Investing Billions - E86: Investing $20+ Billion for Nonprofit Institutions - Michael Miller

Episode Date: August 15, 2024

Michael Miller, CIO at Crewcial Partners, sits down with David Weisburd to discuss how nonprofit institutions invest, how they think about portfolio construction, and how they manage liquidity. The 10X Capital Podcast is part of the Turpentine podcast network. Learn more: turpentine.co -- X / Twitter: @dweisburd (David Weisburd) -- LinkedIn: Michael Miller: https://www.linkedin.com/in/becrewcial/ Crewcial Partners: https://www.linkedin.com/company/crewcial/ David Weisburd: https://www.linkedin.com/in/dweisburd/  -- LINKS:  Crewcial Partners: https://www.crewcialpartners.com/ -- Questions or topics you want us to discuss on The 10X Capital Podcast? Email us at [e-mail] -- TIMESTAMPS: (0:00) Episode preview (1:14) Overview of Crewcial Partners (2:18) Portfolio breakdown across private assets (3:23) Investing in asset classes when they’re out of favor (4:41) Managing portfolio liquidity (6:42) Optimization of private and public equity exposure (7:33) Role of fixed income in the portfolio (8:44) Diversification strategies of top LPs (10:00) Investing discretionary and nondiscretionary assets (11:12) Embracing inefficiency (13:25) Securing GP allocations (15:22) Manager selection (17:27) Understanding LP psychology and priorities (19:01) Political activism in VC (22:25) Fund distributions and liquidity (24:44) Investment committee dynamics at nonprofits (27:20) Follow & subscribe to the 10X Capital Podcast (27:41) Managing fund investment concentration risks (30:07) Pros & cons of spinouts (31:59) Advantages to investing in funds early (34:45) The importance of non-conformity for high returns (35:55) Closing thoughts

You can think about like kind of a stack of where you're going to get your returns from the very bottom of the stack of the bonds in the cash. And so those are there for, you know, full out, make sure you've got enough liquidity. Then you've got the public stocks, which are, in our way of thinking, intended to try to give the private equity a run for its money when it comes to the returns. But I think the reasonable expectations, they'll be a little bit lower. But they're also a source of liquidity. And if they're well diversified enough, most of the time, not every part of the public equity market is doing badly at once. And therefore, they can be sources of micro level liquidity there, too. And then the private is just a pure return driver with that cost being the risk of your illiquidity being too much.

You have a reputation in the asset management community. You have people that do know you that have worked with you. I think some of my favorite GPs over time have not just taken our word for it. They've said, hey, give me three or four references. Give me three or four other investment firms like mine that you've proven to them that you're going to act the way you say you do and they make the good ones make those calls i find that people really react well gps when we don't walk in with a checklist of the main questions that we ask everybody but that we actually want to have a conversation with them we want to understand you know what makes them tick what

kinds of investments they make what happens when something goes wrong. I mean, have a real dialogue with them that is clearly motivated by our desire to really understand. Michael, I've been very excited to chat ever since we connected a few months ago. Welcome to 10X Capital Podcast. Thanks, David. Really pleasure to be here with you today. Pleasure to have you. What is Crucial Partners? Yeah, Crucial Partners, formerly named Colonial Consulting, is a 44-year-old investment advisory firm based in New York that is largely but not exclusively focused on advising nonprofit institutions on their investments. And you mentioned nonprofit institutions. Is that exclusively your client base? Yeah, so it's about 90% nonprofits, whether those could be religious organizations, healthcare organizations, educational institutions, private foundations, community foundations. That's about 90%. And most of the rest of that 10% are high net worth families that generally come to us via connection to some nonprofit we work with. What's your target allocation?

Yeah, so it's typically about 50%, 55% in public, long-only public stocks. It's another 15% to 20% today in fixed income, kind of high quality fixed income. And maybe a small amount, 5 to 10% in hedge funds. And then the balance, whether that's 20 or 20, about 20% or so in private assets of various shapes and sizes. The private asset side, break that down for me. It's very heavily private equity, if I can use that term very broadly speaking. Everything from venture to buyouts, that's the majority of it. If we break that down, it's about 50% venture. It's about 20%, 25% growth equity, and the balance is in buyouts.

It's a very heavy earlier stage focus. There's also some real estate and opportunistic that gets into the total private number I gave you, but those are relatively modest at least today. From a high level, explain the purpose of venture capital, of growth equity, and of buyout in a portfolio. Presumably, they have different purposes for the nonprofit. In some ways, they're very different, of course, as you know, but they're also quite similar for us in that they are return-seeking asset classes. So we are in those asset classes to get returns that ultimately support the thing our clients care about most, which is the perpetuation, the permanence of their capital, which demands today about 8.5% returns on the overall portfolio. And if you have the private

equity pieces, as all those various pieces you asked about, David, those pieces must make a contribution, which by the way, has to be well above the 8.5%, of course, in order to compensate for bonds and cash and other things we have to keep for diversification purposes, et cetera, et cetera. What's the status of growth equity in the ecosystem? It seems like not the most popular asset class today. Yeah, I think it's a tricky one because I think it's interesting to think about it. Growth equity, of course, is most likely to be susceptible to the mood swings of the public markets.

And I think that's part of what you're seeing in terms of its lack of popularity because I think the public markets, they are so bifurcated between a few big public companies that everyone loves and everything else which they hate. And growth equity has kind of got sucked into that hate story a little bit, I would say. So it's not that popular. I think like everything though, it's, you know, you're not suggesting this, but it's an oversimplification to say that it's going to be good or not going to be good. I think if you get the right people, it'll be great going forward. Do you not see a counter cyclicality to asset classes? In other words, is it not the best time to go into growth equity right now or venture capital that might be not very popular today?

Yeah, I completely believe in countercyclicality. I've been reading a lot about the cycles just getting longer and longer for a variety of reasons. And so you have to be more patient, maybe about how you enter things that are out of favor. I will say, though, it's funny that you asked this, because to me, I still remember the venture capital, the perceptions of venture capital right after the great financial crisis. And I think they were much worse than they are today. And people didn't want to touch venture with a 10-foot pole. And it exactly proves your point. It was the best time to be an investor. So I hate to be a pessimist at all, but it could get a lot worse in terms

of perceptions than it is today. But it doesn't mean you can't do smart things, of course. And nonprofits typically have a 5% required distribution per year. How does that affect your strategy? And tell me how you go about advising a nonprofit. It's the thing. I mean, if you think about a nonprofit, they're trying to do two or three things. The first is distribute as much as they can. It's typically 5%, as you said in your question, David. The second thing they're trying to do, I mentioned earlier, which is they're trying to perpetuate their longevity, their permanence of their capital, which means you have to earn CPI plus whatever you distribute. So that gets you to that 8, 8.5% or so return.

And the third thing they're trying to do is not become too subject to market swings when it comes to the volatility of the year-to-year distributions. You can't one year give out $10 million as a nonprofit and the next year give out six. It needs to be a steadiness to it and a growth to it ultimately over time. So those three things kind of drive the thought process around what to do. And then as you think about the private equity piece of the portfolio, again, broadly speaking, it's there to support that CPI plus five return goal over time. And the price of that is that obviously it's not liquid on demand, of course. So therefore, you have to think about how you're going to fund the annual liquidity that you might need. And so our 5% spender has to be thinking about both of these things in concert with one another.

And I think that it's interesting to think about how that works. And you cannot mess up the liquidity part of the equation. And this is another thing which I think has unfortunately become a little bit lost in the ecosystem today, which is that people do not do a good job today distinguishing between temporary problems and longer-term problems. And, for example, if you underperform the S&P 500 for a few years, but you've got great investments, that's just a temporary problem. A few years from now, you'll feel very differently about it. If on the other hand, you really messed this up and you have way too much illiquidity in your portfolio and you need the liquidity, the only way to get out of that is very expensive.

And that's a permanent problem. You'll never, ever be able to kind of pretend that didn't happen. So you have to really think about these issues in terms of whether the problems you're introducing are permanent or temporary. So that's why we're very careful about liquidity, because that's a permanent mistake that really is hard to recover from. To use a poker analogy, that's risk of ruin. If you lose multiple amounts of hands, at some point you get called, right? It's kind of like getting called on a public position. Absolutely. At a high level, the private equity is optimized on long-term gains and the public equity is optimized on making sure that you have

the liabilities funded on the short term. Is that a way to look at it? I think of it that way. Also, I also think about it, if you think about like kind of a stack of where you're going to get your returns from the very bottom of the stack of the bonds and the cash. And so those are there for, you know, full out, make sure you've got enough liquidity, you know, come out of whatever happens in the world when you need that liquidity. Then you've got the public stocks, which are, in our way of thinking, the way we do it, intended to try to give the private equity a run for its money when it comes to the returns. But I think the reasonable expectation is they'll be a little bit lower. But they're also a source of liquidity.

And if they're well diversified enough, usually, not always, but most of the time, not every part of the public equity markets is doing badly at once. And therefore, they can be sources of, of micro level liquidity there too. And then the private is just a pure return driver with that cost being the risk of your illiquidity being too much. Some question, why would you even have fixed income? Why not just have public equity? Why not just have liquid shares that you could liquidate once a month, assuming that they're superior returning? Great question. There are two answers. The first is that thing I mentioned earlier. You've got to be careful as a foundation or endowment about the year-to-year changes in your spending.

And since spending policies are generally formulated based on the market value of the assets, there's a no-go zone when it comes to volatility in a portfolio. So if you take the bonds out and you leave yourself just with public equity, and a private's harder to do, as you know, in terms of marking it, but you can have way too much volatility

and it can drive too much volatility into the year to year spending. So that's one issue that you're dealing with. The second is, there's a behavioral issue too, but the second issue beyond the behavioral one is that you can make a really, I think you can prove it actually, you can take a diverse portfolio and use the low vol bonds and cash component, if it's small, again, it has to be small, to basically rebalance, buy into a March of 2020 equity market because you have dry powder to do that. And that actually does enhance your returns over time. And there's behavioral thing. People always want a lot of public equity until they don't. And you don't want to put people in that position of having the behavioral problem of saying, oh my God, this is too much volatility,

but it's too late to say that. Yeah. You don't want them selling at the exact wrong time. Correct. When you look at the top LPs, do you find that the top LPs have more flexibility when it comes to their diversification within their portfolio on a temporary basis? Yeah, I think they do. I think that's fair. I think the top LPs have better plans in place in terms of what they're trying to accomplish, better knowledge of the broader market, and therefore I think can capitalize on a lot of the different trends essentially by taking the other side of them in many cases. So yeah, I completely agree with that. So let's double click a little bit more on your business. You guys have $29 billion under

management. How much of that is discretionary? How much of it is non-discretionary? Today it's around $1.3 billion or so is discretionary. So that means that Crucial decides on the investments within the confines of a client's investment policy statement, of course, and the other $27 billion or so is non-discretionary, where investment committees actually vote on everything we think they ought to do in their portfolio when it comes to adding capital, removing capital, committing to a fund, not committing to a fund, et cetera, et cetera. So it's essentially, that's the way the business is structured. Now, as you might be able to already detect, David, on this podcast, we tend to be extremely opinionated. So the non-discretionary clients basically just decide

on the things that we're doing in the discretionary accounts for the most part, because we're full on. We think the objectives are very straightforward. The way you get there is not straightforward, but there are simple rules that we think people should follow. So we try to follow them universally. Practically speaking, the 27 and a half, 27.7 billion, how often do they veto your recommendations? I'd say 5% to 7%. It's not very frequent. For the most part, they're aligned with us in terms of what we're trying to do. We do our jobs well.

We make the case that we're always, everything about, as you know, investing is about trade-offs. And we make the case that the trade-offs are worth it by identifying the trade-offs correctly, identifying the implications of them. And so as long as you do your work in a thoughtful way, every now and then you run into a strategy that someone's like, I just don't want to do that because either they had a bad past experience or something like it, or there's some kind of basically mismatch in terms of what we're all trying to do. But largely speaking, it's 95 to 90. And how do you communicate that to GPs? It's obviously an efficient market. It's very competitive for the top funds. How do you make

sure that that doesn't disadvantage you in a significant way? Yeah, it's a tough one. GPs that know us well are generally not concerned because they know that track record and they see it come through. When we say we're going to do X, we do X. Beyond that, we go for the best rule of all, which is full transparency. Listen, we can't guarantee certain things will happen. And we try to give GPs two things. One is honesty and transparency, of course. And two is ongoing transparency.

So when, for example, LP number six does reject the idea, we tell the GP right away. So that way they're not wondering what's happening and thinking we're going to do more than we're actually going to do. You mentioned when we were chatting last, we've embraced inefficiency. What did you mean by that? It's an interesting concept and I think a little unusual for crucial. So let's start with the principle of running an advisory business in any era, especially today. You have to start with a really simple question, which is, do I need or do I want all of my clients to have essentially the same portfolio? Because it's, you know, and there's an argument for, hey, it's my best thinking. It's our best portfolio. And that's what everyone should have.

But the problem with that, though, is that if you really want to do that, then you probably have to stick to the larger funds. You can't you can't invest across smaller, harder to access managers across a client base, a capital base as large as ours, or certainly larger. So we start with that principle that we actually have made two decisions. One is that while we like to have clients be similarly invested in our best ideas, we've accepted the fact that it can't happen because we want to use smaller capacity constrained managers. So we make that decision first and foremost. The second decision, which is really gets into the point that you're asking about, is we've also decided that, and it kind of implied by your question earlier, David, some of the greats out They've been willing to keep talking to us and they will not allocate a nickel to us in a fund or strategy. And we just wait and we wait and wait and learn more about them. And if you think about it, I think of the one that just happened recently, about a year ago, after seven years of waiting,

the manager gave us a whopping $10 million allocation, which again, across a $29 billion capital basis, it sounds a little silly, but the point is that it's a terrible return on resources in theory, because we spent all these people hours on this all these years. But, and here's the big but, first of all, clients of ours do have $10 million of exposure to one of the more extraordinary investors in the world. And secondarily, our analyst team had the opportunity to be better at their jobs because they actually can look at everybody and not just those who are accepting capital from us. I think when you have that broader scope and broader understanding of the universe, I think you have a much, much better ability to assess relative performance, not performance, but assess the relative skills of managers,

because you've seen the greats and you've seen the not-so-greats. You get more data, more reps, essentially. Without question. And not a limited scope set of reps. I mean, I think that's the critical point. Get the whole scope of reps, and I think that really matters. It's fascinating just being on a podcast and being able to interview the greats, just being in the room and asking questions does actually make you significantly better. Let's put on the hat of the GP and the GP is looking at many institutional investors. They're looking at, you know, many Michaels out there. How did GPs actually make

the decision? How did you get that $10 million? First of all, just the mere persistence of saying to them upfront, listen, however long it takes for you to have room in your fund for us, we can wait. And then if you just keep showing up once or twice a year, we can get with their permission for five, six, seven years, especially if it's not around the corner, like the manager I'm just referring to a minute ago there in London. And so if you keep doing that, first, you're just kind of proving your point that that's the way you behave and that's the way you're going to do what you say. And then the second thing, and I don't think this can be ever, ever replaced, is you have a reputation in the asset management community. You have people that do know you, that have worked

with you. And I think some of my favorite GPs over time have not just taken our word for it. They've said, hey, give me three or four references. Give me three or four other investment firms like mine that you've proven to them that you're going to act the way you say you do. And the good ones make those calls. They talk to, and sometimes they're their peers. They know them already. Sometimes they're not. But I think those two factors are incredibly important and get you across that hurdle.

I also spend a lot of time, David, and our team does as well, convincing people that we're a little bit unusual or very unusual when it comes to consulting firms. Because that sometimes is a bit of a negative for some of these managers. So all things being equal, what GPs are really looking for is sticky capital. Is that a fair characterization? Sticky capital. And I think the smart ones want sticky capital that actually truly understands what they do and therefore can kind of ride out a storm or two when they come along, as long as it's not inconsistent with the strategy. So yeah, I find that people really react well, GPs, when we don't walk in with a checklist of inane questions that we ask everybody, but that we actually want to have a conversation with them. We want to understand what makes them tick, what kinds of investments they make, what happens when

something goes wrong. I mean, have a real dialogue with them that is clearly motivated by our desire to really understand. Is that based on the idea that the more rooted your conviction is in an investment, the more you're willing to go through the different headwinds? Yeah, that's full stop. I mean, I think at the end of the day, I mean, there's so many examples. I won't list them all. But I mean, how many times has a management firm, whether it's private or public, gone from goat to hero to goat to hero all the time?

And maybe they're not really that volatile when it comes to their skill set. It's just the perceptions of them or whatever's happening in the markets, public or private, at that time, and it intersects with their strategy. So if you're actually, you've got to get two things right. You've got to identify talented people, and you also have to know when to not doubt yourself too much when they don't appear to be as talented as you think. And so these long-term relationships and building this conviction that we're talking about is the way you get there. And you can't fall into the behavioral building this conviction that we're talking about is the way you get there. And you can't fall into the behavioral trap of thinking that you're perfect, that everybody you've ever assessed and thought was good is that good because you're going to make mistakes.

But I think when you really understand people, I think it becomes a little bit easier to decide when you've made a mistake and when you absolutely have not made a mistake. And it's the time to kind of double down. When I try to access managers, I look at it a bit idiosyncratically. So I figure out how I could help. How have you been able to access? What are some best practices? For us, I think it's always been about, first of all, we lead with our client base. So here's our client base. Look at who we work for. These are amazing institutions doing amazing things in this world. They would really benefit from knowing you, manager XYZ, having their capital investments. And that's pretty powerful stuff. That has been very effective for us over the years, I have to say. Then beyond that, I think we really work hard, again, to get back

to this point of them seeing us as a serious counterparty and someone that they can both trust to do what they say they're going to do. And who also, you know, really, again, take the time to get to know them. Because particularly what I think what happens with uber successful funds and managers is the returns seem to do all the talking for some people. And that's, oh, your returns are great. I'm in. And the managers are smart enough to know, most of them, that the returns are going to come and go to some degree over time. And you really need the people who are going to be solid foundational investors who get you. So those things are the things that we tend to focus on. I guess to your point, it is a similar playbook every time.

The way the managers react to it is different, of course. To double click on the psychology of LPs, we've talked on the podcast a lot about, I guess, the misalignment. A lot of LPs don't even have carry. Most LPs, probably over 90% by AUM. And a lot of them really have cushy jobs and job security is a big issue. David Rubenstein famously said that LP management is

delivering average returns with great customer service. What do LPs really want? Let's say returns are number one. What are the number two, number three, number four criteria that LPs actually want? Not that they say that they want. I think the second thing people want, I think is transparency. They need to say, okay, if I ask you a question, I'm going to get a straight answer and not a sales answer. I'm going to get a real answer because I think that helps with confidence and trust. The related second, third on a list, I'm not really doing these in orders, is a firm I can trust not to have their name in the Wall Street Journal or the New York Times or any other publication because they did something untoward of some kind. None of us have any tolerance for that kind of

reputational risk, that embarrassment risk, that publicity risk. I think that's a huge problem. So we spend a lot of time thinking about that too. Those are the two. And then the last thing I guess I'd say is, again, a GP that clearly doesn't just see you as a couple of dollars of capital for their fund, that actually sees you as an entity that they want to support, even just through their investment work, and that they want to partner with you in a really meaningful way over time. It doesn't have to be just nonprofits. It literally can be somebody who is going to support, you know, whatever, wherever you're running a corporate pension plan, you're running a public fund. I mean, you're staking your reputation as an allocator

on that firm and that fund back to the incentives and the alignment we talked about earlier. And you really want to know that you have a real partner. They're not someone who just views you as a commodity dollar that they can treat any way they feel like. You mentioned not ending up in the Wall Street Journal. In venture capital, it's become popular over the last couple of years to really be active politically and on Twitter, now X. What are your thoughts on this?

Yeah, it's unfortunate because I think it was easier when that wasn't the case. I do think we live in a world, of course, where it gets harder and harder to avoid these questions. And we here, I will tell you, we have clients who have various opinions on everything, obviously, as you would expect. And so what we try to do is not let that get into our thought process, whatever our personal views are of what the world is and what it should

be. The second thing is when somebody is particularly prominent in terms of how they think about the world and talk about the world, whether on those platforms you referred to, we tend to highlight that in our reports, just so we can say to people, listen, this is your call, especially the advisory clients. If you don't want to deal with XYZ for whatever reason, that's great. And I just want to make sure that you knew about that from me. You have to go do a Google search to figure out what a person was doing from a public perspective. But all of this is, again, as we probably could both agree, more noise, more hurdles to deal with. But I think it's probably a semi-permanent part of our condition. So we all have to get used to it. Clearly, a lot of people are just voicing

their gripes on social media, which is probably ill-advised from a professional handle. But from a purely first principles standpoint, wouldn't it be a way to differentiate whether it's on the left or on the right or whatever topic, it's a way to further differentiate otherwise fungible venture capital in the ecosystem? I think there might be. I think there might be, David. I think that's a very fair point. Yeah, it's an incredibly interesting point. There might be. I think the problem with all these things that we're talking about is everyone's oversimplifying everything, oversimplifying themselves in some cases. We're all more complex than that. Investing is more complex than that. I think there absolutely are and should be some litmus tests that people say,

I just don't do X. I don't do Y. That's completely great, obviously. But I think if every investment is going to be kind of reduced to that kind of scrutiny, I think it's going to get really complicated really fast. You have new clients, they want to build a new portfolio out in 2024. Obviously, we know venture capital is an access class, which is very hard to access. How should an LP go about building their portfolio for some scratch in 2024? So I think I'd come at it with a fairly high level, I'll come back to this later, of enthusiasm, because we've had the big reset to some degree. Access for the very top firms is still really hard, as you know. There's a few marginal examples where it's gotten easier, but for the most part, it's still tough. But at least you're investing now at a time where capital is a little more

scarce. Fear is a little bit higher in the GP community and the LP community. And I think in theory, lower prices and less capital are generally good for return. So I think people should be pretty excited about that. Also excited about the fact that GPs, I think there is a little more ability to access the top ones, as I mentioned, to some degree. So that's really useful. But I also think at the same time, this point we were talking about earlier, if you think about extended cycles and you think about systemic change, we are right or wrong, we are convinced that this capital-constrained environment we're living in now is going to be a long one, and that you just have a very different set of monetary policies, inflationary forces, et cetera, that are going to drive this to take longer to

work itself through the system. And the problem with that, that's fine, that's a normal cycle, but the problem with that is we haven't lived in a normal cycle in a long time. And so I think a lot of people today are conditioned not to think about long-term capital scarcity. Last thing I would add, because I kind of suggested this earlier, I would be more enthusiastic if I was reading an article or hearing from everybody, I don't want to touch venture anymore because it's a terrible asset class and it never works except for in bubbles or some craziness like that. We're not really hearing that per se yet.

And maybe we won't. But that would make it even more exciting. Just to double click on that, there's this DPI issue, which is LPs are not getting their capital back. So they don't want to redeploy and they're telling their managers, give us DPI, we'll redeploy. That's kind of the litmus test for redeploying. But for new investors, should it really matter in terms of whether interest rates will go down in 12 months or 18 months or 24 months? Should that really affect their decision-making if they're starting a portfolio from scratch? Talk to me a little bit through your rationale. I always find the DPI discussion very interesting.

We don't tend to get involved with that too much in the sense that because we're worried about liquidity all the time, we don't need to worry about liquidity, if you think about it. And I also think that I understand the need for DPI, but I also think that people ought to be thinking about return on capital. If you send me back that dollar, am I going to get a better return on that dollar than if you just kept it, essentially, as an investment for our GP? And I don't think that gets thought about enough, frankly, because to us it's critically important. But your other point, my point around interest rates, inflation, et cetera, is actually around the idea that if you have capital scarcity, what you end up having is more bankruptcies, more inability of companies, even good companies to

basically not make it. And so that's the opposite of what we saw three years ago, where everybody with a dollar in a dream could get a dollar. If it's the opposite of that, then you just have to be, as a GP, you have to be more careful about which businesses you back. You have to have a better network of people to keep those businesses funded so they can come out and they can break out essentially and actually survive and thrive. And I think these things are really important. And I don't think we haven't had a normal business cycle in such a long time. Bankruptcies and a lot of problems in that regard. I just don't think people understand the risk. And that's the quickest way to lose a lot of your money. Which the last thing, what about a world,

David, where venture hit rates go way back down again? And you're not going to hit as many successes in portfolios. You get back to the one in 10 model or the one in 15 model, but those one or twos that you hit are so big that it doesn't matter. But that's a little different. I don't think that's the expectation of people today that they're going to have such a low hit rate. Yeah, they're expecting kind of the 40, 50% loss ratio last decade. Yeah, another phenomenon that I think people are not calculating in is with AI and everything,

it's not only its own industry, it's also making it cheaper to scale. So we may end up being in a situation where you don't need to have seven or eight rounds before going public. You may only need two, three rounds and at significantly higher valuations and lower dilution. The math might be completely recalibrated over a slightly different business model. Completely agree. Absolutely true. In terms of the marketplace of getting into top funds, how do nonprofits think about mission,

or is it all just basically focused on getting the top returns? I think there's an intersectionality of them. I mean, I think mission drives the need for returns, but at the same time, I think nonprofits, broadly speaking, and there's some that are more than others, are also thinking about investments that, one, aren't antithetical to their missions in some way, shape, or form. I think that's something that we hear a lot about, and I'm not surprised, and it's growing and growing and growing. And they also think about how do we make investments that we actually feel really good about that also hit both levers, i.e. it's an investment that we feel like has very high return potential

and at the same time is aligned with our mission in some way, shape, or form, or even enhances our mission. So I think this intersectionality is really important for people. And, you know, it's not a simple tradeoff that some people think it is. What are the investment committees like at nonprofits? Are they a combination of investors as well as people from the nonprofit world? Talk to me about how decision-making is done on an IC level. Yeah, no, it's interesting. I mean, the best ICs are actually a differentiated group of people

around the table, some of whom are absolutely either, you know, professional allocators, you know, they're CIOs or deputy CIOs of big endowments or foundations. They're maybe in the asset management industry, they might be in the advisory industry, there might be lawyers, accountants, people who are attached to the nonprofit in less financial services oriented ways. And I think that group of very disparate people is an incredibly powerful combination, especially when the chemistry is right. I mean, I think that's the other thing people don't appreciate with ICs sometimes is that you can really, really have problems when the chemistry is bad at an IC, but you get to a really healthy IC with a lot of mutual respect, a lot of space for people to express their views,

and a lot of good, healthy debate. Those are the ICs that are best, but they tend to be very heavily dependent on having, I would argue, people with a lot of common sense who have a really strong ability to not make it personal. And I think that's a really challenging point, which is that we think about alignment of interest. You know, if you or I are in an IC for three or five years, should we be really thinking about the three to five-year return, or should we think about the things we do that create the 10 and 20-year returns? Not every IC member, in my opinion, sees it the right way, which is it's not about the three years you were there or the five years you were there. It's about what the long-term returns is to this institution and the decisions that you made, which maybe took a few years to work out when you were on the

committee, generate strong long-term returns. That's a great outcome, but not everyone sees it that way. So these are all the important factors. Is that an incentive issue? Yeah, it is. And it's a hard one because no one's getting paid. So it's not like anyone's doing it for selfish reasons per se. It's just that I'm sitting here and I don't want to be embarrassed by the returns in the short term because I'm on the committee and my reputation might get sullied somehow. And so it's definitely an incentive issue, a hard one to overcome, by the way. Congratulations, 10X Capital podcast listeners. We have officially cracked the top 10 rankings in the United States for investing. Please help this podcast continue climbing up in the rankings by clicking the follow button above. This helps our podcast rank higher,

which brings more revenue to the show and helps us bring in the very highest quality guests and to produce the very highest quality content. Thank you for your support. I've served on a couple ICs at this point. I find that ICs typically fall into one of two camps. One is kind of people pushing their agendas and saying, you said this on this deal. You should be consistent with what you said on this deal. That's one camp. And then the other one is what I would call truth seeking. How do we get to the best answers?

Oh, I said something. Oh, you refined what I said. Thanks so much. I didn't think about it that way. Now we come out with the right answer and a better answer. And I like to think to your spot on. I like to think that the second camp generates better returns, although that's not always true. Your clients participate pretty aggressively into funds in terms of LP composition.

Talk to me about that. Oh, in terms of the concentration? Yeah, concentration. Yeah, we do. And it comes from a few things. One, again, is, you know, back to what we were talking about earlier. You know, if we can get a lot of replication of a great idea across our client base, we'd like to do that. I mean, that's clearly in our interest and our client's interest to do that. So that drives us towards wanting bigger allocations.

And when we try to do that with smaller managers, we're going to have a more concentrated position in that sense. The second thing that I've learned, and this ties into a lot of different aspects of our work, but frankly, at the end of the day, a lot of the stuff we do today is pretty out of favor. And so I just can't sit around all day and wait for other people to agree with us that something's a good idea that we think is a good idea. And so we're like, you know what? We'll tolerate the issues around concentration with two provisos. One being that we have, again, back to what we were talking about earlier, an honest conversation

with the manager about what we perceive as the risks they're taking, accepting us as a concentrated investor entity, i.e. crucial as clients. And two, making sure that whatever we do in terms of our concentration doesn't make it harder to leave if we have to leave later. And it will to some degree, but can we live with that outcome? Can we decide what it's going to cost us if we decide we're wrong about somebody later on to move our capital out? And if we can get satisfied in those points, which tends to rely on manager structure, manager business costs,

manager liquidity of their portfolio, if it's a liquid strategy, we can get there. And so we're okay with the concentration again, mostly because I don't think we have a whole lot of choice. Do you give some kind of rating to your clients on every fund? So is it a zero to 10 rating? Is it buy, hold, sell? I wouldn't call it a rating per se, but it is, I guess, a rating. So we tend to be, we do tend to have three categories, buy, hold, sell. So essentially, and I will clear, sells for us, I mean, sell is, a hold is a sell for us for the most sell. So essentially, and I will clear, sell is a sell for us for the most part. So we don't walk in and say something you hold, you should recommit to their next fund, for example. We might keep a public strategy that's a hold for a little while or for

some time. Sell, we really mean sell. We haven't had this happen. Sell via secondary. Yeah. If we think something's a sell, we think there's a massive problem. And so, yeah, sell and secondary, David, exactly. So we talked about what you call the free lunch in venture capital and other asset classes, spin outs. Talk to me about spin outs. Talk to me about the pros and also the cons. Well, we love spin outs. I know you do too.

And I think that for us, you know, the idea of being able to train and learn from some of the greats out there, because I think that's the other thing is, you know, greatness is still pretty rare. And if you have the opportunity to work at a firm which has great leaders, great mentors, great investors, I mean, I think there's a tremendous amount of value that comes from that. And that gives us a baseline level of strength and experience when someone spins out that we just put a very high price on. And we start off with this person or people probably pretty good at what it comes to a lot of what they do. We can then also on top of that, making them even more exciting for us, probably have a smaller asset base than the firm they've left. And the second thing, and less capital to deploy. And secondly, that hunger and the passion that comes from creating your own thing and doing your own thing. A lot of people in this business are very entrepreneurial, as you know, and when

you give them that opportunity, they run with that ball and they run with it very aggressively and very much to the benefit of everyone associated with them. The combination is powerful. At the same time, it is not an automatic. I mean, you cannot assume that it's going to be great. You should start with, again, some preponderance of it's not being great. And in that case, I think the things that we think about as the warning signs is, first of all, trying to figure out how much the firm that person came from, people came from, what are the things they're not going to replicate that had value? Because there's going to be a lot of that in many cases. And the second thing is, and this is where back to getting, you know,

this whole concept of getting to understand somebody, it's a process of understanding, and it's a process of judgment, of course. So we're sitting there trying to understand what makes somebody tick. We're not just looking for what makes them good, we're looking for what makes them bad and weak. And in that sense, if we get the sense that this new co doesn't have any way to address or isn't even trying to address the weaknesses that are inherent to the people that are starting this company, the spin-out thing doesn't have a lot of value at that point because it probably is going to end up not as good as we'd like it to. What's the earliest you'd go into a spin-out or into a first fund?

Oh, we'll do day one. We'll do day one, assuming we can underwrite the person, their skill as both business people, investors, and in case of venture capital, mentors, inspiration to their founders, and all the things that go into great venture, even other types of strategies. So yeah, we're going really early because we really believe this is about the people. And that combination that you and I were talking about before really means a lot. And if you wait a few funds, it gets diluted. Is there advantages to being early?

Yeah, although I will tell you, and again, this is no disrespect to the people we work with. We work with some great people. But what I tend to find happening is we get there early. We enjoy all those fund one benefits. And then the investor, if they're as good as we think they are, they start to prove it and they attract other investors. And the GP naturally says, hey, love you guys. And you're going to get 20, 25% of the next fund, but not more because we

need to diversify our investor base. And now we can. And so there's no sour grapes around that. So I'm not sure it has that much benefit to us because I think it's completely logical for a GP to want a more diversified investor base. I think that's a completely fair thing for them to want. This has been a fascinating conversation. What would you like our listeners to know about you, about Crucial Partners or anything else you like to shine a light on? Yeah, I just want to shine a light on two things maybe, David. Thank you for this opportunity, by the way, to be with you today. So I'd start with the fact that we just think this is one of those amazing moments in time where we're at this crossroads, where if you really look at what a lot of what's happening out there, it's a very homogenized version of investing is being done on the institutional level. And it's

really interesting. And we've been in this period of long period of dominance for a relatively small number of large US publicly traded companies. And it's creating this, you know, unbelievably, I think very, very high, most of my career that I can recall, maybe the late 90s, level of demand for conformity, like you have to conform. You have to keep up with these benchmarks. You have to keep up with what's happening. And I think the worry that I have is that, and we have here, is that far too much weight is being placed on relative outcomes rather than generating really compelling absolute returns on capital. And so the way we think about this is we call it aspirational investing, by the way, here. And that's based on the idea that meaningful diversification is, in

fact, not dead, and that returns are strengthened when we embrace multidimensional ideas that consider the heterogeneous nature of people and our communities and the impact they have. So our point here is that we're just not right now, we're not at all ever afraid to stand apart from the crowd. And we consider anything that's less to be a betrayal of our client's trust and abandonment of our fiduciary duty. So I just finished personally my 38th year here at Crucial. And it's really interesting because for me, the rewards that normally accompany our approach and our deep commitment to fundamental principles have been few and far between over the last few years. But our team here never stops moving forward. And the resilience and commitment that really matters to our clients inspires me. So this is kind of the best of times, the worst of times, as far as I'm concerned, and with the emphasis on the first part.

How do you avoid being the lure of conformity and consensus thinking? Normally, you don't have to stick your neck out too far, to be clear. So I think you can play it a little safer normally because the punishment and the penalty for conformity isn't always as high as it is today. It will be today. But today, I think, Dave, you have to just decide that you're going to have a thick skin. You have to decide to build a business that's resilient and a business that first and foremost goes back to those kind of principles we've been talking about in this podcast. Let's do the hypothetical. Let's say your benchmark is at 4% per year for the next 10 years, which a lot of people's benchmarks will be, by the way, or lower, and you get 4.5%. Do you do a victory lap for that? Is that great? Is that a great outcome when the world today is delivering up 8% to 9% returns if

you want to take them? But if the only way to get those 8% to 9% is to not conform. And so to us, the clients need 8% to 9%. They don't need 4.5% over 4%. And so we just keep remembering that, and it just drives us and motivates us to keep working to help everyone understand what we're doing, why we're doing it, why this point in time is important from a historical perspective and a prospective return situation. And those things are the things that drive us to, again, to avoid that place I admit to having been before, which is alone and wrong. You've been at Crucial for 38 years. Is that an advantage that's accrued to you over 38 years being short-term, it might've been painful and long-term it's been a

differentiator? I can't even tell you how many times in the last 38 years that short term, I'm like, wow, this is bad. And you know, people are upset with you. And then you suddenly wake up two or three years later, and you've done nothing differently, by the way. I mean, that's the key point. It's not like you had some epiphany and became this remarkably better investor than you were before, and the returns suddenly look amazing. And so I think that's exactly what happens to the experience. So it's also caused me, of course, personally to learn how to reduce stress, running meditation. Absolutely. Well, this has been a fascinating conversation. I know you're in the city, so no excuse. We'll have to grab coffee or drink very soon. Count on it, David.

It's been great to be with you today. Thank you. Thanks for listening to the audio version of this podcast. Come on over to 10xCabot Podcast on YouTube by typing in 10xCabot Podcast into youtube.com and clicking the subscribe button. On the YouTube version of this podcast, you can see the graphs, visuals, and key takeaways that accompany every episode.