Investing Billions - E28: Roland Reynolds of Industry Ventures on Investing $7 Billion into Startups and Venture Capital Funds

Episode Date: December 14, 2023

Roland Reynolds, Senior Managing Director at Industry Ventures, sits down with David Weisburd to discuss being one of the first investors in emerging managers and how he uses secondaries to drive alpha. We’re proudly sponsored by Bidav Insurance Group, visit lux-str.com if you’re ready to level up your insurance plans. The Limited Partner podcast is part of the Turpentine podcast network. Learn more: turpentine.co -- X / Twitter: @rolandreynolds (Roland) @dweisburd (David) -- LINKS: Industry Ventures: https://www.industryventures.com/  -- SPONSOR: Bidav Insurance Group The Limited Partner Podcast is proudly sponsored by Bidav Insurace Group. Today's episode is sponsored by Bidav Insurance Group. Bidav Insurance Group is run by my close friend, Ahmet Bidav, who insures me both personally and at the corporate level. Most people are not aware of the inherent conflicts in insurance, where insurance agents are incentivized to send their clients to the most expensive option. Ahmet has always been an incredible partner to me and 10X Capital, driving down our fees considerably while providing a premium solution. I am proud to personally endorse Ahmet and I ask that you consider using Bidav Insurance Group for your next insurance need, whether it be D&O, cyber, or even personal, car, and home insurance. You could email Ahmet at [e-mail]. -- Questions or topics you want us to discuss on The Limited Partner podcast? Email us at [e-mail] -- TIMESTAMPS (00:00) Episode Preview (01:40) Overview on Industry Ventures (04:21) Industry’s direct and secondary focus on emerging managers (09:28) Episode Sponsor: Bidav Insurance Group (10:17) How to evaluate secondary fund opportunities (16:46) Industry’s portfolio construction (21:52) How direct investments return risk adjusted alpha (23:44) The importance of knowing macroeconomic headwinds (25:05) The history of Industry Ventures (27:46) Why Roland likes extension rounds (30:58) Utilizing SPVs for pro-rata allocations (34:14) Starting a relationship with a direct investment? (35:18) Why every emerging manager needs a PPM (39:37) What is operational due diligence? (43:47) Closing thoughts

What we target is about 40% of our capital inside of our funds is allocated to primary commitments to these emerging managers, to these GPs. We have to do that part of our job right, because to find the transformational direct investments, to find the great early secondaries, it all starts with that authentic relationship with your primary commitment. So that is an absolute core focus for us. That 40% of capital will go into somewhere between 35 and 45 underlying venture capital funds. We will then, and by the way, the reason

we do that is because what that creates at our fund level is call it somewhere around a thousand shots on goal, right? Because each of those underlying managers will invest somewhere between 25 and 30 companies, principally at that seed series A stage. So we get a thousand shots on goal through our primary commitments. And there's heavy, heavy losses inside those funds in those thousand companies. Our best estimates are somewhere between 40 and 70% losses of those seed stage companies. Well, Roland, I've been really excited to chat ever since Alex Edelson of Slipstream made the introduction. Roland, you have a storied career going back to JP Morgan and really starting your own fund to fund in 2005 and then launching the emerging manager

program at Industry Venture back in 2009, together with the founder of Industry Ventures, Hans. Very excited to welcome you to the Limited Partner Podcast. Thank you for having me, David. I am very much looking forward to this conversation and grateful to be here. Thank you, Roland. So let's start. A lot of people know about Industry Ventures, but not everybody. And I think few people know how big you guys have gotten. So how big is Industry Ventures today? Today, we're about 7 billion in assets under management, all within venture capital. We have several strategies within the venture ecosystem, but it's been a 24-year journey to get to where we are today. And we feel like there's a lot more good work to do. And I'm grateful every day for working in this exciting ecosystem. And you've grown not only assets,

but also you have 20 team members today. What exactly do your team members do? And tell me a little bit about industry as an organization. Yeah, sure. So we are actually 40 people today across our whole firm, but you're absolutely right. 20 of those people are on our investment team. We structure our firm, by the way, we're headquartered in San Francisco. We've got a small satellite office in the Washington DC area where I happen to be and have been for the last 14 years that I've been at Industry Ventures. And we have a small satellite office in the Washington, D.C. area where I happen to be and have been for the last 14 years that I've been at Industry Ventures. And we have a small satellite office in London as well. Hans Wildens is the founder of Industry Ventures. And I hope we'll get into a little bit of the history of the founding of the firm,

because I think it's really important to who we are today. Nevertheless, what our folks do on the early stage team is we focus on investing in emerging managers, small seed series A funds. We've been doing that for over 15 years. Our team of eight on the early stage funds also invest directly in companies, typically series B. And then we also buy what we call early secondaries. We buy limited partnership interests in our emerging manager focused small fund managers. And we define small funds or emerging managers, you'll hear me use that word or those terms sort of interchangeably. They mean different things to different people,

but to us, what they mean is sub $250 million funds, early stage funds, usually focused on seed series A, predominantly technology. Our team of eight on the early stage hybrid fund focuses there. And then we've got a dedicated later stage focus secondary funds. And that's really where Hans started industry ventures in the late stage secondary market. So we've got a team that focuses on those and those are secondary directs and LP interests. And then we have a team run by Lindsay Sharma, who's based in London, focused on what we call tech buyouts. And this is where we are investing in what we think of as the next generation, smaller emerging managers for control buyout funds. If you think of Toma Bravo or Vista, KKR, Mxel, there is a new generation of smaller funds coming together that are investing in

technology companies, control buyouts for those technology companies. And so Lindsay and her team are investing in those funds, also doing direct investments in the businesses and buying secondaries there. So everyone at our team on the investment side is focused on a given fund strategy. So speaking of a given fund strategy, you run the Emerging Managers program, and you've done that since 2009, way before Emerging Managers was even considered a space. You've decided that industry to structure the Emerging Manager program, both direct, secondaries and LP interest, all under one umbrella. Tell me about why you chose to do that and how that functions today as a part of the franchise. So actually, we started investing

in Emerging emerging managers or small funds back in 2006 and 2007. Before I came to Industry Ventures, I had started a standalone primary only, primary meaning just investing in the LP interests at inception. I had started on doing that on my own before coming to Industry Ventures. I merged my firm with Industry Ventures in 2009, and we kept the core of that idea to invest in the emerging managers. But Hans and my partners recognized there were ways to improve on that strategy, not just investing in emerging managers, but also, as we've talked about here, investing in their best companies, their breakout companies, typically around the Series B, as well as buying what we call the early secondaries. These are secondary LP interest exclusively in our small fund manager universe. And they're usually in year two, three, four, they're less than 50% paid in. And so as a buyer, you are evaluating the manager, which we do given that we make primary investments, and that's a really important skill set on our team. But you have a little bit more visibility into the portfolio because in year two, three, four,

the funds may largely be built out with the initial investment, but not the follow-ons and things like that. And so to your point, the journey to get to that model was one of a recognition that there was great value in investing in emerging managers a little bit ahead of our time. And like anyone in the world who's early to a good idea, there's lots of bumps and bruises and scrapes along the way, and we certainly have those, but we really do have the credibility of having been one of the first to identify that market segment. The reason that we added in the secondaries and the direct investments was a recognition, and it took us a couple of years, about two and a half years to

really put all this together under one fund. It was a little bit of trial and error, but what we started to realize was that we could address the two fundamental issues with early stage venture, the two fundamental issues being risk of failure and duration. It usually takes seven, eight, nine years for the best companies to go from seed to big public company. And we could address those issues without compromising the investment returns. And so early secondaries is a big piece of addressing duration, right? Because we're buying a fund that's in year three or four. We're shortening the J curve. Sometimes we have zero J curve in our own funds by virtue of buying those secondaries really early on. And really importantly, because we're buying those in year two, three, four, what happens when we do our job right is the upfront

discount is a very nice place to be and it helps us shorten the J curve. But where we really make our money is in the long-term appreciation of those assets. A long-winded way of saying that the model we landed on was truly a collection of the best of industry ventures, a secondary fund, applying that to a good idea to invest in emerging managers. And back to your original question of sort of why do we do all of that under one umbrella, one team? We have taken a view, and it served us really well, that we're in the relationship business as it relates to our underlying emerging managers. Today, almost 16, 17 years after the initial starting of the strategy, we've invested in over 110 seed Series A small fund managers, predominantly in the US. We're not active with all of those today.

We can talk about that journey. Many of our managers have done incredible work, and they've built incredible franchises, and they've grown larger. And that tends to be the point at which we go and we seek the next generation, third generation of smaller funds. But we're in the relationship business. And what we believe is that we build authentic relationships with fund managers in the early days. We help them get established. We're oftentimes the only or one of the only institutional investors. We are investing in sole GPs or a small number of partners, anywhere from 10, 15, $20 million funds up to 250 million. And then what we try to do, and the reason that we believe that it's important to have one team

doing the fund investing and the direct investments and the secondaries is because when you're in the relationship business, it's not a one-time event to just invest in those funds at inception, but it's a series of authentic interactions, hopefully with mutual benefit for both the GPs and for us, for the GPs, it might be some key advice, some key insights as you're building out your firm. And in our case, then in exchange for that relationship building, we're driving or hoping to drive deal flow for our direct investments or for our secondaries. And so it's that sort of series of touch points and building that authentic relationship that I believe were we to create a specialized, say, direct investment team at our

firm, we would lose that authentic relationship with the general partner. And it means a lot to us, not just in terms of deal flow, but also in terms of helping us decide which ones, which deals to spend time on. If our manager that we've underwritten and fundamentally like and believe will make money is telling us this is one of their top companies, that's super important to our filtering and that those deals make it to the top. And so along with a way of saying, I think by having myself and Jonathan, Brian, Fannie, who are the principals on our team, building these long-term relationships with the fund managers, we are utilizing the authenticity of that relationship to then drive the deal flow

to the secondaries and the direct and incorporating our fundamental trust of our underlying managers to help us filter which deals to focus in on. I think that's a huge asset relative to, say, a direct-only venture firm that doesn't have those trusted relationships to filter and drive deal flow. Agents are incentivized to send their clients to the most expensive option. Ahmet has always been an incredible partner to me in 10X Capital, driving down our fees considerably while providing a premium solution. I'm proud to personally endorse Ahmet. I ask that you consider using Badaw Insurance Group for your next insurance need, whether it be DNO, cyber, or even personal car and home insurance. You could email Ahmet at ahmet at luxstr.com.

That's A-H-M-E-T at L-U-X hyphen str.com. Thank you. A lot of great nuggets to unpack there. You mentioned early secondaries. I think that's a very novel product. What are you looking for in a GP's portfolio in year three or year four that's a good signal for performance? So first and foremost, let's not forget, and you will appreciate this, that this is a imperfect science. And so what am I looking for in a GP's portfolio in year three or four starts with what am I looking for in a GP? And in many cases, the early secondary may be a GP that we've already underwritten from a primary perspective. But a lot of times we'll start a new relationship with a GP that we may not have invested with as one of these early

secondaries because it's always highly likely that we may make a mistake and not invest in a great manager's fund one. But by keeping a good relationship and dialogue with those managers after they raise a fund one gives us another bite at the apple if we do that in a sincere way, which means we might have the chance to go buy an early secondary in that fund one that we missed. And so the long-winded way of saying our sequencing of how we build our relationships could easily start with a secondary and then become primary capital thereafter. It could be primary capital followed by secondaries thereafter. So there's no natural sequence. And again, it's what are we looking for in a GP? And typically what we're looking for is the things that other LPs are looking for, but we don't have as many tools

to be able to utilize standard methodologies of evaluating investors, right? Usually there's not a longstanding track record. And so what we look to is the people that are starting these firms. And the common characteristic that we are always trying to solve for is unique networks. Why will this individual or this collection of individuals be in the flow of good deals? And we've seen success from managers who've spun out of other established venture capital firms. of Amplify Ventures and has built an extraordinary organization. Sunil, before he started Amplify Ventures, we were one of the only institutional investors in Amplify Fund One. Sunil had been at Battery Ventures prior to that, and I had known Sunil there. And he had done a great job establishing his own credibility and investment acumen and judgment during his time at Battery. And in fact, he actually had a really unique situation when he started his very first fund, Amplify, because through his good relationship with his partners at Battery Ventures,

he was able to take a few of the seed investments that he'd made at Battery, take a portion of those investments and drop them into a new fund. And that was Battery Ventures' way of being supportive of Sunil in his launch of his new firm. And so from our standpoint, that all of a sudden was not a blind pool fund anymore, but that was actually, it looked more like an early secondary. It was a primary commitment, but there were a few seed investments in that original portfolio. So Sunil's background, having been an investor at Battery Ventures, is a profile we like a lot. There are other profiles of former entrepreneurs who've been inside incredible transformational technology companies like a Google or an Uber that built networks with other

product managers and engineers, product marketing. And then those companies either go public or they get bought. And that collection of people who were there in the early days spends out. Some start new companies, others become angel investors. And so it's all about these various profiles, having the deal flow and the relationships to put them in a position where the next generation of transformational companies, they would have an opportunity potentially to invest in them. And then the second characteristic we're looking for, irrespective of profile, is some kind of demonstrated ability to pick great deals. It's one to be in the flow of great deals, but you've also got to have some sense of what you are looking for. And so when we're evaluating

emerging managers, again, usually there's not a longstanding track record there, but there may be an angel portfolio that we can look at. We've backed managers who've had angel list portfolios that we can look at, see the quality of those companies and the leadership of those companies and their co-investors. So along the way of saying, you begin to develop as you're evaluating emerging managers, alternative sources and ways of thinking about how to discern the opportunity of these emerging managers. That's quite different and distinct from if you were evaluating Roman numeral fund 10 or 11 or 12 of an established manager. You have to look for leading indicators versus historical track record. Absolutely. And in the end, we're all making judgments about people, right? Because the

other thing we haven't talked about here, but that's critically important is grit and determination. It is not easy to start a brand new venture fund. Harder today than three, four, five years ago, but even then extremely difficult. And so one of the things we're trying to solve for in addition to unique networks and demonstrated acumen and picking deals is who's got the fortitude and the humility to keep pushing forward when fundraising, you get a hundred no's for every one yes that you get. There is a lot of, take Amplify or our good friends, Pagemont at Marr at ParaVentures. These are firms that are extremely successful, have been recognized as they should be by institutional investors and the popular press, Pagemont and Marr in their first fund won, were our seed investors in DoorDash.

But what people don't realize is they think it's an instant overnight success. These are not instant overnight successes. Pagemont and Marr toiled as a very small, unknown firm for eight years, seven, eight years before DoorDash became public and people began to understand what we had seen seven, eight years prior. Same story with our friends at Altos Ventures, who were seed investors in Roblox. They toiled for years and years before Roblox was able to go public. And then they had great success with companies like Kupang and Wuwa Brothers, Sunil, an early investor in Fastly and Datadog. But my point in all of this is grid and determination is oftentimes the key thing that enables these folks who have fundamentally good networks, have fundamentally

good investment judgment. But because we know it takes a long time for these early stage companies to become public or to get bought in extraordinary M&A events, the fortunes of the seed stage investors mirror that timeframe. And so you've got to have that sort of fortitude to withstand the ups and downs before your early funds have the success. There are no billion dollar exits in year one. I haven't seen them yet. If you figure out a way to do that, let me know. I think you need to invest in the pre-seed of OpenAI and hope it goes off very quickly and maybe do a secondary to you guys. So speaking of portfolio construction, you have a fairly large fund.

How much of it is in primaries? How much of it in co-invest? How many secondaries? Tell me a little bit about your portfolio construction. This is the stuff I love and I hope this won't put your listeners to sleep. We have a very unique listener base. So don't worry about that. Well, you can hold me to task here

because I can get down in the weeds and I will try not to do that. But the short answer to your question is over the last about 12 years or so, we've been remarkably consistent in our portfolio construction across multiple funds in this hybrid strategy and across multiple economic environments. And what we target is about 40% of our capital inside of our funds is allocated to primary commitments to these emerging managers, to these GPs.

We have to do that part of our job right, because to find the transformational direct investments, to find the great early secondaries, it all starts with that authentic relationship with your primary commitment. So that is an absolute core focus for us. That 40% of capital will go into somewhere between 35 and 45 underlying venture capital funds. We will then, and by the way, the reason we do that is because what that creates at our fund level is call it somewhere around a thousand shots on goal, right? Because each of those underlying managers will invest somewhere between 25 and 30 companies, principally at that

seed series A stage. So we get a thousand shots on goal through our primary commitments. And there's heavy, heavy losses inside those funds in those thousand companies. Our best estimates are somewhere between 40 and 70% losses of those seed stage companies. And is this pre-seed and seed, 40 to 70%? Yes. So absolutely pre-seed, seed, and then sometimes into the series A, these letters and rounds become a little bit sort of mixed. But at those earliest stages, we see extraordinary losses at the individual company level. So what we try to avoid is those heavy casualties and losses at our level.

So when there are those 40 to 70% losses inside the pre-seed, seed, series A funds, we don't feel that at our fund level. Very few, if we do our fund manager selection right, which we've generally done for the last 15, 16 years, very few of our fund managers actually lose money at their fund level. So even though they have 40 to 70% losses inside their funds, they are making money ultimately because of two or three, sometimes only one company that's driving their returns. And so we don't want those kinds of losses inside our funds. So that's 40% allocation to 35 to 45 underlying funds. And what we have typically found in that cohort is somewhere around 10% of those managers are able to deliver, if you think about the proverbial power law deal,

the investment seed stage investment in Uber or DoorDash that returns 100, 150X, well, that power law concept tracks to the fund level as well. So what we find is somewhere around 10% of our cohort of managers can deliver a 10X or better fund. And that can drive extraordinary returns for our overall portfolio. So that primary commitment is an important piece of our overall return. And the way that we get exposure to those few, very few power law companies is indirectly through the underlying fund managers. As we talked about earlier, then we have an allocation of about 20% to early secondaries. And what the early secondaries do in our portfolio is, and again, this is the limited partnership interests in our emerging manager universe. We buy those typically at significant discounts. And that

allows us in the early days of our funds to avoid the J curve completely, or to have maybe only one or two quarters of J curve at our fund level. So when we think about duration, J curve mitigation, those early secondaries are really important to our overall portfolio strategy. And then the remaining 40%, so equal weight to our primaries, is reserved for direct investment into our manager's best companies, their breakout companies, again, typically at the series B. And that's where we can generate what we think of as the alpha opportunity in our portfolio, right? We've got good downside protection between the primary commitments and the early secondaries. and the real opportunity for us to deliver extraordinary returns will be generated through those direct investments. So if you look at our entire portfolio,

on a look-through basis, we'll have somewhere between 1,300, 1,400 companies in this really nice multi-year systematic diversified approach to extremely high return potential early stage venture. We think about mitigating the risks through the way we build the portfolio. We think about shortening J curve and accelerating liquidity through the early secondaries and the direct investments. So it's this really comprehensive, and we have a lot of investors who might have our program, our early stage hybrid fund, as their venture exposure. It might be a smaller endowment or foundation. They are not equipped either in terms of the size of their endowment or their investment staff might be quite small. So this can be a standalone venture

capital program. We have other very large, very sophisticated pension funds and other limited partner profiles who may have had for the last 30 years, a very mature venture capital program existing, but those programs tend to be focused on the established managers, on the top tier, the well-known larger funds. And so this program is specialized enough that it can be highly complementary to an existing mature venture program. And so we really end up with this, something of a barbell of the kind of limited partners who invest with us. You mentioned the direct part of the program is the alpha. Is it by construct that that part of the portfolio will outperform the other 40% and 20% buckets? It's a really interesting question. And by the way, we'll invest somewhere between

50 and 60 companies just in that direct investment piece. And what we think of is by investing in that series B, we're not going to have the 40% to 70% failure rates that you have in early stage venture. We should be investing in companies that have a lower failure risk, but we're going to pay more to enter there. And so our returns aren't as great. It's not to say one strategy is better than another. And over time, what we have found is that all of our fund strategies make money inside this hybrid fund. They all make money at different points in time. So for example, in the early years of our hybrid funds, by definition, the investment piece component that makes money in those early years is our early secondaries, right? In year one,

two, three, it's the early secondaries driving those early returns. Then we'll typically see the directs start to kick in with subsequent up rounds. Obviously, there'll be down rounds and failures along there. But if we do our job right, that direct portfolio is growing in its value and those tend to contribute. And then from a timeframe, it's the primaries that ultimately can contribute mightily, but those take the longest by definition. And so over time, all of our strategies are intended to make money. They have historically and in quite a similar kind of investment multiple range.

But we still have a long way to go to prove out. We've got a few fully realized mature funds. But our belief is that with our direct investments that are still inside of our funds, our belief is that we will see those generate even more alpha than today. So said another way, if you look at the multiples today, they're all in a very attractive, similar range. But I believe that with a little bit more time, our direct investments will prove out to be the alpha that we're talking about here. And it sounds like you also have embedded time diversification, vintage diversification into your portfolio, which is

highly underrated. Yeah, look, rooted in the humility to say, we never know where we are in a cycle, right? And we think about it and we try to be smart about it as we construct our portfolios. But the reality is we're investing over 10, 12 year timeframes in these funds. What we know will be the case intellectually is there will be macroeconomic headwinds, there will be recession. Unfortunately, there will likely be a global instability, whether that's in the form of war, et cetera. We just don't know when those things happen. And so your best friend, when you take that sort of humility into play, is portfolio construction becomes the key that enables you to withstand those kinds of ups and downs in your portfolio. And that's why

we believe this portfolio construction. If we make mistakes in our, as we do, of course, if we make mistakes or when we make mistakes, it is about a manager selection gone wrong or an investment decision in a company gone wrong. It's very hard to see the mistakes we make would be rooted in portfolio construction. From a purely sharp ratio or efficient frontier, the additional risk taken by non-diversifying via time does not lead to a more efficient return, does not reach to expected higher value. I love that. That sounds right to me. And one of the interesting things about this portfolio construction and one of the things I think is important about how we've built our business at Industry Ventures, if you think we haven't talked much about the history there, I'll give you a quick overview there, which is my partner, Hans Wildens, the founder and CEO of Industry Ventures, started the firm almost 25 years ago. Hans and his brother had been software entrepreneurs.

And after they sold their last business, Hans set up Industry Ventures to be a direct investment fund in early stage venture in the year 2000. And a few months after he set up his firm, the dot-com collapse happened. And Hans, as quintessential entrepreneur, pivoted his business. And what he began to see in those early years in the 2000s and sort of the wake of the dot-com collapse was that the better risk reward liquidity opportunity and venture was actually buying fundamentally good portfolios from troubled or even bankrupt companies like Enron Broadband and Infospace, et cetera. And so that entrepreneurial DNA and sort of finding opportunities where others don't yet see them really is a hallmark of what we do at Industry Ventures. If you think

Hans was really doing that along with Justin Burden and our team in the early 2000s, when I joined in 2009, we were absolutely thought leaders. And again, all the bumps and bruises and scrapes that come with being thought leaders in early to a market, but we were thought leaders around this emerging manager segment. And the reason, I love your comments around the efficient frontier and things. When we started this part of our business, there was no data to suggest that emerging managers and small funds could provide a great current opportunity. There was no textbooks on building these portfolios. And so what we were doing was using what we were seeing on the ground and in the trenches. And we understood that the top tier managers, their funds were getting larger and that there would be an opportunity for smaller, more nimble funds to come in and play in that seed space, but we couldn't prove it anywhere.

And so we started experimenting with how we build the portfolios and layering in. As I said, when I came to Industry Ventures, I was only doing primary commitments, but we started to see that these small funds, by being undercapitalized, there were all kinds of pro rata right opportunities to invest in their best companies. We were doing that early in 2010 and 2011. And in the global financial crisis, we saw all kinds of these early secondaries and these opportunities to buy into these funds and started to realize what that could do for our portfolio in terms of the J-curve mitigation, et cetera. So a long way back to the sort of financial modeling and the efficient frontier, we didn't have any of that, but we were operating with a sort of in the

trenches. This makes sense to us. We see an opportunity here and using our best understanding of how we could improve. And by and large, our allocations have now withstood the test of time. And those allocations have been really set for over a decade and served us really well. So speaking of novel strategies, you guys are a big fan of tweeners, C+, Series A+, Series B+. This goes against conventional wisdom. Why do you guys lean into tweener so much? It goes back to what is our opportunity set and how do we differentiate ourselves in the market? Our opportunity set and our differentiation is this authentic relationship and collaboration with our underlying fund managers who are undercapitalized by definition, emerging managers. And because we are not a direct investment fund, we have maximum flexibility around the check size that we'll write. We're happy to write a $1 or $2 million check into a company. We're happy to write a $10 or $12 million check into a company. Obviously, it depends on the stage of the company, et cetera. And we're typically not taking board seats. We're typically

relying on our managers who are on the board of these companies. And because we're then not subject to minimum investment amounts, we're not subject to ownership thresholds, our form of capital is actually, as direct investors, quite different than the vast majority of the market, right? The top tier managers, for understandable good reasons, they're operating out of larger funds. They only have a finite amount of time. Each partner can only do six, seven deals. And therefore, they need to have those rational metrics around invested dollars and ownership. So we're free to then operate in a sphere where when our managers come out of a board meeting and we have that authentic dialogue, we're hearing about the companies that are starting to break out, that are demonstrating product market fit. And our managers are often very interested in

putting additional capital into those companies. But by definition, our managers have smaller funds. And so it's really in partnership with flexible capital providers like us, that our flexible capital plus our managers would be sufficient, $5, $6, $7 million in total to catalyze a round for one of their companies. And that becomes a really powerful way for us to gain access to great companies in partnership with our managers, rather than our sitting back, waiting for a company to go raise their next round. What we're doing is catalyzing rounds for companies. And the other element, obviously, in today's market, quite different than three, four years ago,

what downstream investors require today for a company to go from a seed round to an A round, or a company to go from an A round to a B round, what's required today is a higher bar, more milestones to be met. And so we believe our collaborative form of capital in conjunction with our underlying fund managers is the perfect solution for companies that are fundamentally growing very nicely, but the market is requiring more proof of their success and where we can utilize our ability to be flexible capital providers, move quickly, and companies can take smaller rounds and utilize this interim tweener capital to build their business to the level required to get them to that full series A or to get them to that full series B. So it's really, there's a great market opportunity there, but it's

really about the intersection of a great market opportunity in today's environment mixed with what's different and what's valuable about what we do, that collaborative, flexible form of capital. And so we think that is a really strong use case, this tween around for our form of capital. You partner with managers through unique structures through SBBs. You have roughly 50 SBBs. And as you mentioned, they vary in size from, I think, 2 million to 40 million. Tell me about why you do that in SBBs and what your approach is in partnering with GPs via this SBB co-investment structure? When I say direct investment at Industry Ventures, we both invest directly onto the balance sheet of a company from our funds. So we look like a traditional direct investor from

that standpoint. But to your really good question, we also will invest through SPVs or special purpose vehicles. We often will call them pro rata right funds. And this is where, in many cases, we may not be able to go directly into the company. A round might be oversubscribed and therefore the opportunity for a new outside investor is not there. However, our managers, because by definition, a deal that we're going to look at, our managers have invested in a prior round. Our managers will have usually the right to invest in those subsequent rounds and typically won't be able to take their entire pro rata right in that subsequent round. So in the unique position where we have the capital, but we can't go direct into the business, our manager has the right,

but insufficient capital to take their full pro rata right, we will put together pro rata right SPVs to gain access to the company. We get access to a company we would not otherwise have access to. Our managers get to monetize in some incremental way beyond just the investment they're making out of the fund. They get to monetize their relationship that they built as an early investor in a great company. And in exchange for that, our typical philosophy with SPVs, even today, the vast majority of the ones that we invest in are usually our capital working in collaboration with our managers. And often we will put multiple companies into those SPVs. So it really looks a little bit more like a concentrated fund. It might have two, three, four companies in it.

That's usually valuable for our fund managers because we can move quickly. We can simply add a new investment to the SPV rather than setting up a series of new ones. And we're super flexible in this way because we have managers who will set up one-off SPVs for their investors who aren't set up like we are. They're investors who don't have the ability to move quickly. And so a long-winded way of saying, when we set up our own SPVs, sometimes in our managers, they don't have any other LPs that want to invest in SPVs. And so the only deal that gets set up, the only SPV that gets set up is ours. Other times our managers will do both, one with us and one with a broader base of LPs. And so we're not looking to be hogs of the deal, but rather to set up a vehicle where we can move quickly in conjunction with the manager for the next deal

as well. So a long-winded way of saying, the SPVs are a unique way for us at Industry Ventures to get incremental exposure to great companies that we wouldn't otherwise be able to gain access to. And that has worked extremely well for us over time. And again, I think it really differentiates our portfolio construction from a typical venture fund where they're only going to make direct investments. They've got a handful of partners. Again, as we talked about, minimum investment sizes, minimum ownership. It doesn't make our model better or worse. We're just very clear how our model is different and where our capital can be most effective. And how do we align interests in the ecosystem, either with the GPs themselves or in the companies? And so we're

extremely flexible in that way to find the right entry points in great companies, whether it's directly through secondaries, through primaries, or through SPVs. You guys seem to paradoxically be incredibly flexible, but also incredibly disciplined in terms of your approach, of course, managing so many companies. Have you ever used a direct investment as an entry point into a GP relationship, or is it always via primary and secondary investment? Philosophically, we would use a direct investment as back to this sort of lack of any linear necessarily. In the end, we want to work with great managers across all of our strategies, directs, SPVs, early secondaries. So philosophically, we would absolutely do that. Off the top of my head, I'm not thinking of one, but we have worked with a

lot of managers over a long period of time. And so you may have listeners or other on my team who will remind me of one or two, but the more important thing is the philosophical view there. And we absolutely start a relationship with a manager. And in those cases, we'd probably be more likely to do it through an SPV, right? If we're not an existing investor in the fund, we want to be thoughtful about how we're creating an investment opportunity that is good, not just for us, but also for our fund manager. And if it's a great investment opportunity, we're okay to put that in an SPV and start the relationship that way. Speaking on a diligence basis, a lot of emerging managers ask me questions that they don't want to ask their LPs. So I have a couple of questions for you. One is PPMs and

fund one, fund twos. What percentage of funds and emerging managers have PPMs and what are your views on PPMs? I do feel like the vast majority of funds put together PPMs. Again, there must be an example here or there where they don't, but I feel like that is really important. And I think it's really important for, and maybe this is a lead up to your second question. The reason I think it's important, David, is because one, I'm a believer, and I see this at our firm, writing an investment memo, pulling together a thoughtful annual meeting in our reporting to our investors. The discipline of that is really important. Not that you have all the right answers, but the discipline of putting together a PPM and thinking through what does your portfolio construction model look like? I am 100%

in agreement with someone who says, well, whatever I put together in a PPM portfolio construction model, that's not going to be the ultimate portfolio that I build. I would agree with that. However, I do think that the portfolio that's ultimately built in terms of size, number of companies, entry point, the discipline of thinking through those, to me, it's like role-playing. You will inevitably make the wrong decisions in the heat of a moment, whether it's trying to make an investment in a company where there's great competition, et cetera. You're going to make mistakes if you haven't role-played and thought through and written the PPM that sort of gives you a sense of generally the number of companies, generally

the stage, et cetera. So I would encourage every single serious, even Roman numeral fund one manager to put together a PPM, because if you don't have the discipline to do that, both for yourself and for your limited partners. And by the way, let's also be honest that the vast majority of limited partners in Roman numeral fund one are our friends, their family, they are trusted relationships. We happen to be in Roman numeral fund one too as institutional investors. And I would absolutely expect that level of discipline and fund managers that we're going to commit to for that period of time. But holy smokes, do it for the courtesy of your friends and your family and the people who have believed in you and are turning over their hard earned money, we can withstand losses in our portfolios. We're an institutional fund manager.

If you lose money for your friends and family, that's okay, but don't do it in such a way that you didn't give them the courtesy day one of having pulled together a PPM and been thoughtful about what you were trying to do. So long-winded way of saying that I think it's important to do that, to put together the PPM. I hear you loud and clear. What are the core features in a PPM that are must-haves? I will say at the same time, there's nothing unique and unusual. You're not going to put together a PPM that's going to make people invest, but it is really critically important to the discipline of how you or you and your partners as an emerging manager are reconciling a competitive market. Where is your differentiation? So you need to look, it starts with,

who are you as people? Why should we give you your money? What have you done in the past that would demonstrate that you're going to make money? Where is your grit and where is your determination? And so I think a thoughtful analysis of the professional's backgrounds and why it is they're going to be in high quality deal flow, the thought process around portfolio construction, the thought process around the market today. As we said, you never know where you are in a given economic cycle, but that doesn't absolve you of thinking critically about where you are and how you'll build a portfolio and what kinds of companies you're going to be targeting and why those companies are going to take your money. At its core, this is about a competitive environment where you need to get across in a handful of pages why it is that extraordinary companies that will be the future, DoorDash, Uber, Coupang, et cetera, why will those entrepreneurs and those companies take your money? And so there's a discipline that's really critical there because if you haven't laid it down in a PPM, perhaps you haven't sort of

really deeply thought enough about how you plan to differentiate yourself and build your portfolios. I've asked five LPs this question. I've got five different answers. I'm going to give you your sixth. No, what in the world is operational due diligence? I know it sounds like the most obvious question, but what do you need to see in operational due diligence for an emerging manager? I'll try to answer it this way, which is, so at Industry Ventures, we've been around nearly 25 years. We manage 7 billion of capital. We are an SEC registered investment advisors. We have pension funds, endowments, foundations. We act as a fiduciary. Operational due diligence when it comes to looking at our firm is extremely thorough. When limited partners are looking at us, they're looking at our compliance. They're looking at our firm is extremely thorough. When limited partners are looking at us, they're

looking at our compliance, they're looking at our ADB filings, they are looking at our allocation policies. When you manage multiple funds, it's really critical to make sure all of that is buttoned up and that our reporting, our systems, our processes, everything, including your IT environment, your backup. Let's not forget what happened this spring with the demise of Silicon Valley Bank and First Republic being bought by JP Morgan. So how are you managing your operational bank accounts, et cetera? So all of those are aspects of operational due diligence, and they're critically important. When we think about how does that level of operational due diligence or... And by the way, we started this conversation, David, we've got 40 people at Industry Ventures,

20 on the investment team, the balance principally in our finance and operations and a few folks in investor relations. So we've got a substantial investment in people, time, resources. It's critically important. I don't expect that level of operational excellence in our underlying fund managers, right? These are groups that are just getting started. They are oftentimes sole GPs. And so to your question, what does it mean? What level do we expect? In all of the limited partnership agreements that we sign up to, we absolutely need a minimum of annual audited financial statements and three quarters of unaudited financial statements. That is a must have because we cannot do our job and report to our investors in the way that we need to if we don't have that. So that is table stakes. We can help managers with, well, who might be, you're probably not going to get one of the big three or four accounting firms. There's a whole series of

really great regional firms that are much more price effective and much more responsive and much more set up to work with smaller early stage venture firms. We need to have all of the basic controls around wiring money and the management of cash and bank accounts, et cetera. So I'm happy to sort of go deeper there, but I think what I'm trying to communicate is that there is an understanding, particularly with a group like us that's been doing this for a long time, that the level of operational excellence is going to be extremely different for a firm with 7 billion versus a firm with 17 million. We need the sort of audit and risk management function. The other really important factor, and I'd say in probably 100%

of the cases today, this was not always true 15 years ago, probably 100% of the cases today, managers are really well served by using a third-party fund administrator. That third-party fund administrator will help pull together the quarterly unaudited reports. They'll work with the auditors. And then there's some great groups out there that have been doing this for a decade or longer. We're not looking for a sole GP or one or two partners to have all of the operational excellence themselves, but to be making the investment and working with the third-party fund administrators, with the auditors and others that can give us the basic bones that we need. In the end, we're hiring managers for their investment judgment, for their relationships, and we're trying to drive returns. But there is a bare minimum of operational and audit that we need to have there. So I don't know if that gives you enough of an answer. I'm trying to be realistic

about expectations, but it is important. Yeah, no, that's very much appreciated. And it's very much appreciated you jumping on. You've been an investor since the mid-2000s. Industries has been investors since 2000. I could officially call you an OG in the industry. I think very few people, both on an individual basis and on a firm basis, have been around since the mid-2000s, investing in emerging managers. Kind of wild. I've been really looking forward to this interview, and you did not disappoint. Thank you again, Alex Edelson from Slipstream for making the introduction. And Roland, what would you like our listeners to know about yourself, about industry and anything else you'd like to shine a light on? Yeah, thank you, David. I've really enjoyed the conversation. I hope we'll have another chance to do it again.

There's another three hours worth of things that we haven't talked about. I hope one of the things that comes across is both we as a firm and me personally and my team, we love what we do. I am grateful every day to work in this venture capital ecosystem. There is no asset class, no job that is perfect. But my children are in college today, and I try to give them a sense of one of the things that I'm really grateful about what I do. And I hope my children who have very gratefully for them, they have very different interests than I do.

But if you can find a job that puts you in contact daily with optimistic people, people who are trying to solve big problems, whether that's GPs or that's entrepreneurs, that make your job a lot more fun and a lot more meaningful. So one of the things that I am most grateful for is to work in this exciting ecosystem with optimistic people. And I'm really grateful to work in a firm which has got an entrepreneurial culture and one in which we innovate as we go. And so what that means for hopefully your listeners and this conversation is we're learning all the time about how we can collaborate more effectively

and where can we be more useful in this overall ecosystem. And so I hope some of your listeners will take me to task and let me know what kinds of opportunities are on your mind about ways that you've heard what we do at Industry Ventures and our early stage funds today, ways that we might be collaborating. What are we missing? What products are we not offering? What parts of the ecosystem? I love that. That, to me, is super exciting.

And thank you for the opportunity to both chat with you and hopefully hear from some of your listeners. Roland, you've been very generous with your time, both on and off camera. And I look forward to meeting in person soon and chatting. Thank you for listening to this week's episode. In order to make sure you do not miss out on next week's episode, please make sure to subscribe below. We thank you for your support.