Playing the Long Game in Venture Capital | by Mark Suster

Silicon Valley and the surrounding media industry value youth. The culture is driven by an irreverent 20-year-old founder with big technical cuts who in a “David vs. Goliath” mythology confronts the titans of the industry and wins. Historically it has been the case that VCs would rather finance the promise of 100x in a near-revenue company than the reality of a company that grows by 50% but makes over $ 20 million in sales.

The valley has become obsessed with a fast-paced history of upward and right-wing momentum because it was thought that we lived in markets “the winner takes the majority.” Since the funds were driven by extreme successes in their portfolios, where only one operation could yield 5 times the entire fund, while 95% of the fund could have done well, but not surprisingly, not missing out on offers was key. It literally drove FOMO.

But markets have changed, and I think experienced investors, founders, and executives who want to join later-stage startups can benefit from playing along. Think of how much more value was created for all of these constituencies (and society) if Snap remained independent and Instagram sold to Facebook.

This is true for the consumer, but it is also true for enterprise software. For example, Procore has just gone public and is trading at a valuation of $ 11 billion. This “overnight success” was first funded in 2004. Imagine if, for example, Autodesk had bought it in 2009 for $ 100 million?

As Jason Lemkin points out, there are many more companies worth more than $ 10 billion these days and some worth up to $ 100 billion or more, so both investors and founders can make a lot more money (and have much more impact) playing the long game. Here is his post on the subject.

I was thinking about this in particular this morning and thinking about my personal investment history. Of the first four investments I made as a VC in 2009, two have come out and two (Invoca and GumGum) are still independent and are likely to yield billions of dollars ++.

One, Maker Studios, was sold to Disney for $ 670 million, and since our first investment was valued at less than $ 10 million, we did pretty well. Still, I begged the CEO and the founders not to sell. He was then convinced, as now, that the economy of creators would be very large and that the companies that had built technology and processes to serve these great creators would be very valuable. Former Maker CEO Ynon Kreiz is now Mattel CEO and former Chief Operating Officer Courtney Holt is a senior and senior executive at Spotify and remains close friends to this day. With the card game we had at the time we sold, but what would not give to continue working and lengthening with these two.

The second “exit” – Adly – innovated in advertising on social media and, for various reasons, was ultimately unsuccessful and came to zero. The talented founder and CEO (Sean Rad) created Tinder after Adly, a test that sometimes takes the intersection of a great founder + a great idea + a moment to produce a multimillion-dollar result.

The other two are still independent companies and I think both will now easily erase the $ 1 billion results that will benefit early investors like Upfront (we both did with valuations <$ 10 million) in addition to the founders (most of whom have past), executives who now lead these companies and even investors who were willing to support them in later stages.

All four companies were in Los Angeles (or adjacent … Santa Barbara) and our community has now matured and is regularly producing results of a billion dollars or more.

Much has been said about the negatives of late-stage capital that has entered the world of venture capital, but the reality is that it is also incredibly important to finance the “long game” and allow many of these companies to stay afloat. independent and, finally, the IPO.

Late capital abundance is good for all of us.

My first investment as a VC was Invoca. Today they announced that they have acquired a large competitor in their space for what is said to be a $ 100 million transaction. I am amazed that a company that just over 5 years ago was struggling to attract capital at a valuation of well over $ 100 million can now ACQUIRE companies for that amount.

It is a virtue of the laws of large numbers ($ 100 million in ARR) in addition to strong growth that is exacerbated by large numbers and large customers who trust our products for more than 7 years or more. And while it hasn’t been a “day-to-day success,” we’ll be happy to follow in ProCore’s footsteps. Our goal is to produce a winner of over $ 10 billion and remain the market leader in this AI SaaS category in sales and marketing.

Playing the long game, Invoca has the potential to become a Decacorn ($ 10 billion more), leading the field in the use of AI to manage large volumes in sales and marketing call centers.

I look back on how successful Invoca has been for all the different constituencies. Founder and CEO Jason Spievak made the company go from zero to one, helped me recruit its deputy CEO, and then helped Apeel Sciences increase its Seed Round & A (led by Upfront) and now they are also a unicorn. He then created a VC in the early stages that I follow closely – Venture Entry – which plays a prominent role in funding on the Central California coast.

The second founder, Rob Duva, set up another company called Fin & Field to book hunting and fishing excursions. And the third founder, Colin Kelley, remains a major contributor and CTO of the company.

All have been able to make secondary stock sales along the way, all remain shareholders in the company and all benefit from the state-of-the-art capital provided by Accel, Morgan Stanley, HIG Capital (Scott Hilleboe) and others. Provisional liquidity plus long-term capital gains work very, very well.

We all benefit from the incredible leadership of Gregg Johnson, a 10-year-old executive who entered into a $ 20 million ARR business and has guided it to $ 100 million or more and with plans to run it up to $ 500 million or more and go public. entity one day.

While the VC community realized 5 years ago that the short term in venture capital made no sense and has taken advantage of the scale advantages of letting companies stretch for a long time, the LP community in general has not fully realized.

For years I have argued that there was an advantage in giving some of these companies as Invoke the time it takes most companies to show the benefits of size and scale. But in the world of LPs there is an obsession with comparing the “upper quartile” in the short term, which generates biased incentives for new VCs to show fast performances.

At Upfront we are very fortunate to have had an LP over 20 years old who were patient as this older fund went from 2x to 3x to 4x and now seems willing to do much, much better than that. I’ll let you do the calculations on the returns of a $ 187 million fund and 25% of the ownership of a single agreement (Invoca) that can be worth between $ 3 billion and $ 5 billion or if we continue to run even $ 10 billion more.

At Upfront we are now in Fund VII, so a long-term LP base has allowed us to stay calm and focus on the long game, where we all get a lot more returns, but I remember what it was like to be Fund II-IV. and I constantly feel the need to justify my existence.

It’s been nice to see some VC thought leaders begin to erase the myths of “benchmarking” in the top quartile of the VC world, especially here by Fred Wilson talking about VC’s performance in relation to public procurement. He writes

“Half of all venture funds outperform the stock market, which is the benchmark that most institutions measure venture capital funds for.”

The method some LPs use to compare funds is called SME (public market equivalent), but honestly, my experience has been that benchmarking is really a challenge for LPs (and VCs). So many newer LPs are getting simpler, “Are you in the top quartile?” measured by MOIC, TVPI and IRR and by sources that do not disclose the underlying data and that they themselves must rely on incomplete data sets. Because most harvests have relatively few venture capital firms, because intermediate values ​​are difficult to measure, because data are incomplete, these methods are often not good predictors of long-term value.

I think this puts a huge strain on newer funds that are under pressure to show “quick gains” and to boost their investments to grab the highest price after the rounds or even sell their shares prematurely. to show quick hits.

I argued this very publicly in favor of the A16Z when the WSJ published an article questioning its returns. From the article …

And if you didn’t support A16Z because you were influenced by its “provisional marks,” DOH! I guess you missed Coinbase.

“Playing the long game” will often be dictated by whether the funds can work with the founders and executives not to sell before. Therefore, interim liquidity is often important. Invoke, for example, was interested in being acquired along the way for about $ 300 million. Since we had 29% of a $ 187 million fund at the time (the same one Maker Studios had), it would have been tempting for him to play to win fast. I’m so grateful that Invoca’s executives (and founders) were aligned because we all wanted to build something much bigger.

Not selling early can have profound effects on yields. Consider the case of Roblox (recently listed on the market for a valuation of approximately $ 50 billion) against MineCraft (Mojang), which at the time was seen as a spectacular success to sell to Microsoft for $ 2.5 billion. The virtue of going long.

And FWIW, the final of my first four investments, all from the same fund, was GumGum, which recently announced that it closed $ 75 million in Goldman Sachs-led financing. CEO and founder Ophir Tanz has created his next big startup, Pearl, with the support of David Sacks at Craft Ventures, among others. Another founder, Ari Mir, founded Clutter, which has raised hundreds of millions from Softbank and others.

The third founder and CTO, Ken Weiner, continues at GumGum as a CTO and is vital to our ability to outperform the market. All three will do very well with the founding of GumGum and its later companies. According to any external benchmark, this will be a $ 1 billion ++ company. Fortunately, there was also a talented executive team led by Phil Schraeder, who wanted to “go long” and build an industry leader who could go public. Morgan Stanley, NewView Capital, Goldman Sachs and others offered us back-stage capital that gave us a long-term perspective.

Without the current executive team of Phil, Patrick, Ben, Ken and others GumGum would have had suboptimal performances for all of us. We’re now ready to see how a company that defines industry emerges in contextual advertising as regulation and big technologies increase the use of cookies and increase the emphasis on privacy.

All FOUR constituencies win by playing long: founders, early VCs, late VCs, and executives. And the fifth — society — also wins by making sure we don’t focus too much on technological innovation, which is certainly a big deal for everyone.

The massive shift in dollars moving from public markets to private markets has benefited us, and while it can sometimes distort valuations as they pursue FOMOs themselves, the net results will be markedly positive for all of us.

Photo by Aaron Andrew Ang on Unsplash

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