crowd. So maybe in the past, you only needed to build the product with seed dollars. Now, you have to build the product and establish product/market fit with seed capital. Does that mean seed is the new Series A? It doesn’t matter what you call it. It’s the new normal.

    You’ve been in the Valley for a long time. What’s your sense of the health of the overall ecosystem right now?

    The ecosystem seems to be as strong as it’s ever been. There are more startups, more sources of capital, more information resources, more places — accelerators, labs, schools — to learn and more job opportunities than I can remember. The countervailing forces of limited liquidity and frothy valuations may slow down the ecosystem’s momentum. But there doesn’t seem to be anything that will stop the ecosystem from continuing to grow in all of those areas if you take a long-term view.

    Connie

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  • Notation Capital on Life as a Pre-Seed, East Coast Fund

    notation-capital-nicholas-chirls-alex-linesBy Semil Shah

    In February, Nicholas Chirls and Alex Lines, who previously helped develop companies at the startup studio Betaworks, closed their first fund with just $8 million dollars. Their Brooklyn-based firm, Notation Capital, calls itself a “pre-seed” investor. We caught up with Chirls recently to learn more, and see how things are going.

    How do you manage to run Notation Capital full-time despite it being a small fund and therefore earning lower fees?

    In order to pay ourselves modest salaries, we operate the fund using a budget rather than the typical 2 percent yearly management fee. Fees remain effectively equivalent to 2/20 funds over time, but the budget allows Alex and myself to front-load some of the management fees. It works well for very small micro-funds and is in many ways more transparent than traditional 2/20 funds because management fees tend to obscure other fund expenses like legal and fund admin, among others, [that limited partners], especially individuals, often don’t realize they’re paying other fees in addition to the management fee. Alex and I run Notation Capital extremely lean; it’s just us, we have a small office in Brooklyn, and although I previously would have scoffed at VCs comparing their new funds to startups, there are no doubt some similarities.

    Do you have plans in place to follow-on in your portfolio as companies raise more money?

    So this is a really tough question for funds of our size that take a relatively concentrated approach to portfolio construction. (For us, that means approximately 30 to 40 companies in the fund.)

    There are a couple of ways to approach this question. The first approach doesn’t save any for follow-on rounds out of the core fund, and instead focuses on writing relatively larger checks in order to obtain higher initial ownership. As companies raise additional financing, especially those that break out, there may be opportunities for the fund to structure pro-rata SPVs either with [our] existing LP base or on platforms like AngelList. It’s important to note that for non-institutional funds — Notation is a mix of institutions and non-institutions — that traditionally have a more complex LP base, structuring these SPVs can be super complicated and potentially riddled with conflict, so this can be a tough strategy in practice to execute.

    The alternative, and slightly more conservative approach, is to write relatively smaller initial checks earning less initial ownership with the intention of saving meaningful pro-rata to maintain ownership through the seed, and potentially Series A out of the core fund. We’re still only 6 months into operating our first fund, so in many ways we’re still refining our strategy, but initially we’re leaning towards higher initial ownership with less reserved for pro-rata.

    Give us a sense for what valuation prices are like for pre-seed, seed, and seed extension + A rounds in New York and the East Coast more broadly.

    Pre-seed valuations are around $1 million to $3.5 million. Seed valuations are between $4 million and $8 million. And A round valuations are between $10 million and $25 million-plus.

    Have you had founders in Silicon Valley approach you for pre-seed funding yet?

    We have, mainly because we’ve worked with quite a few founders in Silicon Valley at previous firms and companies. The concept of pre-seed, which is really just what we considered seed a few years ago, is quickly becoming a regular part of startup vocabulary. So positioning ourselves as one of the newer pre-seed funds in NYC has helped to tell our story. At the moment, we’re focused on building a community of founders specifically here in NYC, but that will change as our strategy evolves and our firm grows.

    Is the plan to keep Notation small, or to eventually manage more funds?

    This is the first of a series of funds for Notation Capital. That doesn’t mean we’ll raise significantly larger funds and move up the stack. Our bread and butter has and always will be working with highly technical founders at the infancy of an idea. What that means is that future funds will be larger in order to give us the flexibility to make meaningful follow-on investments out of the core fund and maintain ownership targets as the companies we work with mature. Our hope is that if we do it right, we’ll be working to build Notation Capital for years and decades to come.

    Connie

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  • Leo Polovets on Branding, Data, and One Funky New Trend

    1b7cc97By Semil Shah

    In recent years, Leo Polovets has been busily building a brand for himself as one of four partners at Susa Ventures, a young, San Francisco-based venture firm that’s focused on data. Polovets — who most recently worked a senior software engineer at the L.A.-based global location data company Factual and before that, as a software engineer at Google (and who, earlier in his career, was the second non-founding engineer at LinkedIn) — has made meaningful strides toward that end, too. Actively blogging smart observations has helped. We caught up with Polovets recently to learn more.

    Seed stage valuations — stable, going up, returning to earth?

    Valuations have felt fairly stable over the last year. The one change I’ve seen is strong-but-not-spectacular founding teams that have built a [minimum viable product] in four to eight weeks and are trying to fundraise at high ($7 million-plus) caps. To me, that feels like way too high of a valuation for a month or two of work. I didn’t see this pattern 12 to 24 months ago, but I’ve seen it about a dozen times in the last six months.

    Without much M&A these days, how does Susa think about exit profiles and returning a fund when liquidity is rare?

    We think about it a bit, but it’s a lower priority concern — at least for now. First, I think seed funds have more opportunities to sell stock in later funding rounds. It’s probably much easier for us to sell some seed stock during a Series C than it is for a Series D investor to sell their stock in a Series E. Second, I think this is an area where the market will likely figure something out. If there’s a true liquidity crunch, someone will come up with a transferable financial instrument, or a fund that buys out seed fund stakes, or something else that will address the problem. Finally, I think it’s hard to predict how liquidity will look in 5 or 10 years, which is when funds that started in the last few years will be reaching their conclusion.

    You’re quite active on Quora. Are founders reaching out to you via that network?

    I’ve had a few founders reach out to me on Quora, but not many — perhaps one founder every few months. My blog has turned out to be a much better source of deal flow. I get three to ten leads from that every month.

    I think the real value of blogging/tweeting/writing on Quora is less about explicit deal flow and more about creating a brand. Folks like you and Tomasz Tunguz and Jason Lemkin have done a great job in this department. As capital becomes more commoditized, especially at the seed stage, it becomes more important for investors to stand out from the crowd. My sense is that five years ago, having strong deal flow was one of the keys to being a great seed investor; now it’s more about getting an allocation in oversubscribed rounds — and a big part of that is just having people know who you are.

    Susa focuses on companies who create data moats. In a world where downstream investors want to see revenue, what’s the appetite for data startups that will take time to make money?

    The nice thing about data moats is that they’re usually built up as a side effect of growth and revenue, so monetization doesn’t need to be deferred. For example, if a startup is building an accounting tool, and the expense data being collected can be used in interesting ways, the founders are not going to say, “Ok, we need to make the product free so that we can collect more data.” Instead, they’re going to keep iterating on the product, improving the onboarding, exploring new growth channels, and so on. More and more people will find the product, use it, love it, and pay for it, and as a side effect the data moat will become stronger.

    One angle to data that I think is interesting is that it can provide some downside protection. VCs and founders generally swing for the fences, but it’s nice to know there are some exit options if a company’s plans don’t pan out. For products with a strong team, potential acquihires from companies like Google provide some downside protection. For products with network effects, sometimes an acquirer will want to buy a failing company just to get access to its customers and network. I think data moats can provide another acquisition asset, because data can have a lot of value to the right buyer.

    Finally, I think having data moats provides great optionality for companies and, by extension, for investors. Having a data moat makes it easier to defer revenue if desired because focusing on growth increases the strength of the moat faster, but it also makes it easier to start charging because having a data moat and features/products built on top of that data creates a lot more stickiness and lock-in — and fewer alternatives for customers who are reluctant to pay.

    Securing Series A funding is much harder these days. As a seed investor, what do you coach your founders to anticipate?

    My main pieces of advice are: 1.) Budget four to six months of runway to raise a Series A. If you need 12 months to hit good metrics, raise enough capital for 16 to 18 months so that you have time to raise money at the end. 2.) Budget time for hires to become effective. If enterprise sales will take six months to close, and you have to raise more capital in 12 months, then it’s probably pointless to hire salespeople in month eight. Hire a salesperson in month five or raise more runway in the first place.3.) Figure out what milestones you want to hit for your next round and work backward to figure out how much you need to raise. For example, for most SaaS companies, $1 million [in annual recurring revenue, or ARR] is the minimum viable revenue for a Series A. When deciding how much to raise, figure out how much capital you need to get to $1 million ARR; don’t just pick an amount to raise because it sounds reasonable or because it’s how much your friends raised. 4.) Don’t let money in the bank tempt you into spending faster than you should. Spend as slowly as possible until you’ve found product/market fit.

    Connie

  • Quick Chat with Jed Katz of Javelin Venture Partners

    Jed KatzJavelin Venture Partners emerged on the scene roughly six years ago, with a $75 million fund. Led by Noah Doyle and Jed Katz, the entrepreneurs, investors, and business school friends haven’t veered far from their starting team or their original mandate, either. We recently caught up with Katz to talk about it. Our chat has been edited for length.

    You started the firm with Noah and added a new general partner a few years ago without dramatically increasing your fund size. Was that your plan all along?

    We were always open to a third partner but brought one on a bit quicker than we’d expected, mostly because Alex Gurevich turned out to be such a great addition to the team. Our funds have all remained in the $100 million to $125 million range, though we’re now on Fund III, so there’s more capital per partner to manage.

    There seem to be two types of Series As right now — smaller ones and huge ones. For a smaller Series A — the types Javelin likes — what are you looking for broadly?

    We believe in a smooth fundraising cadence for companies, where enough Series A capital is raised to make real progress, hit important milestones, expand the team with A players, and demonstrate the potential for explosive growth, but not so much capital that you have to get virtually everything right to grow into an already high valuation in order to raise that next round.  Some of the very best companies took some time and made a few pivots to find their fast-growth path and could have easily died along the way if their early valuations were too high.

    We typically invest between $3 million and $5 million in our Series A rounds in companies that we feel have great founders, highly scalable and capital efficient models, sustainable competitive advantages, an ability to get to $100 million in revenue in a reasonable amount of time and that are creating substantial strategic value beyond just their revenue stream.  We also look for things where our operational backgrounds can lead to meaningful help in building the business.

    Is there a temptation to dabble into seed while having a mid-sized fund?

    Every day. There are so many great concepts being developed, it can be damn tempting to invest in a bunch of them.  This has to be the greatest period ever for being an angel investor. We have a rule of thumb when it comes to our seed investments, though.  We only do if it we’re very confident – even at this early stage – that we want to do the A round too, and we save reserves accordingly.  We hate the signaling issue for entrepreneurs when their VC seed investors don’t do the A rounds, so we really try to avoid that.  Also, even seed deals take a lot of our time since we tend to be very involved partners, so we end up only doing a few seed deals a year.

    For your companies which raise follow-on rounds, are you finding it easy to invest with pro-rata or super pro-rata?

    Yes, that’s never been a problem.  Even in the later stage rounds, we will sometimes do an [special-purpose vehicle] to maintain our stake.

    If you could change one thing about today’s seed ecosystem as a Series A investor, what would it be and why?

    Some of the seed valuations, or the caps on the notes, are simply way too high, and they get the entrepreneurs — and their employees — into both a terrible mindset and a very dangerous fundraising cadence, turning off potential investors that may have been their perfect partner.  A lot has been written about that problem, and we see it firsthand almost every week.  With that said, I’m certainly glad that there’s so much seed financing right now. That creates great deal flow for us, and it helps get the companies further along so that we have much more signal when we dig in.

    Connie

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