Raja Doddala, Managing Director, Churchill Asset Management Michelle Gonzalez, Corporate Vice President and Global Head, M12, Microsoft Mark Suster, Managing Partner, Upfront Ventures Moderator: Terri Burns, Founder and General Partner, Type Capital
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TechTranscript
00:00All right, we have a lot to dig into,
00:01so I'm going to go ahead and just jump straight in.
00:05We can start with you, Raja.
00:07I'm curious to know a little bit more about what you prioritize
00:11in your decision making.
00:12And as we all have been talking about,
00:14what role does AI play into all of that?
00:17RAJA GOPALAKRISHNAN Well, thanks for having me here.
00:19Well, let me start with AI.
00:21We spend a lot of time with emerging managers,
00:23especially seed and pre-seed.
00:26And we have a fair bit of relationships
00:28on the series A through D multistage firms.
00:31With AI as an LP, one step removed from the action,
00:36AI as a technology seems to me a compelling new cycle that's
00:42potentially going to expand TAM for a lot of businesses
00:45and have a lot of impact in the long term.
00:48But in the short term, though, it
00:49feels to me that 90% of AI companies might be overvalued
00:54and 10% may be undervalued.
00:56And it's hard to know which one's which.
00:59And everybody thinks they know.
01:01Michelle, I think you might have a slightly different
01:02perspective.
01:04I know, when we were talking earlier,
01:05these two were saying today AI is uninvestable.
01:08So I want to take the counter to that.
01:10I think from my perspective, kind of yes and no.
01:13There are definitely companies that are overvalued.
01:15There's a lot of capital still sloshing in the market.
01:18There's FOMO.
01:19I'll give a recent example.
01:20My team pitched me on a company in the AI application services
01:25space 60 days ago.
01:26They raised a round at $250 million.
01:29And they were asking for a $500 million valuation.
01:32So I'm not really sure what happened in those 60 days.
01:35But it gives you a flavor of where we are,
01:37even in the early stage.
01:38However, if we think that this seismic shift with AI,
01:43this platform shift, is on the order of PC, cloud, mobile,
01:49the internet, I think we may be undervaluing those companies.
01:52There will be extreme value created.
01:55There will be disruption.
01:57There will be $100 billion companies created.
01:59And so at M12, we are playing the game on the field.
02:03We are investing in great founders,
02:05going after really big markets.
02:07Mark, what's your take?
02:09So you're saying we should invest in Microsoft, right?
02:13No, listen, I'm not bearish.
02:14I just I'm reminded of when mobile first came out
02:20and people set up mobile funds.
02:22And I don't want to call any firm out.
02:24But there was an iFund.
02:26And you can Google it.
02:29Or Bing it.
02:30Or Bing it.
02:31There you go.
02:32I fundamentally don't believe that AI is its own category.
02:36AI is everything.
02:38And it's going to be pervasive in every company.
02:41You can't afford not to be investing in AI,
02:44both as an investor and as startup companies
02:48and bigger companies.
02:50If you look at the United States,
02:52we have 4.1% unemployment, OK?
02:55And demographics are not going to increase
02:58in this country over the next 20 plus years,
03:00probably ever again.
03:02You have declining demographics all across Europe, China,
03:06India, you name it.
03:07There's almost no place in the world
03:09where populations are growing.
03:11So unless we have AI, unless we have robots,
03:15we simply are not going to keep today's standard of living.
03:18We need tools like this to allow
03:20us to do things like provide health care to an aging
03:24population that we can't do without AI.
03:26So it's all net positive.
03:28I just don't think it's its own category.
03:30And I just want to say really quickly,
03:32if you do a seed deal today and you slap AI on it,
03:37investors will pay a 44% premium for that lipstick
03:41on a pig, which is basically orchestration
03:44of other people's tools than they will for a mere software
03:48company.
03:49That's what the problem is today.
03:50And that's what makes me nervous as an LP,
03:53because a lot of that is happening,
03:54and that makes me nervous.
03:56So then zooming out, and I would love to hear from each of you
03:58on this, what are the criteria that you prioritize
04:02when you think about investing?
04:03And Raja, for you as an LP, as well as a direct investor
04:06as well, what are the things that
04:07are really compelling and exciting to you all right now?
04:10Well, let me start.
04:11I think the way we underwrite a seed or pre-seed manager,
04:15we first underwrite the person.
04:17What is that person's superpower, unique strength,
04:20and are they able to help the company to get from 0 to 1?
04:23That's the main criteria.
04:25But at the same time, even if you're
04:28in the middle of a giant tech cycle
04:30and trillions of dollars of value
04:32is going to be created at some point, prices do matter.
04:36So when I see a manager where they
04:39say we're in this middle of a tectonic shift in technology,
04:42prices don't matter.
04:44It's all about finding the right company.
04:46That's an immediate no for me for that manager.
04:51Well, at M12, we invest in early stage.
04:53So that's seed, series A and B. We invest in cybersecurity.
04:58We invest in infrastructure and absolutely
05:00believe that the stack below these applications
05:03will be rebuilt for AI.
05:05When we look at enterprise applications,
05:07we actually have a rubric.
05:08We call it the four Ds.
05:09So we look for companies that have
05:12access to proprietary data.
05:14They have dividends.
05:15So that means they're solving a problem that customers
05:17will really pay for and value.
05:20They'll have distribution, sustainable distribution,
05:22one that they can either get through those channel
05:25partnerships or have a CAC to LTV that makes sense,
05:27and then Delight, which is that user experience
05:30that we've heard about throughout the conference.
05:33I guess a fifth friend of mine from Citi Ventures
05:35mentions DNA.
05:36And that really does pervades everything we do
05:39is that founder.
05:40You mentioned the person as part of your investment
05:45criteria, us as well, is that founder market fit.
05:51Venture capitalists are fundamentally lemmings.
05:54And they all fund the same thing.
06:00And it's all what you're talking about,
06:02because it really makes for nice cocktail parties.
06:07To make money at venture capital, you need edge.
06:11And to have edge, you need to invest
06:13in something or somebody that very few people actually
06:16know or believe in.
06:17Not on your own, but you have to be in advance of the market.
06:21And the problem is that if you're
06:23saying something that's going to happen three to five years
06:26from now, most people look at you like you're weird
06:29or a bit strange.
06:29So at Upfront, we're based in LA.
06:32We know that we don't have edge in the Bay Area.
06:35We do invest in the Bay Area.
06:36It's about 25% of our investments.
06:39But in LA, there's a transformation going on
06:41right now because of SpaceX and Anduril
06:44and some other hard tech companies,
06:46because of the heritage of JPL, that there's
06:48a lot more hard tech and space-oriented companies being
06:52built in LA today, a lot more atoms plus bits being
06:57built in LA today.
06:59So we don't put all of our dollars into that.
07:01But disproportionately, we're trying
07:03to figure out what are the areas of innovation
07:06that will be at the Fortune Brainstorm cocktail
07:08party five years from today.
07:10Got it.
07:11All of you have mentioned at some point stage.
07:15And I'm curious what role the stage that you're investing in
07:19impacts how you think about alpha, how you think about edge,
07:21how you think about opportunity.
07:23Mark, Raja, I know that you've all mentioned beforehand
07:26kind of a barbell approach, right?
07:27Investing in pre-seed and seed, super early stage,
07:31or really late stage growth, right?
07:33And focusing a little bit less on everything in between.
07:36How do you think about stage?
07:38And what are you really looking for
07:40in terms of the types of founders
07:42that you want to back based on stage?
07:44You want to start?
07:45Yeah, sure.
07:46So I would define it a little bit differently.
07:48At Upfront, we do have a barbell strategy.
07:50Our barbell is seed.
07:52We skip the entry point at A and B, and then we come in at seed.
07:56But I don't do super late stage.
07:58That's for people who are really experienced
08:01in pre-IPO type companies.
08:02That's just not us.
08:04So why do we skip the A and B?
08:06If you look from 2010 to 2022, so
08:10that 12-year gap, the total market in A and B
08:13went from $8 billion of total capital available,
08:17sorry, $9 billion, to $82 billion, OK?
08:21Massive increase.
08:22And the reason is that great firms in Silicon Valley
08:26raised, they used to have $300 million funds,
08:28and they had $2 billion funds.
08:30So they suddenly started, instead
08:32of writing $3 to $5 million checks,
08:34writing $30 million checks.
08:36And you just got to pick a lane.
08:37You can't compete on someone else's basis.
08:40So you either need to raise a $2 billion fund,
08:42or you need to be a little more disciplined.
08:44So our discipline is seed.
08:46First money in, $3 to $3.5 million checks.
08:49We do 40 per fund, usually about six of those.
08:52We've been doing this, by the way, for 28 years.
08:55Six of those drive 80% of the returns.
08:57And then we let other people do A, B. We will do our pro rata.
09:01The weird thing is at the C market, two things happen.
09:04Either you're massive takeoff in whiz, let's say.
09:08Everyone wants to give you money at any valuation.
09:10Or suddenly, no one cares at all about you.
09:13And there's some really good companies
09:15being built that just nobody cares about,
09:17so we're focused also on that.
09:19Sorry.
09:20Yeah, I'll pick it back up.
09:21The way we think about our portfolio,
09:22think of an LP, a large LP, with multiple asset classes.
09:26And the role of VC in that portfolio of asset classes
09:28is that VC should, and historically has come
09:32with a pretty healthy risk premium.
09:35And if you look at the data, and that risk premium
09:38is concentrated mostly in the smaller end of the fund size,
09:41and early stage, that's sort of pre-C to A,
09:44is where most of the alpha is.
09:46So because of that, we spend most of our time
09:49pre-C to A.
09:50And to Mark's point, I think the way we think
09:53about selecting managers is, I don't want to,
09:57you said it, the VCs, so I won't say.
10:00So what we look for is something that is unique.
10:03I don't want to say non-consensus,
10:05but in a way, non-consensus investors,
10:08where they're not chasing hot deals,
10:09but they have some insight or some access
10:12to a niching space of the venture market,
10:17that they're able to see it that nobody else sees.
10:21I want to move forward and chat with you all
10:23a little bit about exits.
10:26It was announced yesterday, Sequoia offered to do
10:28a major purchase of shares in Stripe.
10:31We've talked on stage here at this conference
10:33about how the IPO market has slowed down significantly.
10:36As capital allocators, how do you all think about exits?
10:39Maybe we can start with you, Michelle.
10:41What is an optimal exit in 2024 and beyond
10:44for your portfolio?
10:46Yeah, I think it really depends on where you enter, right?
10:49So if Mark's entering kind of at the Series C,
10:51he's looking at a different multiple,
10:53he's looking at a different horizon
10:55than if your entry point is seed and kind of Series A.
10:58We've been around as a fund for eight years.
11:01We've had some phenomenal exits, companies going IPO.
11:05We had a number of companies going through
11:07kind of the SPAC market.
11:08Obviously, we know that isn't probably going to return.
11:13We've done a lot of analysis on our companies
11:17and what sort of the M&A market.
11:19We heard also at this conference as well
11:21that the M&A market, given that a lot of these companies
11:24that are going to need and want these AI native companies,
11:29these companies that will help propel their business forward
11:34and are willing to kind of pay things that are above
11:36what a public market multiple would be.
11:38So when we look at kind of what a good exit is
11:42at kind of that Series A and B point,
11:44of course we want sort of the 55X, the power law, right?
11:48That does kind of return the fund.
11:50But these days, sometimes even the 2X with an M&A
11:54is where we're at.
11:56Let me pick up on that.
11:57So I looked at exit data for the last 25 years.
12:01The median outcome for a venture-backed company
12:03is about $90 million.
12:05So think about that.
12:06$90 million is the median outcome.
12:07There's going to be outliers, like we heard this week.
12:10And if you look at the public market today in the US,
12:15US stock market, there's only 200 companies
12:18that are valued more than a billion.
12:19And that's including everything, not just tech.
12:22Total.
12:22Total.
12:23So it's exceedingly difficult to produce a multi-billion dollar
12:27outcome.
12:28So we think about that a lot.
12:29If there's a portfolio that is so risky, so volatile,
12:33that has to hit a multi-billion dollar outcome,
12:35that makes me a little nervous.
12:38I want to turn over to the audience in just a moment
12:40for audience questions.
12:41So start getting those ready.
12:43Doubling down on this first, though, how do you
12:45all think about secondaries?
12:48Listen, the Sequoia deal itself is a secondary deal.
12:53The biggest lie, no, not the biggest,
12:56but amongst the biggest lies in venture capital
12:59is that we are 10-year funds.
13:01They are not 10-year funds.
13:02They're 15-year funds.
13:05You can clap.
13:05Yeah, that's great.
13:06So there's a Jacob.
13:07My cousin and my brother have got them as parents.
13:10They clap every night.
13:11I hate to be here.
13:14But it isn't true.
13:16And there's an illiquidity to our asset class
13:20that has caused problems, I think,
13:22for institutional investors.
13:24So I will tell you, I think it was Warren Buffett who
13:26said, be greedy when others are fearful and fearful
13:29when others are greedy.
13:30So starting in 2018, we started looking at just how overvalued
13:35the tech markets were.
13:36And we started selling little pieces of our portfolios
13:40over a five-year period of time.
13:42We sold about $1.2 billion.
13:44Now, if you raise $2 to $3 billion funds,
13:47that's not a lot of money.
13:48But most of our funds are between $200 to $300 million.
13:51So that was good cash flow sent to LPs.
13:54And what it took was us selling 25% to 30%
13:58of individual companies that were doing well.
14:01And I told LPs, I'm still long.
14:03I'm majority long.
14:04But I'm going to send you some money at a valuation that's
14:07higher than normal.
14:08So the figure that I like to quote
14:10is, if you look at public markets,
14:12the history of SaaS companies is they
14:15traded about 6.2 times NTM, next 12-month revenue.
14:19That's over a 20-year cycle.
14:21Over a 10-year cycle, it's 9.6.
14:24So that's like the football field
14:25of where your exit should come for a normal company.
14:29In 2021, public market was 24 and 1 half.
14:33Private market, 100 times NTM.
14:38Now, that has already reverted to the means.
14:40The public markets are back at 6x.
14:43So it really has already reverted to the means.
14:45So for me, we were selling from that period.
14:49So in 2023, I flipped.
14:52And I became a buyer.
14:53And we started buying secondaries.
14:55We bought $65 million of secondaries in the last year.
14:59Because suddenly, there's all these people
15:01who didn't take liquidity in those years that will
15:03sell at pretty good discounts.
15:05So I think secondary markets are really important to venture.
15:09And I think they will mature over the next 10 years
15:11as more people learn how to price them.
15:13I think it shouldn't be a taboo.
15:16It's not in private equity.
15:17So liquidity is not a passive activity.
15:19So unless the money is recirculating in the market,
15:22it's going to be very difficult for the asset class.
15:24I think it's good portfolio management.
15:28Questions from the audience?
15:32I think we have one over here and one over there.
15:35Maybe we'll start over here.
15:37Where are the panel people?
15:39And say your name.
15:40Sure.
15:41Hey, Mark.
15:42Jeremy Bloom, Integrate.
15:43Good to see you.
15:43Hey, man.
15:43Good to see you.
15:44I'm curious.
15:45You mentioned you're less focused on the hype cycle now
15:48and more focused on what we'll be talking about in five years.
15:50So what are you seeing and what will we
15:53be talking about in five years?
15:56So let me say this, which is you know the old saying is
16:00being too early is the same as being wrong?
16:05It's a problem if you invest in what's
16:07going to happen in 10 years.
16:08So you really need to be in like a four to five year cycle.
16:12And I can't say that I'm right, but we do have an opinion.
16:15One of the things we've been investing in
16:17is we look at what are the trends in the world.
16:20One being deglobalization.
16:22And deglobalization I think is going
16:24to drive a lot of investment.
16:25The second thing we're looking at is aging populations
16:28and the need to provide health care to aging population.
16:31Third thing we're looking at is the impact of AI on industry.
16:35And one of the industries we look at is health care
16:38and how much of an impact that's going to have in like drug
16:41discovery and ability to diagnose.
16:44We also look with a deglobalization trend
16:47on what specifically is going to happen.
16:51So an example, we just invested in an advanced manufacturing
16:54company to produce ships in the United States.
16:57And when I say that at cocktail parties,
16:59believe me that one more than anyone.
17:01People look at me like I'm like crazy.
17:04Like how could you invest in that industry?
17:06But the reality is that the South Koreans have already
17:09automated shipbuilding.
17:10The Chinese have already automated shipbuilding.
17:13And over 90% of all welding that happens in the United States
17:17is hand welded by human beings in a market
17:20where we don't have enough labor.
17:21So we're trying to look at what are the macro themes
17:25and how can you make investments in that.
17:27I think venture investors are a little bit scared of hardware.
17:30We invested in a satellite company.
17:33A satellite cost historically about $30 million to produce.
17:37It's come down to $6 million.
17:39We invested in a company called Apex Space
17:41that's trying to create standardized manufacturing
17:45process to launch a lot more satellites.
17:47So that interests us because it's
17:49a trend to lower costs, increase manufacturing.
17:52What the CEO, he said this publicly so I can repeat it,
17:55they get paid about 40% of the price
17:58as a down payment before they even start building.
18:01And then they get staged milestones.
18:04So even though it's hardware, they're not draining cash.
18:07There are ways to build businesses
18:09that are not cash consumptive.
18:10So those are the kinds of things we're looking at.
18:12They're weird, I know.
18:13And it's less cocktail party friendly.
18:16Do we have a question over here?
18:19Hey, first of all, thanks so much.
18:20Healey Seifer, CEO of BoomPop and CEO of Atomic,
18:23which is a venture studio.
18:25What question to ask?
18:27Good audience.
18:28I'll go with these.
18:29You had so much time to think about what you were gonna ask.
18:32I was taking notes to these amazing quotes, you know?
18:35So one of the things I've been actually thinking
18:36about a bunch is venture is a supply chain,
18:40and the seed goes A, A goes B,
18:41and kind of onwards to IPO.
18:44And it feels like the lockdown,
18:46or relative lockdown of private equity
18:48has been kind of a thorn in the side of the supply chain.
18:51Any thoughts on that?
18:52Am I right, am I wrong?
18:53And what does it look like in the next couple years?
18:57You should say that.
18:58Sure, I'll jump in.
18:59You said lockdown of private equity, right?
19:02So here's the weird thing about venture,
19:05is it used to be an A round, a B round, a Mez round,
19:11and then you go public.
19:12And the A did not do B, the B did not do Mez,
19:15and then the Mez got their profit.
19:18We make up letters now.
19:20It's like, it's almost irrelevant.
19:22So what was the goal of any exit?
19:24It was, when I was young, it was IPO.
19:28That's all you wanted to do.
19:29Well, IPO market is pretty tough right now.
19:32You really have to have phenomenal success to go public,
19:34and there will be great companies.
19:36The second is M&A.
19:38And M&A's kind of been on lockdown
19:40for the last three or four years.
19:42Sadly, it's probably gonna change starting in January.
19:46But we've kind of been on lockdown.
19:47Well, sad for different reasons.
19:49But so we've kind of been on lockdown,
19:52so that exit environment has largely been challenged.
19:56So private equity is going to be, I think,
19:59an important exit market for venture capital,
20:01but relative valuations of public companies
20:05have been better for them
20:06because we overvalued venture for so long
20:10that we're not realistic on our exit price
20:12to private equity.
20:13There were 1,200 newly created unicorns
20:17in 2021 and 2022 alone.
20:2060% of those were marked by just four firms,
20:23SoftBank, Tiger, Koachu, and Insight.
20:26So that market is gonna take five years to work through
20:29before private equity gets more interesting.
20:31So I think it's gonna be private equity and secondaries
20:34probably in three to five years.
20:35I think I'll add on to that.
20:36I think one thing that I think venture market,
20:39especially venture ecosystem secondaries
20:40have been sort of a bad word historically.
20:43I think what we need as a venture industry
20:47is more emulate private equity
20:48where it's okay for assets to change hands
20:52and there's data and marketplaces need to be created.
20:56And hopefully that's what will come out of this cycle.
21:00I kind of want to double down on this piece around
21:03how much has really changed in the markets
21:05in the last three to four years.
21:07And maybe this is a question for each of you
21:09and your respective firms,
21:10but perhaps it's also a personal question,
21:12which is what have you all learned
21:15about the way you do your work,
21:17the way you view opportunities,
21:18and how has that shifted in the last three to four years
21:22with the ending of the Zerp era,
21:24the IPO market and M&A market being what it is.
21:27We've seen cycles, of course, with AI, with crypto.
21:30What have each of you learned through all of that
21:32and how are you viewing the work that you do today?
21:36I'll start.
21:36I think one thing that's sort of becoming apparent to LPs
21:39into venture asset class is that there's now
21:42multiple products within venture.
21:44There's early stage products that's different
21:46and there's sort of the classic venture seed
21:49in A through D that's sort of a different product.
21:50And then growth is, so different LPs and different VCs
21:55will sort of self-select into groups.
21:57And that's sort of a personal learning for me
22:00that you can't evaluate a seed firm using same metrics
22:05as you do a large multi-billion dollar multi-stage firm.
22:11For me, I will say scarcity creates clarity.
22:14There was a lot of capital that was going to companies,
22:20early, early companies that were looking
22:22for kind of product market fit.
22:24And with a lot of capital,
22:26it kind of creates these opportunities
22:27to do tons of experimentation,
22:29to not be laser focused on getting to that product market fit
22:33to really understanding what the customer needs,
22:36wants, will pay for.
22:37And so one of the things that we learned
22:40in some cases the hard way was that giving a ton of capital
22:46too early can actually be in some ways pretty
22:50kind of detrimental to the company's success.
22:53I will also personally say that I learned,
22:56I want to meet founders in person.
22:59I think over the last three years
23:00when we were in the Zoom era,
23:03we've made a lot of investments just based on Zoom
23:05and you miss so many cues and by walking the halls,
23:09meeting the extended team in person.
23:12So those are kind of two on a personal level.
23:15I maybe just want to give an opportunity
23:17to talk about what I learned through a big mistake I made
23:20because VCs don't admit to mistakes very often.
23:24So I think early in my venture career,
23:27I invested a little too much with ego.
23:30And here's what I mean is I would do an investment,
23:33it was early stage, I believed in it,
23:35and suddenly it would get markups
23:37and people would write a $30 million
23:40or a $50 million round behind me.
23:42And I thought I did not work on this fricking company
23:46for the last three years to have that company own
23:48more than me just because they can throw $30 million around.
23:51So if I wrote a $3 million check,
23:53maybe I wrote five into that round
23:56to like maintain my ownership, purely ego.
23:59Now the first time I did it,
24:01I got an immediate outcome, positive success,
24:03sold a company for 700 million,
24:05returned $100 million, so I kept doing it.
24:08So what happened was the next company I did it on,
24:11I doubled down and that company was growing really fast,
24:14and then it went off a cliff.
24:16And it ended up going to zero.
24:18And I looked back at it and I said,
24:21why did I increase my dollar average so much?
24:25I already had a great bet and if it worked,
24:27I was already gonna make a lot of money.
24:29So I try to teach younger partners not to invest with ego.
24:34So we say three things on every follow on investment.
24:38Do we still believe there's product market fit?
24:40Because we invest so early,
24:41sometimes we're just wrong about that.
24:43So if we don't believe, it's not like we're not gonna invest
24:46but we're more cautious.
24:47The second thing is, do we still believe
24:49we back the best team in the market?
24:51Because markets operate on winner take most,
24:54and if we didn't back the winner, we should be cautious.
24:56Sometimes we were right about the market.
24:59Sometimes we were right, we think about the founder.
25:01And then the third thing is,
25:02do we believe in this valuation?
25:04So if somebody is willing to pay an extreme valuation
25:08to be part of this because their business model
25:10requires them to write a 50, 70, $500 million check,
25:14I don't need to chase that.
25:15I already have a position in it.
25:17So we will invest at any stage, at any amount of money,
25:20but we try to have that framework to think
25:22so we don't invest so much with ego.
25:24Mark, Michelle, Raja, thank you so much for your time.