Venture Capital 101



this is Duke University you it is my privilege to introduce snitch so let me give you a little bit of background about Mitch so Mitch is a proud alumni he graduated in 81 and after he graduated he went and worked at cheese roast Lucien Ross and then after a few years over there he went and actually worked in three different startups as CFO and all three of them went public and in 1989 he went to in herself and he's been very successful over there he's been on the board of about 20 companies he's actively engaged on the board of seven companies right now and he's also been very involved in the entrepreneurial community he was the chairman of let me sorry the chairman of the Council of entrepreneurial development and he's currently an adjunct professor at King and Flagler and he recently joined the board of CEI over here as well so please a round of applause so how he turned me on huh did you did it work okay guys here I'm right yeah get away injury okay right that's that's terrific thank you just set the record straight I am a dude guy even though I teach a little course over at Chapel Hill and I have I'm proud to say I have two children who active one is a freshman and my son as a freshman and I have a daughter who's a junior so I'm a big investor in Duke as well it's a full circle kind of thing so I'm here to talk to you about venture capital 101 and if I can make these slides work here we go apologize for the for the colors on these is so last time you'll see this color because I'm going to kill my marketing director when I get back but so we have about an hour or so and I'm happy to have you to answer any questions that you have about venture capital or being a parent of an undergraduate at Duke University anything anything that comes to mind I'm happy to talk about I have I have been in the venture capital business now for 20 years and so I'm I'm an old guy in in the in this business and I got lots of stories so if I run out of slides I'll start telling stories okay so I'm going to talk just a little bit about inner south and then and then a little bit about about the venture capital industry at 50,000 feet and then I'd like to bring it down to to maybe 5,000 feet how many people would be interested in being on my side of the table kind of being in a venture capital role raise your hand show hands wow that's too many okay how many people how many people have an interesting entrepreneurship and taking money from a guy like me some boat that's good that's good the I will say that so our view on entrepreneurship is that it is it's the it's the highest plane of existence and I think as a taxpayer in America it's critically important that we do everything we can to continue the innovation that takes place and I won't get into political commercials but you can ask me about the pending SEC regulation of the hedge fund industry and how that might involve entry capitalists if we have time at the end but you know the interesting thing about the list that Adam put up is that all of the companies on left the big companies they were all little companies one day not a single one of them didn't get a you know got started General Motors Dow all those companies were little bitty comes it started now sixty years later there are big corporations and they act like it Google one day probably will act like that too and acts more like a big corporation today than it did 10 years ago or five years ago but it's still you know a great entrepreneurial story but the point is they're all great entrepreneurial stories and and at some place in time I mean they're they're like this my life I'll get off this in a minute we'll go back to venture capital but it you know being involved in the Entrepreneurship process and we consider ourselves part of the Entrepreneurship process is the reason I say it's the highest planet existence is because it provides for you I am completely buy so it's okay I'm a Duke fan too so it it provides for you the best experience you could possibly have in a sense that working in a small company one you get to control your own destiny to you'll see a whole lot more of the business oil than you would in a big company and three at the end of the day while working for somebody else is not the best way to create net worth for yourself so having a little piece of the pie is a great way to fund your retirement now having said all of that I will encourage my children and all of you probably to go to work for become if you haven't already done that you probably have because big companies do a couple things really right they know how to do things and they're not making it all up so all of our teams are making up almost everything all the time now most of the people that work in our companies had experience in a bigger company at one point and they learned about marketing and they learned about sales and I learned about finance and they do a lot of training so you get companies like GE and IBM and others that are fantastic at training people and helping you figure out what the right way to do things so it's not bad to go get big company experience and then bring that to to bear in an area that you're passionate about okay enough about that so here South and I'm only going to say a few things about inner self we are what I would consider to be a classic early-stage venture fund and that that depending on where you talk to a little say these days being an early-stage venture I don't know if you've heard that over an idea of fun partners but and there are lot of reasons for that and I'll tell you about that over the next hour or so but we we are we early stays for us means first institutional capital first institutional capital means that there hasn't been another investor there before we got there that doesn't mean it haven't raised any money it doesn't mean they're not anywhere in terms of the business plan although I would say in about half of the cases and this is true for the company I'm getting ready to finance tomorrow become he didn't exist before we got there that is to say it was incorporated coincident with our funding so that you can't really be earlier than the birth of the company so that's that's pretty early stage now we will invest a little bit later on sometimes there's angel capital involved and and we'll get involved you know down the road a little bit but we want to be there to help shape the management team so we spent a lot of our time with companies interviewing people in introducing people to help create the rest of the management team that's not present that's that's interviewing skills which by the way aren't taught anywhere are something that you'll need to to gain at some point in life it's amazing there are many things of venture capital and there are the skill set to be a venture capitalist as I like to say I think the best skill you could have to be a venture capitalist is to have a PhD in psychology because really it's all about people and the technology's interesting sometimes even important but the people are the most important thing that won't be the last time I say that so we are focused in the southeastern United States and the reason we're focused there is for a couple of reasons while one is it's not a very competitive place from a venture capitalist perspective and and so we offer our limited partners a chance to invest in what we hope are the best deals in a geographic region that's underserved and so there's this whole thing about perfect information the flow of perfect information and you know competition theoretically the lack of competition allows us to get in the best deals at good prices means higher return on investment at least that's what we're selling and a lot of people have bought it and it's actually worked out so we've been at it for a long time so and and so the other reason is we're focused in the south and we were formed here in the your triangle a little over 22 years ago is because well at the time there was hardly any venture capital Romney so so that made a lot of sense but but we want to be focused in the southeast because venture capitalists venture capital is in particularly early-stage venture capital is a regional business that is to say if you're going to be what I do with our companies you can't get on an airplane and fly three time zones to do it just can't do it so now and I don't really mean to be disparaging about anybody but I'm going to be and I apologize advantage for anything disparaging I say about anybody else but for instance the the private equity guys who buy stuff who do and here another one pet piece of private equity guys usurp the term private equity the term private equity is an asset allocation that are non public equities it includes leveraged buyout funds it includes distressed debt it includes venture capital it includes mezzanine debt it includes all of those things that you invest in that are by definition private and also by definition illiquid but because the term leveraged buyout fund stank they decided they to take private equity and call it private equity sent everything so I'm part of the private equity world but buyout funds do buyouts they do control buyouts with leverage and by the way there is systemic risk okay that's seven I didn't need to go there the well the corollary to that is venture capital is not a systemic risk in case you were worried about that there are buyout funds bigger than the entire venture capital industry so it almost by definition can't be still working on the Washington thing I'll stop on that but the buyout funds do buyouts that is they borrow a lot of money and and they buy companies they buy controlling interesting companies and you can do that three time zones away but you can't do what I do because there's complete management team in a very profitable business that of course unless it's Chrysler Shepherd issue but in possible business that you know he's going to pay back today that's a financial engineering exercise that's not a innovation growth company exercise okay and so we're in the business of helping entrepreneurs grow companies from the very beginning until the very end and it's not a transaction oriented business like investment thinking is where there's a zero-sum game on the other side of a transaction that is we're going to do a transaction and there's every penny that goes this way doesn't go this way that is say that every penny I get you don't that's the investment banking world and that's okay because that's a necessary part of what we do as well that's just later on we're in the business to build companies with entrepreneurs over a long period of time that's not you can't do that in Israel unless you're in Israel you can't do it in China unless you're in China and you understand the laws of China which are not very many in around what we do but so but there are people could do that or on the ground in all those places and that's great we're in the ground on the ground in the southeast we have about 800 million dollars under management that's over seven funds and I'll tell you about how all that works we're about 50/50 between life sciences and technology because the deal set in the southeast is about 50/50 between life science and technology actually the deal flow here locally in the RTP is much more robust in the life sciences and that's a function of the research that's going on at Duke and at UNC and at the big companies and it's also you know there's lots of management talent in those areas so anyway I run our technology group and so I'm focused on technology but as I was telling georgeanna earlier we all talk we all have to prove all the investments so I get to I get to listen to all the life science pitches which is which is interesting we close our last fund about three years ago we start investing in September of oh six it's a two hundred seventy five million dollar fund we'll do about 20 deals out of that fund we've done about fourteen of those deals so far so we've got about another year's worth of capital left that's all I'm going to say about intercept unless you have a well no it's not all I'm going to say whatever son see I live already the UH so this is our life science portfolio and it consists mostly of fancy logos that don't really say anything but it's kind of arranged in bio pharmaceuticals and medical technologies and so everything on the right is there's some devices in there this is actually all engine is actually a stem cell deal that's technology out of Duke it's one of the first there's been no stem cell therapy approved by the FDA we hope our company will be the first one and then coming into far upper left-hand corner is coming called a Phoenix a Phoenix was does genetically modified plants and so they have a unique way in a platform to discover genes that then they apply to plants and the plants become resistant to either disease or insects or roundup believe it or not is the most prevalent genetic trait and that is you put plants in the field they grow you spray the whole field of Roundup living document plants so that so we just sold that company actually to Bayer CropScience which is the German company you're probably familiar with in a great transaction that if the Justice Department actually approves this transaction we will have a distribution under their partners so lots of drug discovery so medical devices lots of platform things one other example by Alexa's a company actually in Pittsboro is technology at NC State that takes a little plant called lemma and interview like golf might have seen what is commonly referred to as pond scum growing on top of these ponds but it's a little plant that happen to have a couple unique things about it one is its it's something called a monocot and that is it does not have any seeds it grows by making genetic replicas of itself second is a growth real fast and so by doing so they've transformed this little plant into a protein manufacturing thing and so in Pittsboro there are rows and rows of glass vials with water in them in this plant floating on them that have been genetically modified to create proteins proteins or drugs and some of the more important drugs that we have in the world today can be manufactured using this system which is almost no cost and they can make proteins at our hard to make phase three clinical trials with the product right now things are going really well there so that's the life science portfolio technology is a little a little bit I kid bit like science guys because everything in life science ultimately comes back to the body I mean it's that's why it's called life science I guess the technology waterfront is is vast and buried and so there's we do a lot of software to the things in the upper hand upper left hand side are all software related mostly software's of service today although there's some enterprise software things there's a whole raft of semiconductor technologies not the semiconductor themselves but the semiconductor technology that helps people build semiconductors and down on the left their software and hardware related munication and then things that don't fit neatly into anything else we do have a couple of by humming mix our consumer facing websites that are in a variety of different businesses but that's the technology sector intercept okay last slide on yourself that's everybody at intercept in that picture and you can see people with with well we do have a woman that's good okay that's important the captain is that is a other they're relatively homogeneous other than that that's not true so gardening con who's sitting on the left is one of our life science guys he's got an MD PhD MBA from Cuba nd PhD from Duke and let's see Bob so we've got some young people against and I are kind of the two really old guys who've been around for more than 20 years in yourself we've got a couple of the other younger people so John Bishop who's standing next to Katherine who's the woman in the back has a an undergraduate engineering degree from Duke and an MBA from Kellogg and a master's in aeronautical engineering from MIT not sure why but and then unless people have lots of degrees that's not really the point ba and we have some we have some older folks but Phil Tracy who is sitting here as a former CEO of Burroughs Wellcome which is a five billion dollar pharmaceutical company that's now part of GSK and a guy behind him Bob Bell did the very first big spin out with company called Sphinx Pharmaceuticals back in the mid eighties that we financed and it went on was acquired by Lily after Lynn Pollock it was very successful for us Bob rent went on to run research at Blackstone and so we have some semi-retired people who are helping us in the life science world so those are the people to make all the decisions I say the Katrin since I was somewhat not disparaging by the way she's terrific she's part of our technology team she actually just she has an MBA from people so does David Pearson who's in the bottom right Jimmy has an undergraduate degree upper left there from from Duke in engineering but Katherine has a undergraduate degree from Cambridge in the UK and then masters at Fuqua and then she has three a master's in nanotechnology from another school in the UK and so she's never gone to school actually in the same continent that she lives I can't figure that out she did the cross continent program here at Duke which is how I met her so a very flat organization very small organization this is actually a pretty big organization for venture capital fund and so there aren't a lot of jobs in venture capital for that reason there there are small firms and you know this is by lot the largest venture capital team in the southeast for sure so I'll take I'll field questions later on our team let me let me slide off bitter self for a minute and talk to you a little bit about about money so as I tell our CEOs you know once you take money and you're actually always finding capital for your business in some form now if it's if it's kind of equity capital and so I'm an XY guy – and so on that on the x-axis we've got how much money you're raising and transit exercises not very much – a whole lot and then on the y-axis risk and return okay so if we go all the way up to the top upper right that would be debt 100% debt that you would get from a bank now guess what banks don't actually loan money if you need it at this stage they're just not in that business and that's good because we're all checking accounts and we go to get money on your checking account you want to be there and so if they lend money to our companies it would be an issue now square one actually does a great job of lending money to little companies like this but when you talk to bet and when you talk to a banker about what square one does their head start spinning it's really crazy you do what you learned this company that any revenue calm down would be okay the so so bad our companies never banana that checking relationship with a bank but they never really get money from bank that it would be wise not to for the reasons I've said most people start with angel Capital friends and family money little bits of money from your neighbors and your parents and whomever and and that's great that's really important money in fact it's not tractive there's more angel capital invested than any other type they're angels because it's supposed to help a lot of times they don't but but you know that they're knocking and raising a whole lot of money raising angel at all and so you move on to kind of what the idea of fun folks do or what we do so you're raising hundreds of thousands to millions of dollars and that would be kind of early-stage venture capital and then as things go on you know there are some firms who just do later stage things those are things that are either had revenue or had a lot of customers or god forbid or even profitable by the way the life science comes are never profitable from the day for the most part certainly the pharmaceutical companies are not profitable from the first moment we invest until we exit and that's the plan because it takes too long for them to get products into the market talk more about that later but that's so you're constantly raising money and then you know one day you might go public now the public market doesn't exist today for venture companies for the most part there's been some there have been six or eight venture capital backed IPOs this year but they're not kind of what we would normally think of as as traditional venture backed IPOs so that way out and that that source of financing really isn't there which is another public policy issue we should talk about sometime but anyway this is the the purpose of the slide is to say that as we as you kind of move up into the right the money gets cheaper and there's more of it and you know down to the left you're going to wind up giving up a piece of the action which is our deal is you take money from us it's going to be equity that is we're not we're not going to loan money to you and a lot of entrepreneurs come and say well let me borrow the money and I said well you know the bank won't let you borrow the money because you don't have any revenue and you don't have any assets and so I can't loan you money I mean we're not in that business if you can get a loan you should but you don't want to just go you want money for me so deal is we give you money and you lose it that's okay but if you get if you go to Wachovia and you lose money who's your house that's a problem that's why you don't go to Wachovia do that now we won't we may not invest in your next company but at least you'll you won't you'll still have a place to live so anyway lots of different money you're always raising money from the moment you start a business and and that you just the other thing I tell the entrepreneurs is you know you wouldn't come ask me for a loan for the reasons I just said and you wouldn't go ask the bank for equity for the reasons I just said so when you're selling your stock it's just like so the product you got to qualify the leads right you got to qualify the people you're marketing to and it's just shocking to me how people go out to raise money and they said there's always different flavors of money out there and they're just banging their head against a wall weekend talking to people who are never going to write cheque but there's always money in fact I met with it remember to come to today they raised he raised money in a former star he made 142 presentations to raise called million dollars so you know turnover a lot of rocks or and that's just that's just way it goes ok enough about that so the the deal with venture capital this is kind of how it works so so we have what we call we're investing other people's money we're investing our limited partners money there are limited partners because it's a limited partnership and and we sit in the middle of a venture capital partnership and we make it our business to know the entrepreneurs ok so so we're going to take money week so every few years we'll go out we'll raise a fun create a new venture capital partnership will invest it with the entrepreneurs taking equity stakes exclusively and hopefully they grow and they become profitable or they become valuable in however that's determined and they're slowly the focaccia for stock we'll talk about that also and then we return that money trying to partners and we keep a little bit on the way by that's that's the way that works but the good news is I mean the good news without the good news for investors and the alignment of interests is we only make money when our investors make money so we get a share in the profits of the fund at the end of the day none of any fees that we charge and so so the interests are perfectly aligned so for instance we raise two hundred seventy five million dollars three years ago we had 15 investors and those are big institutional investors not a tail who they are minted so the question is why would you invest in venture capital or why would you invest in any alternative asset and so if you were a pension fund manager you wouldn't have a variety of options to invest in so let's say you had 100 billion dollars that you were investing you would put most of it in in public market stocks and bonds and some of it if you ran an asset allocation model the asset allocation model would say you need to put oh fifteen percent in this thing called alternative assets which includes the things I described before venture capital and private Erica charge that leverage buyout funds now I have to say that this is kind of a long time to show this slide so as you can see last year wasn't so good now the good news for venture capital that it was only about half as bad as the rest of where you could have put the money in the public market so if you look at the one-year returns things are bad the 10-year returns French capital which is kind of the place to focus will will actually go negative by the end of this year so that statistics a little bit misleading that whole 26 percent up there the statistics have been pretty good for venture capital but you know we have not had a very good run for the last six or seven years however having said that relative to the other places where you could put money it's been a great investment and unfortunately all they know the 10-year returns on the public markets are now negative so it had money in the Nasdaq or the SP 500 the last ten years you haven't made money yeah in that I guess that said but if I showed you this slide for the prior 10 years until the debacle of last year venture capital wouldn't have outperformed the public indices by a lot and that's the reason people want to put money into it I will tell you this about that that the standard deviation among public fund managers is about that big is a technical term that big that is to say you see the thing in the Wall Street Journal where they where they throw neither they have a monkey pickup where they throw darts and sometimes the darts win and sometimes the guys on Wall Street win that's because you know there's not much you can do in a world with perfect information and you know the the best way to lose money is to pick the five des performing mutual funds from last year because they're almost guaranteed not to be the best buy performers this year but in the world of venture capital the standard deviation is huge that is to say the the upper quartile is really the only place to invest and if you're not in with the upper quartile managers it's going to be hard to make money in this asset class as an institutional investor okay enough about that so the the venture capital business it's actually nationally enough about since I've been in the business is the length of this slide so it starts in 1988 was a little bitty kind of cottage industry up through the mid 90s that had three or four or five billion dollars under management and the two things happen one the internet and related to it the telecoms boom and the sum of those two things caused it believe it or not capital follows returns and when capital follows returns returns go down it's it's not rocket science but as you watch this over time in 99 and 2000 the venture capital industry raised more capital actually in in 99 2000 they raised some order of magnitude more capital than had ever been raised in the history of education that wasn't right it wasn't sustainable and you know of course we raised the pun in the year 2000 we know it was a it was a lot of fun I had to die but you can see what's what happened is the venture capital returns have been poor since and there's been a lot written about the venture capital models broken and all of its capital funds is going out of business there were so many venture capital funds formed in 1990 2000 and guess what their ten-year deals and a lot of them are going to go out of business this year and next because they pay fees for 10 years so a venture capitals kind of died a slow death but ten years is the number and when you stop paying fees after ten years you've got to go find another job and so what has happened is the industry's kind of settle in at about a twenty billion dollar raise you can see a twenty billion dollars a year or so not this year this year we have eight million dollars raised through that's the first half it's actually only eight through three quarters so there's a lot less money coming into the industry I can tell you that's not grateful entrepreneurs it's in a sense that there's not a whole lot of money sloshing around it's great for the venture capital industry because returns will go up with less money involved hey questions about anything I've said so far okay we'll keep chugging so we're your venture capitalists invest well I showed you my portfolio and as a traditional early-stage venture capitalist it's mostly in those industries and so is kind of the last three quarters from q2 2008 and you can see that because the world ended last year it was kind of an abnormal time everybody quit investing so that's why the numbers are down this year but that will that will change and we'll get back to some horrible thing in fact it's already started but the big catted categories are software IT and recently up up until up until this year anyway you know clean tech and energy has been a place where lots of money has gone and then on the life sciences side medical device is about technology so so there's a couple of reasons for this is where the intellectual property is and this is where you kind of get a big bang for your buck and this is where the venture capitals have been playing I can tell you that there's been a great move toward clean tech I think the jury's out on that because a lot of things in and around clean tech have to do with physical plant and we're not really in the business of physical plant we're not in the business of building the 200 million-dollar plant that's that's a different business that's a utility business said so we'll see I think we're I think what venture capitalists do well what entrepreneurs do well is innovate and I think there'll be great innovations around energy battery technology and other things but I don't know that we'll be in the building of plant business so anyway that those are the those are the sectors back in the day 10 years ago there was often there was only about 8 or 10% of money devoted to life sciences my personal belief is that we will see unbelievable revolutionary things happen in the life sciences in the next 10 years the now I won't even go to healthcare reform yet but yeah we will see some incredible changes in in all types of medical devices and in therapeutics and things they're going to create incredible value for for investors let's see so I said in the beginning there's there's really only so here's our deal we raise money from institutional investors and then we invest it and we'll talk about return on investment in a minute but we you know our investors expect their money back so they give us cash we bought stock we need to turn that stock back into cash or we need to have that stock be able to be turned into cash by our investors okay so the only way to do that is to buy the stock in the private company that company either needs to be sold to another company for stock or for cash and so that happens frequently so we just sold our company to buyer they have most big technology companies have you know Microsoft has twenty five billion dollars of cash in the balance sheet so they don't do stock acquisitions anymore sometimes they do but we got a Microsoft stock that would be okay because you can sell it next day right and so we would send either that stock or the cash we got from Microsoft or in this case Bayer CropScience you need a big pile of cash we're going to send that cash back to other partners so so right now because the IPO market is in such bad shape and there's a lot of structural reasons for that and I won't get into why there aren't any IPOs but let's just say there really aren't any IPOs to speak of that is initial public offering so the other we can do is we can take the company public that and went in going public what you do is you sell some new stock to the public and then all stock trades and so then we can send that stock to either the partners they can sell so but the other day we've got to turn the stock that we bought and a little bitty private country startup into cash so it can go back home to our investors that's that's the goal and is only two ways you'd have sell it to another company you take the public and there's no take it in public so you got to sell it to another company this is the graph of selling to other companies mergers and acquisitions and as you can see you know this goes back 10 years or maybe more than 10 years there's lots of activity in the bubble and then and so on the left is is the total value of all the acquisitions on the Left y-axis and on the right is the number of transactions so it has been a kind of a steady number of you know 3 to 400 companies that are bought every year and that's not going to put a big dent in the inventory there's a lot of companies out there but then the amount that's paid for them has dropped significantly since the bubble but actually 2007 wasn't a bad year and a year today those numbers will be better but not great and that's just a over from the current financial malaise that were you yes sir what's the split that you're seeing where you sell it to a strategic buyer or corporation versus no leverage file on well since since the the leveraged buyout funds can't find anybody to loan them any money and they're all playing golf it's it's mostly strategic buyers so what would that have been so four or five years ago so back when all the buyout money was raised in oh five and oh six it was about 50/50 and that's one hundred zero well that's not true actually had a term sheet right now for one of our companies from a financial buyer so but you know the financial buyers are really our buyout firms that have built a platform you know they buy a company and put a bunch of money in it to go by the company so it's kind of not that much of a difference yes how many companies do you return for sure the stock to your LP versus of these versus cash and is it rare is it well could you be questioned yeah so yeah so how many how many times do we send cash home versus send stock back to our limited partners well since they had been very many IPOs we send most cash home back when in a night in the mid 90s and early in through 2002 it was probably a third to 40% of the traction of the transactions we would send the stock back now and it depends sometimes we did a lot of deals where we got bought with stock and we sent the public stock home from the big company like Microsoft some like that which is a little bit different than sending the new company's stock oh because they don't all kind of trade like Google and day one you know there's these are fragile little companies and there are a whole bunch of issues around sending some and this has happened a lot where what literally what happens if the market closes at the end of the day we send it fax out saying tomorrow morning you're gonna get this stock and and we send it to them and they get it and by the time they can sell it it's going down like you can't believe and then it becomes a accounting issue well we told you yesterday so that's the price we're using the captain it's a complex issue any other questions yes just wondering since your fun usually run like ten years and in these technology companies well from what I understand typically good mini you may exit short in a shorter timeframe than the life size companies so if you find you do more deals in the technology sector versus life sciences sector and do you do like I guess you once you make the phone certain companies you do more tenure I don't necessarily know that theoretically that's the case and everyone believes that life science technology company life science companies take forever the truth is a technology companies take forever to in it so average age to acquisition right now eight years for all all venture backed companies average age at IPO nine point two years so that's hard to make money and fund it's ten years old to do that but so any other the other dynamic is and I get to this a minute but we put the first three years we have to identify the whole portfolio three or four years actually the five by contract is the end of the investment period so we have to we kind of have to call our pockets on whether we're done investing the portfolio now what we do do is because the light science companies take more capital there'll be fewer of those and more technology companies but not because they take less time necessarily and I talk about why the life science companies don't we don't invest there's lots of money that goes into like science investing before we get their grant funds NIH and others and so we're not really investing at the very beginning of this cycle we're investing when they've already been through tens of millions of dollars now it takes tens of millions more but any other questions yes you know really you mentioned that the venture back IPOs are kind of non-existent right now and also you know obviously the venture M&A is decreasing so how you allocate reserves to your startups to kind of help them weather the storm and have you had to kill any of the companies yeah it's a so it's a real problem and so not only problem for us it's problem for investors who whose private equity portfolio with self-sustaining that is that they commit to a bunch of funds funds would call capital and return capital it's similar and then the returning of capital stopped but the calling of capital didn't and the portfolio's are down by 40% a year ago and they got no liquidity and they have to sell at the bottom and the whole endowment Foundation Duke is it's a bad place to be but because so question is how do we reserve so we're planning on we plan on every identifiable round which we usually exaggerate plus one more and the short metric is somewhere between three and four times the amount of the first check we don't you know we call it deep in the alphabet you don't to get deep in the alphabet you do the a round plan on a be round and C round you get the F you're in trouble so I'm into F yes if you nice cross invest between funds so for example the next one you raise yeah that's a that is really hard we've done it and you have to raise the bar way up because you got two different sets of investors and the new and set of investors doesn't want you using your money to prop up the old set and really you know is it a fair terms and conditions who sets the D we only do that if we have a identified third party that comes in and sets a price yes first starts for me now what what's your level of optimism that if they started today by the time they were ready to take public equity this market would be turned around so they're you know most of the bubble company I'm very high but it's high for this reason most of the bubble companies were sold on on just smoke and mirrors you know there was no there was no substance to many of those companies that got bought for gazillions of dollars and so the reason it takes 8 years to take some public would get it bought today is because the buyers and the public are only buying things that are wildly profitable and scaled and so frankly it takes 8 years to get there there was a big article in The Wall Street Journal a couple weeks ago about all the companies that are in the top hundred software companies today and how long it took each of them to get 50 million in revenue I mean it took it took Microsoft eight years to get to 50 million in revenue so you know how many business plan as you see where 50 million is in year 3 it just doesn't happen so in order to build these real companies you really have to it's going to take a turn nine years and when we get there so our plan is to build real companies and that takes a different mindset on Carly entrepreneur and a part of the investors you build real companies there'll be a market forum at the end of the day now if we get lucky and the world turns and people start buying things because because their strategic fits in there you know they want if the buyers come downstream that would be great will have a higher return investment but our plan is to build real companies that scale to get there in a day that's a good question anybody else yes a lot of companies serve these a lot of service as opposed to good some I think that's difficult to quantify how the public will receive so as an investor how you what how are you buddy so I can tell you are so the question is how our service companies viewed by us and by by others I think so there are lots of service companies that didn't get money our view on that is historically do this without disparaging anybody I can we when you have a service company they're in there great service comes quintiles is a fantastic company here locally that's just you know unbelievably successful they trade for 1.2 times revenue today 0.6 maybe but the maximum is going to be 1.2 times revenue and it doesn't matter whether it's 1999 or 2008 is going to be 1 to 1.2 or 0.8 to 1.2 times revenue and that's it and they only scale people because you're selling ours almost by definition and so you would have for a little bitty company and I'll send an order scale revving you got scale people skill people you got a scale capital not always because you have customers hopefully and if you're going to service business you hire rich people and you get a fire which people with the thing turns so they're not worth very much at the end of the day and they're really hard to scale and so we don't do it and if you for those categories up there most venture capitals don't do it in fact when we get into the software company the very first thing I want to know is what's the service component here because I'm going to look at the balance sheet let me give the income statement some of these wildly profitable companies don't have big service component because the margin on services is 30% margin on software 85% so that's why we want to stay away from services the other thing is there's not really much of property in service business right you're competing against the next company that can raise the capital and hire the people the only differentiate is T so so for that reason we don't we don't do okay the so there are no venture backed IPOs I'll tell you why in a minute but here's a secret there's a there's actually a great report out that Grant Thornton put out not two not two credit in the County firm but it's called wire IPOs in the ICU and one of the one of the biggest reasons is and they go through about a ten year history of why IPOs are in the ICU and frankly has nothing to do with sarbanes-oxley which is kind of a red herring that which is the thing that in response to Enron regulation that came to pass which causes it very expensive to be public and liability Laden and all those things decimalisation so back in the day back ten years ago in when the IPOs were started stocks are traded in eighths and 8 is 12 and a half cents sometimes two eighths and and so the people that made a market in the stock made 12 and a half cents every time they traded a share when they when when online brokerage came to be and in an effort to lower the cost for consumers they changed the role and said we're going to do it too you know pennies we're going to decimal eyes trading stocks took all the money out of trading stocks so they'll stop trading and so there's nobody to actually trade these little stocks they would take public so they stopped taking public great import grandfort and wire IPOs in the ICU that has a lot of interesting things so I'm going to skip that one so this is this is just just in terms of being in on business I will say that we are so it's a limited partnership we are the general partners in the limited partnership it's actually Ella it's a an LLC but this is a limited partnership and our investors are it's a blind close pool it's blind because they don't have any say in what we do they just don't invest in our next one it doesn't work out it's closed because we go ahead and close it and they're committed put the capital in we draw over time and so it's it's a blind close pool in that way and pension funds by the way provide about 50% of capital to the industry maybe a little bit more so now this gets back to the question about how long it takes to put money to work takes about three or four years depending upon whether there's a lot to deal forward not so much we've been on three years cycles so when you identify the portfolio and you do all that reserving you start a new fund and so now you work with two funds and then you know another three or four years goes by and then you start a new fund so at any given time we have four or five funds and because things take eight or nine years sometimes to work out most funds stay open 14 years 14 or 15 years yes so if you were to line up on that scale when do you start investing in firms based on your funding cycle the very first day in fact while we're raising a fund where we're sometimes we're often working on term sheets and getting things ready so that the moment we close we can go ahead and put the money work you know theoretically it's an eight-year period sooner you get it out the sooner it comes back so now we're doing all we can not have eight your investments because they don't they don't work out so you know this fits to return on investment so the great deals need to support the ones that don't work out plus the fees that that are associated in expenses the audits and other things and are carried interest which is 20% of the profits all that needs to add up is something that is better at least by 5% than what they could otherwise do with the money that's completely liquid and by the way it's mostly an illiquidity premium it's not so much a risk premium that they're looking for an investment in venture capital you know it takes it's a very it's a very labor intensive asset class to put money to work if you're an institutional investor we could all put a half a billion dollars to work tomorrow by noon if we had it in the public market so that would take a long time put a half a billion dollars to work for venture capital and a lot of people a lot of diligence a lot of meetings it's just the nature of the beast so the so if you use a baseball analogy if if you had a hundred million dollars saying you made ten investments in each of ten companies they might kind of turn out like this where you have if you make ten times your money we'll call that a homerun you'll have a couple of extra-base hits where you get through three times your money or five times your money and then you'll have some you know we get some of your money back and then you got a class up there second from the bottom called the Living Dead and the Living Dead is it is a place where great company a few million dollars in revenue profitable can't take it public nobody wants to buy it k huge money out that's a zero right there's no difference in that then chapter seven same experience for our investors which is we can't get acquitted so we're focused on liquidity before we start now the question is if you if you did this and it turned out this way and you and so you have this all adds up to 300 million dollars so you have 300 million dollars we got fees and expenses that run for the life of ten years and you've got a carried interest that would go to the venture capitalists and so this this would be about a two hundred thirty five million dollars returning on a hundred million dollar investment the question is is that good or bad the answer is you don't know until Einstein figured this out which is time equals money you can see the little dollar sign there in the bottom right and and the credit in the problem when I didn't give you that very well I didn't give you it was time so I used to carry this around in my pocket so here we have on the x-axis we have that how long it takes to get out in years and on the y-axis we have the multiple acts of your investment and so if I gave you a dollar now you getting five dollars back in five years that would be 38% that number right in the middle chart in white and so the question is if you go back to the if you go back here how do the individual deals need to turn out so that the whole fund turns out in a place where our investors are happy and the answer that I'm saying is greater than forty percent on an individual Deal basis and so everything in yellow is greater than forty percent so if you make 100 times your money you don't to do any math that's a good deal it just is and but but you can see again in a period in a an environment where it's going to take six seven eight nine years to get out in order to make 40 percent compounded annually on that dollar that goes in in the first year you gotta have a pretty big excellent and and so there it's time time to the end point that has caused venture capital returns to come down the good news is the other returns are down as well so any questions on return on investment so you know if you come to me and say well I will guarantee you two times your money in three years I'm so two things about that one you can't guarantee me anything because we don't know we're making it up and so are you but two I'm not in a two times my money business because it's my investors say we so there's two ways to look at this my investors say we pay pension fund investor says we pay benefits in dollars we don't pay benefits in percentages that's okay but I gotta have a percentage – so so we can't be in a two times our money game we can't do even though two times our money in one years is a great return on investment we can't do that can't do that so anyway so I'm going to I'm going to skip that because there's one other thing I want to about I would just say that well well I'll say about this is this is the individual investment on a on so 1.7 million dollar check was written and then we sold the company and did a distribution of almost fifteen million dollars eleven months later in that return is the net present value that series of cash flows which in for that particular case is one of my deals of course was good this is the whole fund from the show from Arlington pardons they give us money and they get money back and so here's how we drew capital this is our 98 fun we drew capital like this so at this period in time we had drawn about sixty million bucks and we had returned including the value of the fund this much and so this is the stream of cash flow they saw with this number which is evaluation they going back to them erratically in this model and so that had at that point in time that had a 77% of return that's a little different calculation this IRR calculation this is how we are graded and that's why time is our enemy time is a real punishing thing so yes question back there so the general fee structure to the LPS is 20% of profits and then is there a there's a fee so the general thing is two and twenty so two percent of committed capital if bigger funds less little funds more but that that fee gets recovered in the 20% okay so that expense is netted out so it's 20% of net economics over time thank you yes is that 20% of each deals of one knows really well you do 20% of that so so it's a portfolio and the question is when do you get paid so now most most funds have a deal where you've got to return all the capital before you can start taking the 20% that's common otherwise you got it you know we do this first deal and I get paid and then we lose money and then I got to give you money back that's a call back and nobody wants to go there that's bad bad bad because I got to send somebody the IRS and I don't have that money it's really bad was there another question yes um what percentage equity do you usually take burn on average for deal so I hang on to that question because I'm going to answer them in in one second we're all Alston that's my most important slide so so I shouldn't tell you this but the secret of early stage Reggie devil's island so I don't tell anybody but we're you know we're buying it very early safe values very low values because they're by definition early stage and we're selling hopefully you know things that are that had lots of intellectual property and high margins and not service business ism and so hopefully we'll Willow will do well now I didn't talk about what we do what my day job is for the seven projects I'm on I did mention we do a lot of recruiting I spend a lot of time working with our existing portfolio cons I spend about a third of my time have firm management responsibilities but I spend only about a third of my time looking at new things probably 40% of my time or half my time working with the seven portfolio companies that I'm on boards of financings strategy recruiting crises can't do payroll need a new CEO every possible outcome has has happened over the years and so like say most of our time is spent with the existing portfolio so this is how you get a meeting with me you call Linda and she says no Thursday's out how about never I'm kidding that's a joke so how long does it take to – from hi I'm Mitch – chi-ching there's money in the bank it depends me so there's a process that we go through which I won't bore you with but suffice it said is a bunch of meetings and some lawyers and the lawyers almost always take 30 days at the end this process can range and and frequently what will happen is we'll meet in that and we'll say no go bring me a witch's broom and come back and they go get the broom and they come back and we say no and and then they come back and we say you know what now is right and so that happens relatively frequently where it comes back and back and back we have a deal we're getting ready to do next month I hope that we've looked at four years ago passed on at least three times but there are elements of it that are right now so it can be it can be 90 days to two years or four years so this is back to the question on how much do we take and I will stop after this slide no I got one wipe this the so the question is how much do I get for whatever money I give you in terms of percentage ownership remember I'm only taking an equity stake and the answers here there's only two variables it's very simple and it happens every time you take money whether you take money from the public or you take money from your dentist which is you never do because you always have to go to the dentist and you might lose their money and then then you have a difficult situation so so there's a couple of bad there's this thing well there's how much money you need right then call that cash investment and then there's this thing called the negotiated pre money value of the value of the company the minute before to check so let's say you had this great idea for a software company and you did a million bucks and we met and we said ok and we agreed we'll forget about how we agreed it I'll tell you about that on the last slide but we agree that your company is worth three million dollars now we just made that number up but that is we're agreeing that we agree on that and by the way that is the number one negotiated term because it determines who gets what among other things in the in any venture capital agreement so we agreed your company's worth three and we agree that my million is worth a million I've argued about that by the way how much is a million dollars worth it's exactly making up but some people see it differently anyway my one and your three is four I put up one of the four therefore I get 25% it's no more difficult than that it's really really simple now you say I don't want to give up 25% I want to give up 10% and I would say well that's interesting but now you just valued your company at nine million dollars and because when I put my one in and your nine that's ten I own 10% I can't do that deal because your company's not worth nine million dollars it's just you in the business plan and your dog and that's not nine million bucks so and it's kind of interesting so to the to the point of how much do we want i I want enough to get control but not so I do not want control I do not care about control I want to mean for ownership so I can have a board seat I want a meaningful ownership so I have a voice but I'm mostly concerned that that four million dollar post money in that example the next time we go to raise money is worth more than four million bucks that's all I care about I'm in business for return on investment that's my goal and together we all own stock the stock is going to go up in value you're going to have options you know founder stock I'm going to buy stock we're gonna work on the stock going up which by the way might include you not being CEO set up a conversation though we're talking about valuation the left but here so I don't really care if I have 19 percent or fifty four percent doesn't matter to me I'm not hung up on that because I also have an attorney in and in the preferred stock agreement I'm going to get all the things that I need to carry out my fiduciary responsibilities you're not going to be able to sell the company or raise more money or do certain things without me saying that's okay I can't make anything happen I can prevent things from happening so that's why we care about percentage ownership other than I want to have a meaningful state or by the way I can't just write a 1 million dollar check that put more money to work because I can't divide 275 million dollars by one or I have 275 projects and there's only close we can't do 275 projects so there's there's a few other things that I need to push around but at the end of the day I really I really only care that we have a fair value and by the way after we it's and now we have million dollars to spend I'm worried about when we're done spending that million dollars what's the company going to be worth that's all that's really what I care about cuts together we're going to go raise money and now my chairs on your side of the table and I'm going to help you raise money it's going to go like this this is an example of a company so in the first round you know there was a pretty money value of – maybe you did an angel round took a half a million dollars and so now it's worth two and a half when we go to raise money the next time it's worth four that's good so we get a market we're going to take the dilute effect of raising four million dollars and so this new four million dollars it goes in the next round gets 50% of the company but it's at a higher value and so the so at the end of the day if we can keep increasing the value the founders state in the company continues to go down but the value continues to go up substantially so that's kind of how that whole thing works any questions on that yes question of obviously right now it's a buyers market so how much in general how much of a discount have you seen in a pre-money valuation you know it did I it's not fair al I mention capitalists take advantage of entrepreneurs because they can course they have taken advantage of when it goes the other way and at the end of the day we're investing in the entrepreneur and – for them not to have a vested interest in the outcome because you you know taking them down so much on valuation it's just stupid and a lot of accountants will see it that way the other thing is as I mentioned earlier it's a very long term relationship and so you have to feel on the other side of this negotiation as I said it's there between venture capital investment banking this is the beginning of a god forbid ten year relationship and so you know you can't have a nasty taste in your mouth after this and so it's right now it's substantial with very very very difficult to raise money from early-stage time nearly impossible to where pre-revenue company to get financed at all forget about evaluation so the discount is high okay I'm going to do this last slide the so question is what are we looking for and where I got kind of what I'm calling a risk pyramid here because we view ourselves as risk mitigators if you will and those are the risks in that upside-down pyramid and they're in order of importance and and so as I mentioned the beginning the most important thing in any deal is the management team it's not always present at the very beginning there needs to be an entrepreneur present in our view and and so we spent a lot of time on management a lot of time on due diligence and management the next most important thing is the size of the market and how you're going to get there and is it growing and remember this is a risk we take because a lot of these markets don't exist before we write a check and so we have to do a lot of work around that then the next thing we have some control over the financial aspects of the deal what's the valuation how much money is it going to take what might it be worth at the end who else might invest mean all those questions we have some control over and then the fourth on the list ironically particularly when you talk to technical entrepreneurs who are so focused on the science to find out that what they spent their life working on is kind of fourth on my list of things that are important is sometimes upsetting but it's it's important it's just forth and so we're focused on what's the strength of the IP estate how protectable is it what's what are competitors doing those kinds of things and then today you know interestingly the economy has killed a number of entry deals because certain segments of the economy stopped buying things most venture capital deals are so kind of cutting edge most of the RMD doesn't dry up and so we're generally not affected by the economy but sometimes we weren't and certainly were last month and then every all the three-letter agencies at federal government the FDA to the SEC to the whatever they are you know the FDA is a is a big problem I mean it's an opportunity and a problem at the same time you got to be able to figure out how you're going to negotiate that so we kind of look at that and I'd like to say over there what we're looking for is the same reason companies fail but it all has to do with management headed toward big markets last question yes what's the smallest amount of money that you would put into a project well that's a good question so I said I can't divide 275 by one so for inner self that's that's our art issue I'll write a five hundred thousand dollar check I just need to know that at the end of the day some eight years from now I'm going to have invested six seven eight nine 10 million dollars as a group kind of one of a number of investors and so it does it does there's a whole thing about venture capital model being broken and there are lots of companies that don't need that much money and shouldn't take it and but so we'll start small as long as we can get to some meaningful amount that's it I'm gonna stop right there thank you guys

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