• Michael Kim of Cendana Capital On His New $50 Million Fund

    michael_kim_DV_20110104201014 (1)This morning, five-year-old Cendana Capital, which has made a name for itself by backing so-called micro funds, is taking the wraps off a new, $50 million fund of funds — roughly twice the size as its first $28.5 million pool.

    No doubt that’s good news to Cendana’s existing managers – including Freestyle Capital, IA Ventures, K9 Ventures, Lerer Hippeau Ventures, and SoftTech VC. It’ll also undoubtedly be seen as a boon to the many entrepreneurs and operators who are entering the market with hopes for their own seed-stage funds.

    Yesterday, StrictlyVC caught up with Cendana founder Michael Kim to talk about the new fund and his one big concern about today’s market. Our chat has been edited for length.

    Congratulations on the new fund.

    Thank you. We were targeting $30 million so this was way oversubscribed. We hit our hard cap.

    Your first fund must be performing well.

    Our net IRR was 24 percent as of June, and we expect performance to improve from there.

    Who have you backed with your newest fund?

    We’ve invested in five funds so far, four of which were [investments in managers we’ve previously backed], including PivotNorth Capital, SoftTech VC, Forerunner Ventures, and Lerer Hippeau Ventures. Our new investment is MHS Capital, founded by Mark Sugarman. He spent seven years investing his first, $34 million fund, and he wound up with sizable stakes in some great companies, including OPower, Indiegogo, and Thumbtack. We think we’ll eventually invest in roughly the same number of core positions as we took in our first fund, which is 10 or 11.

    Will other new managers have a shot at getting a check from you?

    Yes, though I do think it’s becoming harder for new entrants to compete. At this point, the incumbents really have the credibility to lead the best deals. And the ownership levels a fund can get are important, both because seed stakes get diluted and because the average venture exit is between $50 million and $100 million. If you own just a few percent of a company that exits at that range, it doesn’t really move the needle.

    When you set out to raise this fund a year or so ago, you’d also set out to raise a $25 million fund to make direct investments. Did that come together?

    We raised $17 million.

    Have you been getting asked, or have you been trying, to make more direct investments in the portfolio companies of your fund managers?

    We get involved in a subset of A deals, as well as subset of those companies that go on to Series B deals, where the tech risk is largely mitigated and the companies are generating tens of millions, if not hundreds of millions, of dollars.

    But are your portfolio managers calling you and saying, Hey, it’d be great for you to kick in a little capital so this other guy doesn’t get the position, or are you proactively seeking out these stakes?

    We proactively work with fund managers and entrepreneurs so we can react quickly if there’s an opportunity to invest. We’ve made three investments [from that $17 million fund] already, and in each case, the round was way oversubscribed but we got in because of our fund managers’ relationships with the founders and because the companies thought we could add value. We invested in Casper [an online retailer of mattresses], for example, and we helped them get on CNN a few days ago because my friend is a producer there, and they sold more than they ever have that day.

    Of course, there are cases where Sequoia will come in and do a Series A and not let anyone else in. It’s very competitive, but [we can keep up].

    A lot of people point to Sequoia as having the sharpest elbows. Who else tends not to want to share the Series A pie?

    All the top tier firms are very focused on ownership, and rightly so if they feel like a company has high potential. From what I can tell, Accel is similar, but it’s behavior that makes sense and that seed managers need to negotiate by having a close relationship with founders and [hanging on to their] pro rata rights [if they can].

    There’s concern that the market has been good for so long that a downturn, maybe soon, is inevitable.

    Even if the public markets correct by 20 percent, the most vulnerable sectors are the late-stage companies and investors. Hortonworks [which is going public and expected to command a public market value below what it was assigned during its last financing round] is a perfect example.

    Seed-stage funds are best-positioned for a downturn because if valuations come down, public tech companies will need to focus on growth, and they’re likely to use some of their tens of billions in cash to acquire it. And seed funds can exit companies at much more modest valuations and still get capital recovery.

    Everything could also freeze, including the bank accounts of would-be acquirers.

    If the seed funds can’t exit, that’s a big issue. Even though most of our funds have substantial reserves, they can’t carry a company forever. So a perfect storm would be a 20 percent market crash that causes Series A and B investors to pull back. You could end up with a lot of zombie companies. Still, even with a higher loss ratio, I think we’ll ultimately see seed funds do well. It just takes one or two winners.

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  • Waiting for Seed Funds to Sprout Cash

    sproutsOver the weekend, venture capitalist Marc Andreessen tweeted, as part of a broader conversation, that there are “definitely too many new small angel funds. That seems clear.”

    The comment kicked off a spirited debate on Twitter about small funds and their perceived merit. But if anyone knows what’s happening in the broader world of seed funds, it’s Michael Kim of Cendana Capital, a four-year-old investment firm that has made its name by backing micro funds, including Freestyle Capital, Founder Collective, IA Ventures, K9 Ventures, PivotNorth Capital, Lerer Ventures, SoftTech VC, and Forerunner Ventures. Kim, whose firm is managing around $90 million and is raising a fresh $55 million, talked with StrictlyVC yesterday about what he’s seeing.

    You’ve backed lots of micro VC firms. What’s your criteria?

    We look for groups that lead or co-lead their deals. There are plenty that just chip a bit into a seed round. But for us, it’s really important that the funds we invest in focus on ownership and on being the largest investors [in a startup’s seed round], as well as having substantial reserves. We’re looking for a firm that does three to five deals a year, putting in a million dollars [into each deal] and owning 15 to 20 percent.

    Most of your funds are in the Bay Area. Is that by design?

    We do think about the ecosystem: it has to feature high-quality entrepreneurs, high-quality co-investors, and lots of opportunity for follow-on capital. So L.A., for example, doesn’t have a good seed ecosystem; it’s too reliant on the Sand Hill Road crowd to fund its companies.

    More funds has meant more specialization. Is that a good thing or do some micro VC fund managers run the risk of backing themselves into a corner?

    I think it’s very important to stake out what your value-add is. Forerunner Ventures specializes in digital commerce, so pretty much anyone who starts in that space wants to meet with [founder Kirsten Green]. IA Ventures is known for being a big data investor; Founder Collective is known for being [comprised of] ex-entrepreneurs who want to help other entrepreneurs. Assuming it will become a much more competitive world, any seed fund really needs to think about its market positioning.

    How many micro VC funds are you aware of?

    A lot. When I started Cendana, the clear pioneers were Steve Anderson [of Baseline Ventures], Michael Dearing of [Harrison Metal] and Mike Maples [of Floodgate]; but I’ve probably met with or interviewed more than 260 groups since then, mostly in the U.S., because we don’t invest outside of the U.S., but also from Russia, Turkey, Berlin, China.

    It seems like many more micro VC funds are being founded by venture capitalists.

    A subset of them are definitely younger VCs from more established firms, which is an indictment of a lot of big firms that haven’t done enough about succession issues.

    Tim Connors [of PivotNorth] was at Sequoia and [U.S Venture Partners]; Chris Rust was at USVP and is starting a fund; Mamoon Hamid [also formerly of USVP] quit to join [former Mayfield Fund and Facebook exec] Chamath Palihapitiya at The Social+Capital Partnership; Aileen Lee left Kleiner Perkins to start Cowboy Ventures; Matt Holleran left Emergence Capital to start a fund [called Cloud Apps Management, which focuses on cloud business applications management]; Ullas Naik left Globespan Capital Partners to start [Streamlined Ventures, a seed-stage investment firm focused on infrastructure software]; Kent Goldman has left First Round Capital to start his own thing.

    Do you think VCs who launch seed funds have an advantage over ex-operators who launch seed funds?

    We think entrepreneurs have the most credibility with other entrepreneurs, because they’ve built their own companies.

    The one element I’m wary about is a lot of ex-entrepreneurs’ [experience]. A lot of them haven’t seen investing cycles, and one of the quickest ways to destroy a portfolio is through follow-on rounds – investing so that you suddenly have a $2 million hole instead of a $500,000 hole [from an initial investment]. So they have to have discipline about follow-ons, bridge financings and the like.

    How are all of these funds doing? Is it still too early to know?

    They look promising. A lot of the established players I mentioned [like Baseline Ventures and Floodgate] and older groups like First Round have promising portfolios. But in terms of returns – aside from [Baseline], which had a huge hit in Instagram – I suspect a lot of it is [high but unrealized IRRs]. Things have been marked up hugely on paper, especially if you’re in Uber or Pinterest. But LPs are very focused on cash returns, and while last year was a great year for venture firms like Greylock, Accel, and Benchmark, which returned substantial capital back to LPs, there aren’t a lot of seed funds that could say [the same].

    In the meantime, can things possibly remain as collegial as they have in past years between seed investors?

    A lot of new seed funds are relatively smart about focusing on ownership. At the same time, you can’t have four funds trying to get 10 percent [of a startup]. I do think we’ll see some sharper elbows.

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  • Seed-Stage LP Cendana Capital Looks to Raise $55M

    michael_kim_DV_20110104201014Cendana Investments, the San Francisco-based investment firm, has filed two Form Ds, for Cendana Capital II, LP and Cendana Investments, LP, with respective targets of $30 million and $25 million. (The forms are here and here.)

    Four-year-old Cendana has made a name for itself by backing so-called micro funds, including Freestyle Capital, IA Ventures, K9 Ventures, Lerer Ventures, and SoftTech VC. According to a source familiar with the firm’s thinking, Cendana Capital II, the $30 million vehicle, will continue to make investments in seed-stage-focused venture funds —  adding to roughly $90 million that the firm is already managing toward that end.

    Cendana’s first fund was a $28.5 million pool. It later raised a $60 million co-investment fund that Cendana manages with UTIMCO, called the Cendana Co-Investment Fund.

    In a new twist, Cendana is moving away from being strictly a fund of funds. The second fund that Cendana is now raising, — Cendana Investments, which is targeting $25 million — will make direct investments in startups.

    Cendana has yet to raise money for either of its newest funds, according to the filings.

    Cendana was founded by Michael Kim, who was among one of the original partners of Rustic Canyon Ventures, where he spent nearly a decade. Before joining Rustic Canyon, Kim spent about two-and-a-half years as an investment banker at Morgan Stanley.

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