Duet Partners
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Weekly Briefing Note for Founders

23rd June 2022

This week on the startup to scaleup journey:
  • LP money supply is a metric we all now care about
  • A startup can pivot on anything - except this
  • Hire for persistence

LP money supply is a metric we all now care about

As the venture capital food chain adjusts to a worsening economic outlook, all eyes are on the money supply from investors in funds, the Limited Partners (LPs). This is a key barometer for startups looking to raise investment over the next year. If VCs become more anxious about their own ability to raise new capital, they will deploy current funds with much greater caution. Even though there is a significant amount of dry powder in committed funds, the priority will be to prioritise support for existing portfolios. A big share of this pool could easily be soaked up by troubled late-stage companies now on the drug of high monthly burn rates. In terms of new funds coming into the market, global VC fundraising reached $94.1 billion across 324 funds in 1Q22 according to Pitchbook. At that pace, there was speculation that capital raised at the year’s conclusion could surpass the record total from 2021. Now there is real uncertainty.

LPs who thought that the magical returns of 2021 had signalled an opportunity for positive cash flows (where distributions are greater than contributions), still largely find themselves in negative territory. But LPs invest for the long haul—if they have matched their investments with the horizon of their liabilities, they should have a temperament that allows them to stick to their strategic objectives and not be tempted to reverse course during times of market stress. But Pitchbook reports that some LPs are allowing cash balances to temporarily drift up. Distributions from private market exits and income-producing investments are being allowed to sit in cash while LPs take some time to assess their next moves. We are clearly in a period of readjustment.

At the European level, VC funds here raised a record $13.3 billion in 1Q22 but the total for 2Q22 to date is over 40% lower and stands at only $7.8 billion, according to Dealroom. Whilst this is a bigger number than any quarterly total pre-2021, the reality is that no-one yet knows where this will end up. For founders assessing the investment market, capital flows into VC are now a leading metric to monitor and we shall be reporting on these more regularly. With late-stage valuations and round sizes already under huge pressure, the big question is how quickly this will transfer down to Seed. Overall, global funding dropped again in May, but Seed bucked the trend, increasing 11% from the average $2.8 billion invested monthly at this stage in 2021. The sense is that this upswing is only temporary. For sure, Boards are pushing founders to close out Seed campaigns already underway before more protectionist deal terms start to appear. For those about to start, a greater sense of realism on both the capital requirement and expected valuation is now required.

A startup can pivot on anything - except this

On the journey to product/market fit, just about every aspect of the business model is under review. New information is being discovered almost daily as the 'experiment' progresses. Tweaks are being made constantly. Sometimes the discoveries are so profound that a pivot is required. But one aspect of the company isn't tweakable or pivotable - and that's the culture. This is the DNA of the startup. It's created by the values, behavioural characteristics, and leadership style of the founders. It's built into the foundation of the business, but it's also highly visible, whether intended or not. Any outsider that interacts with the company can very quickly see it, hear it, feel it. Investors, in particular, are highly attuned to picking it up. It may never appear formally on a VC's due diligence scorecard, but it is always 'assessed'. A startup radiates signals right from the outset that act as a proxy for culture. Any one could be the make or break of an investment decision.

The first signal is the personalisation of the approach. VCs claim that less than 10% of all deals that are forwarded to them are personalised from the founder who sends them. This is the first easy filter that an investor will use to discard a deal. If a founder can't immediately tell an investor why they might be a great fit for their business, they have reduced their approach to little more than a mailshot. Their email will hit the bin fast having received a zero rating for lack of common courtesy (not to mention poor sales skills). The second signal is the actual design of the deck. Investors will rarely admit it, but a pitch deck that looks beautiful and alluring will open doors. Julie Penner, venture partner at Frazier Group, is quite frank about this; "Investing is more of an emotional decision than VCs own up to... if you send an ugly deck, I will assume you will build an ugly website and an ugly product and no one will buy it...and, if anything about the deck is incongruent, I will struggle to make sense of the deal (and I might not be conscious of why I can’t get comfortable with the deal)."

The third big signal is response time. Even though this is where VCs themselves get ranked low by founders, not replying promptly (not necessarily immediately but within 24 hrs) suggests you are not on top of all of your tasks, whatever the reality. And by keeping email responses concise, you are again showing respect for their time, as well as just being professional. Another hint at being disorganised is a poorly constructed/populated data room. This is likely the first opportunity to convey operational excellence, but too many founders flunk this test. Teams that are disorganised often have paperwork that’s missing, and that represents a risk for investors. A complete data room also facilitates quick response times - on both sides. As Penner adds: If you come to the table already organized, that investor will assume that it’s less likely that you have missed something big that could be a company killer or that could be a costly mistake down the road."

Hire for persistence

Nick Jones is the founder & CEO of Soho House, a private members club phenomenon that now includes 33 houses across 14 countries. In his interview this week on the 20VC podcast, we hear a remarkable growth story that has led to the creation of an iconic global brand, accelerated by a public listing in 2021. But the most remarkable fact is not the growth itself, but that it has been achieved by someone who from an early age believed that their career options were hugely limited: Jones is severely dyslexic. "When you are dyslexic you are the bottom of everything and you don't expect success. At school, my exam results were non-existent." Jones attributes his achievements to a personal drive to change the way we view hospitality and then the persistence to see this through from startup to scaleup. Jones' personal journey and the particular insights he provides on the challenge of hiring the right talent to drive the business forward are so timely.

Downturns often present founders with the opportunity to re-evaluate their teams. With a greater pool of prospective candidates ready to consider new opportunities, the hunt for new talent seems to have moved up a notch in the past few months. But how good are we at truly spotting talent? In Tyler Cowen and Daniel Gross' latest book, Talent: How to identify Energizers, Creatives, and Winners Around the World, the big takeaway is that business leaders are currently failing at identifying talent, and that getting better at it would have enormous benefits for organisations, individuals, and the world at large. Gross cites some great examples in the tech sector where effective talent spotting, rather than the actual tech breakthrough, is the prime growth enabler. "..SpaceX, until fairly recently, wasn’t really doing anything new from a physics standpoint. There weren’t any new physics discoveries that Elon, in a lab in LA, figured out that von Neumann couldn’t figure out. It’s yesterday’s technology. It’s just that he is a better router and allocator of capital to the right talent."

VC David Petersen, in his recent blog, explains that great recruiters are quite easy to identify but then adds: "The best routers, however, are a special breed. They are empathic. Intuitive. They are often able to identify hidden talents of individuals on their teams. To spot a router, I like to ask about teams they’ve built in the past. How did they find each person? Why did they put that person in that particular role? I’m looking for stories of unlikely candidates doing extraordinary things."  Talent acquisition and deployment have recently become more topical in investor conversations. Tech founders, especially in early-stage funding campaigns, must once again elevate the importance of the team. Solid experience and some credible logos will initially catch the eye. But drive, ambition, and persistence are the assets now most valued.

Happy reading!

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