Dry Powder in Venture Capital, VC Ratings, and more with Grady Buchanan and Victor Gutwein | E1895

David Weisburd hosts Grady Buchanan, Victor Gutwein, and Jason Calacanis (00:00:00)

• It has become increasingly difficult to distinguish between venture capital firms, especially for limited partners (LPs) seeking to invest in smaller funds.
• Many general partners (GPs) lack a clear vision for their firm's growth and the industry's future, making it challenging for LPs to make informed investment decisions.
• The expectation is that most of these new venture capital firms will struggle in the near future, leading to a weeding-out process.

VC dry powder levels, cash management by GPs, and investment pace adjustments. (00:01:38)

• Venture capitalists (VCs) have a record $300 billion in unspent capital, leading to concerns about the impact on startups seeking funding.
• Fund of funds managers expect VCs to actively invest rather than conserve cash to justify their management fees.
• Some VCs may return capital to limited partners (LPs) if they have reached the end of their investment term and have significant reserves.
• Market conditions are considered when evaluating investment opportunities for startups.
• The inclusion of inactive firms, first-time funds, and non-performing funds in dry powder statistics creates a false sense of assurance.
• The actual pace of capital deployment is slower than it seems, with many funds experiencing their slowest deployment pace in 2023.
• There is a shift away from "fundraise at all costs" (FOMO) and more comfort with "patient capital."
• Some funds are nearing the end of their investment runway and need to raise new funds soon, creating a sense of urgency.
• Slow and steady capital deployment strategies are preferred, with a focus on data-driven valuations and avoiding overvalued pre-launch companies.
• Secondary sales and helping portfolio companies raise capital become important functions for venture capital firms during market downturns.
• The abundance of available capital led founders and general partners to raise significant amounts of money.
• The market slowdown encourages venture capitalists to deploy capital gradually and focus on great companies.
• LPs primarily assess venture capital funds based on cash-in and cash-out returns, rather than management fees or carry.
• High-performing funds that generate substantial returns, even with management fees, are generally well-received by LPs.
• LPs prioritize performance over other factors such as management fees, personal controversies, or public perception.

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The importance of GP selection for LPs, VC firm ratings, and the impact of relationships in the VC ecosystem (00:14:22)

• When evaluating VC managers, it's important to consider their incentives, deployment of capital, and fees. Newer funds may lack a proven track record, making performance assessment challenging.
• When selecting emerging managers, look for those building a firm, having a differentiator, and a well-networked team.
• VCs like Sequoia, Founders Fund, Union Square, and Elad Gil are highly regarded, while Fred Wilson is known for his impressive DPI.
• VC rankings are based on outcomes, with DPI being a key metric. Reputation is crucial for follow-on investments, indicating expertise and track record.
• Deep pockets and consistent follow-on investments are important considerations for pre-seed funds when selecting GPs.
• VCs should treat the syndicate and early investors fairly to maintain their reputation and ability to syndicate future deals.
• Founders should be aware of potential "blacklisted" VC firms and consider the experiences of other founders when making investment decisions.
• The handoff from seed to Series A is critical, and VCs should ensure access to follow-on funding for their portfolio companies.
• Founders' opinions and experiences significantly shape VC firms' reputations, and venture capital firms often seek feedback from founders to assess investment opportunities.
• Dry powder refers to the unspent capital that venture capital (VC) firms have available to invest.
• The amount of dry powder has increased significantly in recent years, reaching a record high of $290 billion in 2022.
• This increase is due to several factors, including the low interest rate environment, the strong performance of the stock market, and the increasing number of VC firms.
• VC ratings are a way to assess the performance of VC firms.
• There are several different VC rating agencies, each with its own methodology.
• Some of the most well-known VC rating agencies include PitchBook, CB Insights, and The Information.
• VC ratings can be used by entrepreneurs to help them select the right VC firm for their startup.
• The future of venture capital is uncertain.
• Some experts believe that the industry is due for a correction, while others believe that it will continue to grow.
• Regardless of the future of the industry, VC firms will continue to play an important role in funding startups and driving innovation.

Performing due diligence on funds and the persistence of VC Returns (00:29:33)

• Investors should pay attention to the companies and deals that venture capital firms don't do, as well as the founders they couldn't win over, as this information can provide insights into potential issues.
• The venture capital industry is transparent, with information available to make informed decisions, and third-party services can be hired to gather intelligence on competitors.
• Persistence of returns is high in venture capital, and previous performance is indicative of future performance, with 69% of top-quartile performing funds continuing to perform above the median in future funds.
• Founders increasingly seek out venture capital firms they have had positive experiences with, leading to a shift in early-stage investing dynamics.
• Smaller LPs should focus on picking the right venture capital funds to invest in, as they may not have the same level of resources and connections as larger LPs.
• Emerging fund managers should follow the patterns of successful larger funds in terms of team structure and internal operations.
• A strong network and brand can create a flywheel effect, leading to continued success and attracting top founders.
• Programs that deliver value to founders and a robust decision-making process are essential for long-term success.
• VC ratings, such as those provided by the National Venture Capital Association (NVCA), can be a useful tool for investors when making decisions about which VC firms to invest in.

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• Top venture capital (VC) funds formed in 2010-2014 achieved great returns by investing $5 million in startups and then $1 billion in the next round, but now face challenges in maintaining the same level of returns as they need larger exits to achieve similar results.
• Intellectual honesty and a clear strategy are crucial for VCs to stand out in a crowded market where many new managers are emerging.
• VCs should be able to articulate their investment thesis, industry understanding, and future positioning to attract limited partners (LPs).
• Venture capital is not about sins of commission but sins of omission, meaning it's about what you missed.
• Favor smaller funds (around $80 million or less) where you can build relationships and get in on the back half of the portfolio for timing.
• Conviction is critical in venture capital, and it's important to get as far as you can on the conviction side before investing.
• Grady Buchanan and Victor Gutwein discussed dry powder in venture capital and VC ratings.
• Buchanan mentioned that their firm lacked ties to the Midwest and wanted to use their portfolio strategically to cover that region.
• Victor Gutwein's fund caught Buchanan's attention due to his focus on investing in the Midwest and his high-capacity team, despite spending his management fee on conferences.