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The death of once high-flying VC funds

They all started with the best of intentions. Formation 8 talked about bringing “smart enterprise” to the corporate world. Social Capital talked about how to “fix capitalism,” and Binary Capital wanted to “affect global behaviour change.” Rothenberg Ventures set out to “work on the biggest problems that change the world.”

Young founding partners debuting change-the-world funds were irresistible for chroniclers of the venture world, who too often had been forced to chat to balding and aging managing directors while hitting the links at resplendent country clubs. Everything was going to change in the venture world, and here was a new guard of progressive-thinking talent that would transform Silicon Valley forever.

Then it all came crashing down.

Social Capital fired nearly its entire remaining staff last week after seeing a mass staff exodus over the past few months. Formation 8 suffered deep acrimony between its founding partners, and its successive funds continue to deal with new challenges, such as a new, unreported lawsuit in California. Binary faced the Caldbeck sexual harassment situation, while Rothenberg imploded with allegations of financial fraud and mismanagement.

Some of the tales are sordid, while others are clearly the result of inexperience and hubris. But together, they weave a narrative for us that shouldn’t surprise anyone: giving hundreds of millions of dollars to neophytes wasn’t perhaps the best plan to build long-lasting funds.

The lessons though are myriad and broad. For founders, receiving investments from same-age peers may have made board meetings more relaxing, but at the cost of experience and oversight. Journalists who sat by while VCs built founding fables about themselves should have done more to pierce these reality distortion fields.

But perhaps most of all, the lessons need to be learned by limited partners. As LPs continue to lower their guard and drop due diligence in the race to get into the next hot fund, perhaps the combination of these stories can serve as a warning against rushing to write a check and being thoughtful about who to partner with in business.

The Valley finds its glamour

Sand Hill Road was the epicenter of venture capital. Its monopoly is increasingly being lost to downtown Palo Alto and SF. (Photo by Steven Damron used under Creative Commons).

It’s almost impossible to imagine today, but venture and the broader startup ecosystem used to be decidedly uncool. In the early 2000s, before the rise of blogs like TechCrunch and the breathless coverage of thousands of tech startups, Silicon Valley startups worked in the relative obscurity of the South Bay — the actual Silicon Valley of lore. A boring suburban hell of sorts, startups attracted the misfits and the communalists, and most definitely the engineers who saw in the internet the future of human society.

Things changed as the global financial crisis struck in 2008. The startup world began to migrate north, to San Francisco. Technology went from a backwater industry to the forefront of global power and commerce. Once the bastion of nerds, the MBAs and other pretty people started pouring in, ready to seek out fortune — the tech that might drive it be damned.

Perhaps most importantly, glamor hit the tech world hard. Conferences like Disrupt and AllThingsD propelled formerly unknown entrepreneurs to the heights of fame. Exec comms became de rigueur for founders, and venture firms equipped themselves with some of the best communications talent they could find.

Yet, while the entrepreneurs were increasingly speaking about “saving the world,” the venture firms were not. Stodgy, venerable, and just plain old (and white and male), the stalwarts of Sand Hill Road (the epitome of a suburban hell street complete with a full-service gas station) struggled to adapt their boring Excel number crunching thinking to this new world.

Their firms – and LPs – noticed, and responded by trying to hire a new crop of partners, operators with the cachet to win over founders and snare the next great deal. Operators had very different mentalities from traditional venture folks, but that was okay in the competition for the next hot startup.

But as any Silicon Valley enthusiast knows, the path to disruption doesn’t lie through evolving incumbents. Instead, it’s about founding startups, or in this case, new venture firms with fresh perspectives that connect with founders looking for a friend on their board rather than competent but mature directors who were older than their grandparents.

The best-laid plans of mice and VCs…

Joe Lonsdale of 8VC. David Paul Morris/Bloomberg via Getty Images

And so we get Joe Lonsdale, a co-founder of Palantir, who left and eventually started Formation 8 at age 30 with Brian Koo age 33, scion of the Koo family of South Korea which owns the LG conglomerate, along with long-time VC investor Jim Kim. They raise $448 million for their first fund in 2013, the largest debut in the history of venture. Lonsdale described the firm’s investing style simply: “First and foremost, we invest in driven entrepreneurs who we believe will change the world.”

We get Jonathan Teo aged 34 and Justin Caldbeck aged 37 (and the oldest of the pack!), two young but reasonably experienced venture capitalists peeling off of their venerable funds (General Catalyst for Teo and Lightspeed and Bain for Caldbeck) to start Binary Capital, which began with a debut fund of $125 million in 2014 and raised another $175 million just two years later. Teo, speaking to a Singaporean magazine, explained that “We are at the centre of the tech ecosystem, and consumer technology is the highest leverage a company has to affect global behaviour change.”

(That same article noted in its intro that “It is not every day that someone buys a Boeing 747 as a gift. But that was exactly what Jonathan Teo did last year, when he gathered a group of Silicon Valley tech titans to purchase a used plane and donated it to Burning Man, an annual experimental art festival held in Black Rock Desert, Nevada.” Burning Man may well be one of the most inter-connected events for all of these folks).

Justin Caldbeck, formerly of Binary Capital. Michael Short/Bloomberg via Getty Images

Chamath Palihapitiya, who spent four years at Facebook early in that company’s history and eventually headed growth, would start Social+Capital Partnership in 2011 and synced up with experienced hands Ted Maidenberg and Mamoon Hamid. Palihapitiya, aged 34 and self-described “Merchant of Progress,” said that he wanted to “fix capitalism.” In an interview with Fast Company’s Ainsley Harris, he said, “But you can fix capitalism. And the reason you can fix capitalism: It is inherently numerical, and as a result, it is inherently objective. It can be done objectively.”

Rothenberg may not have raised the same kind of moolah, debuting with a $5 million seed fund in 2013, but Rothenberg spread his wings far and wide in San Francisco, opening up his apartment and co-working facilities to create a community of entrepreneurs. He loved the press and media attention and outlandish behavior, eventually hosting a now infamous field day at the SF Giants baseball park in SoMa. As he explained during an interview at Stanford, “…we can build and create awesome experiences, people care about that and then we can actually work on the biggest problems that change the world and that’s awesome…”

These four firms flouted venture conventions, and sought out the path-breaking investments that would drive returns. Formation 8 struck a bit of gold with its exit of Oculus to Facebook and RelateIQ to SalesForce. The rebranded Social Capital bought into high-flying startup Slack, and also led the series A into Intercom. Binary invested in young consumer startups like Bellhops and Shoptiques and Havenly according to Pitchbook. Rothenberg invested heavily in VR and also in popular companies like Boosted, Apartment List, and Chubbies, albeit with mostly tiny checks.

These firms were designed to cultivate the next-generation of founders, and on that front, they succeeded. If only that was the sole benchmark for success.

… often go awry

Chamath Palihapitiya of Social Capital. (Photo by Brian Ach/Getty Images for TechCrunch)

Tolstoy begins Anna Karenina with the line that “Happy families are all alike; every unhappy family is unhappy in its own way.”

The same is true of venture firms. Portfolio returns can easily make everyone happy, but when firms blow up, they all blow up in their own, idiosyncratic ways.

Formation 8 was the first of the set to disintegrate. Part of the equation was accusations and a lawsuit against Joe Lonsdale around a sexual assault – allegations that were in the end dismissed. But the challenges internally at the firm far pre-dated those challenges. As William Alden at Buzzfeed chronicled at extreme length, Lonsdale and Brian Koo were at loggerheads over investment strategy, and even the geography of where the Formation 8 offices should be located in the Bay Area. Plus, they had a fight over a Korean restaurant Koo tried to open in Palo Alto. There were also the lurid details of the Hyperloop One imbroglio, where Lonsdale was a board member.

The two ended up separating, with Lonsdale creating 8VC and debuting with a $425 million fund and Koo starting Formation Group with a $357 million fund.

Yet, the troubles continue. A lawsuit – so far unreported – was filed in the United States District Court for Northern California this past June, alleging that Koo and Formation Group and its affiliates committed “fraud, breach of contract, breach of the implied covenant of good faith and fair dealing…“ by failing to pay a partner named Martin Robinson and a principal named Selvam Moorthy. That litigation remains on-going according to district court records, where the parties are due to discuss a motion to move the matter to arbitration.

Lonsdale, for his part, has certainly shied away from the media, and has been in a rebuilding phase, eventually nailing a second fund for 8VC of $640 million earlier this year.

Partner fallout is one version of an unhappy venture firm, but Binary Capital disintegrated due to alleged sexual harassment by Justin Caldbeck from multiple women in Silicon Valley. He would eventually come to be the Silicon Valley poster boy for the MeToo movement, and was sued by a former employee of Binary. The firm’s assets were sold to LHV earlier this year, and it is now essentially a non-entity.

Rothenberg Ventures team

Meanwhile, Rothenberg has been facing tougher challenges. He faced a litany of investigations over his fiduciary responsibilities to his fund, eventually being charged by the SEC last month for fraud. That criminal trial is on-going.

And then we get to Social Capital, whose troubles appear to be more managerial. Palihapitiya’s two early partners, Maidenberg and Hamid, both decamped to other firms. There has now been a complete exodus of partners and staff at the firm, with even more layoffs taking place just in the last few days. The fund is no longer raising outside capital.

Outside of Palihapitiya, the math on who is left remains decidedly unclear. The Information quotes Palihapitiya as saying that “I would rather spend time with the people that are 100% aligned with what I want to do and the person that’s most aligned with what I want to do is me.”

That shouldn’t be a problem when there is no one else in the room.

Lessons for founders, VCs, and LPs

RubberBall Productions via Getty Images

Silicon Valley loves a great story. We love the entrepreneurs who fight like hell to build their companies, who beat the odds against incumbents and competitors. We love the drama of business, of Uber against Lyft and Airbnb against city governments. We want the underdogs to win.

At some point though, we need to evaluate our own narrative fetishes. We need to see through the loud pronouncements, the ambitious quotes, the glossy marketing. Especially in venture capital, where excuses for poor performance are a common trade, we need to resurrect the age-old skill of simply looking at the numbers and evaluating quality. As my VC mentors over the years have consistently said: VC is not an investment business, it is a returns business.

We also need to reevaluate our patience. Startups take twelve years or more to build and exit, but VC firms have a much longer cycle. They are meant to last, because they owe broad obligations to so many other firms through the board seats they hold.

Partner turnover is up at many firms, despite the damage that does to startup governance. Even worse is when a firm disintegrates entirely. We should celebrate the slow and steady on the finance side, and leave the quick growth to the startups.

In a region that reveres the young, we also need to remember that many jobs are ultimately dependent on experience, and venture capital is certainly one of them. VC is its own trade, with learnings and techniques that build up over a lifetime of investing. That doesn’t mean that young people have nothing to offer – far from it. But it does mean that our indexing should not just assume that a 30-something automatically has the capacity to manage a complex front and back office team and invest hundreds of millions of dollars in a few short months.

LPs face the greatest challenges in this area. They are the guardians of their funds, since after all, it’s their money that will be lost. But the timing to get into a hot investor’s hand can be extraordinarily limited, and even asking a question or two could lead them to be cut out of a fund’s subscriptions. LPs need to band together and refuse to concede to these demands. Due diligence doesn’t have to be exhaustive on a debut fund, but it should also not be de minimis. Some coordination here is just absolutely needed to ensure a basic level of integrity.

It’s said that new VCs need to down an F-16 in order to learn the trade. Together, Formation 8 raised $1.39 billion, Social Capital $1.3 billion, Binary $300 million, and Rothenberg $70 million, according to Pitchbook.

That’s a $3 billion education for these partners, and for all of us.

Check Also

TravelPerk grabs $44M to take its pain-free SaaS for business travel global

Only six months ago Barcelona-based TravelPerk bagged a $21M Series B, off the back of strong momentum for a software as a service platform designed to take a Slack-like chunk out of the administrative tedium of arranging and expensing work trips. Today the founders’ smiles are firmly back in place: TravelPerk has announced a $44M Series C to keep stoking growth that’s seen it grow from around 20 customers two years ago to approaching 1,500 now. The business itself was only founded at the start of 2015. Investors in the new round include Sweden’s Kinnevik; Russian billionaire and DST Global founder Yuri Milner, and Tom Stafford, also of DST. Prior investors include the likes of Target Global, Felix Capital, Spark Capital, Sunstone, LocalGlobe and Amplo. Commenting on the Series C in a statement, Kinnevik’s Chris Bischoff, said: “We are excited to invest in TravelPerk, a company that fits perfectly into our investment thesis of using technology to offer customers more and much better choice. Booking corporate travel is unnecessarily time-consuming, expensive and burdensome compared to leisure travel. Avi and team have capitalised on this opportunity to build the leading European challenger by focusing on a product-led solution, and we look forward to supporting their future growth.” TravelPerk’s total funding to date now stands at almost $75M. It’s not disclosing the valuation that its latest clutch of investors are stamping on its business but, with a bit of a chuckle, co-founder and CEO Avi Meir dubs it “very high”. Gunning for growth — to West and East TravelPerk contends that a $1.3tr market is ripe for disruption because legacy business travel booking platforms are both lacking in options and roundly hated for being slow and horrible to use. (Hi Concur!) Helping business save time and money using a slick, consumer-style trip booking platform that both packs in options and makes business travellers feel good about the booking process (i.e. rather than valueless cogs in a soul-destroying corporate ROI machine) is the general idea — an idea that’s seemingly catching on fast. And not just with the usual suspect, early adopter, startup dog food gobblers but pushing into the smaller end of the enterprise market too. “We kind of stumbled on the realization that our platform works for bigger companies than we thought initially,” says Meir. “So the users used to be small, fast-growing tech companies, like GetYourGuide, Outfittery, TypeForm etc… They’re early adopters, they’re tech companies, they have no fear of trying out tech — even for such a mission critical aspect of their business… But then we got pulled into bigger companies. We recently signed FarFetch for example.” Other smaller sized enterprises that have signed up include the likes of Adyen, B&W, Uber and Aesop. Companies small and big are, seemingly, united in their hatred of legacy travel booking platforms. And feeling encouraged to check out TravelPerk’s alternative thanks to the SaaS being free to use and free from the usual contract lock ins. TravelPerk’s freemium business model is based on taking affiliate commissions on bookings. While, down the road, it also has its eye on generating a data-based revenue stream via paid-tier trip analytics. Currently it reports booking revenues growing at 700% year on year. And Meir previously told us it’s on course to do $100M GMV this year — which he confirms continues to be the case. It also says it’s on track to complete bookings for one million travellers by next year. And claims to be the fastest growing software as a service company in Europe, a region which remains its core market focus — though the new funding will be put towards market expansion. And there is at least the possibility, according to Meir, that TravelPerk could actively expand outside Europe within the next 12 months. “We definitely are looking at expansion outside of Europe as well. I don’t know yet if it’s going to be first US — West or East — because there are opportunities in both directions,” he tells TechCrunch. “And we have customers; one of our largest customers is in Singapore. And we do have a growing amount of customers out of the US.” Doubling down on growth within Europe is certainly on the slate, though, with a chunk of the Series C going to establish a number of new offices across the region. Having more local bases to better serve customers is the idea. Meir notes that, perhaps unusually for a startup, TravelPerk has not outsourced customer support — but kept customer service in house to try to maintain quality. (Which, in Europe, means having staff who can speak the local language.) He also quips about the need for a travel business to serve up “human intelligence” — i.e. by using tech tools to slickly connect on-the-road customers with actual people who can quickly and smartly grapple with and solve problems; vs an automated AI response which is — let’s face it — probably the last thing any time-strapped business traveller wants when trying to get orientated fast and/or solve a snafu away from home. “I wouldn’t use [human intelligence] for everything but definitely if people are on the road, and they need assistance, and they need to make changes, and you need to understand what they said…” argues Meir, going on to say ‘HI’ has been his response when investors asked why TravelPerk’s pitch deck doesn’t include the almost-impossible-to-avoid tech buzzword: “AI”. “I think we are probably the only startup in the world right now that doesn’t have AI in the pitch deck somewhere,” he adds. “One of the investors asked about it and I said ‘well we have HI; it’s better’… We have human intelligence. Just people, and they’re smart.” Also on the cards (it therefore follows): More hiring (the team is at ~150 now and Meir says he expects it to push close to 300 within 18 months); as well as continued investment on the product front, including in the mobile app which was a late addition, only arriving this year. The TravelPerk mobile app offers handy stuff like a one-stop travel itinerary, flight updates and a chat channel for support. But the desktop web app and core platform were the team’s first focus, with Meir arguing the desktop platform is the natural place for businesses to book trips. This makes its mobile app more a companion piece — to “how you travel” — housing helpful additions for business travellers, as nice-to-have extras. “That’s what our app does really well,” he adds. “So we’re unusually contrarian and didn’t have a mobile app until this year… It was a pretty crazy bet but we really wanted to have a great web app experience.” Much of TravelPerk’s early energy has clearly gone into delivering on the core product via nailing down the necessary partnerships and integrations to be able to offer such a large inventory — and thus deliver expanded utility vs legacy rivals. As well as offering a clean-looking, consumer-style interface intended to do for business travel booking feels what Slack has done for work chat, the platform boasts a larger inventory than traditional players in the space, according to Meir — by plugging into major consumer providers such as Booking.com and Expedia. The inventory also includes Airbnb accommodation (not just traditional hotels). While other partners on the flight side include include Kayak and Skyscanner. “We have not the largest bookable inventory in the world,” he claims. “We’re way larger than old school competitors… We went through this licensing process which is almost as difficult as getting a banking license… which give us the right to sell you the same product as travel agencies… Nobody in the world can sell you Kayak’s flights directly from their platform — so we have a way to do that.” TravelPerk also recently plugged trains into its directly bookable options. This mode of transport is an important component of the European business travel market where rail infrastructure is dense, highly developed and often very high speed. (Which means it can be both the most convenient and environmentally friendly travel option to use.) “Trains are pretty complex technically so we found a great partner,” notes Meir on that, listing major train companies including in Germany, Spain and Italy as among those it’s now able to offer direct bookings for via its platform. On the product side, the team is also working on integrating travel and expenses management into the platform — to serve its growing numbers of (small) enterprise customers who need more than just a slick trip booking tool. Meir says getting pulled to these bigger accounts is steering its European expansion — with part of the Series C going to fund a clutch of new offices around the region near where some of its bigger customers are based. Beginning in London, with Berlin, Amsterdam and Paris slated to follow soon. Picking investors for the long haul What does the team attribute TravelPerk’s momentum to generally? It comes back to the pain, says Meir. Business travellers are being forced to “tolerate” horrible legacy systems. “So I think the pain-point is so visible and so clear [it sells itself],” he argues, also pointing out this is true for investors (which can’t have hurt TravelPerk’s funding pitch). “In general we just built a great product and a great service, and we focused on this consumer angle — which is something that really connects well with what people want in this day and age,” he adds. “People want to use something that feels like Slack.” For the Series C, Meir says TravelPerk was looking for investors who would be comfortable supporting the business for the long haul, rather than pushing for a quick sale. So they are now articulating the possibility of a future IPO. And while he says TravelPerk hadn’t known much about Swedish investment firm Kinnevik prior to the Series C, Meir says he came away impressed with its focus on “global growth and ambition”, and the “deep pockets and the patience that comes with it”. “We really aligned on this should be a global play, rather than a European play,” he adds. “We really connected on this should be a very, big independent business that goes to the path of IPO rather than a quick exit to one of the big players. “So with them we buy patience, and also the condition, when offers do come onto the table, to say no to them.” Given it’s been just a short six months between the Series B and C, is TravelPerk planning to raise again in the next 12 months? “We’re never fundraising and we’re always fundraising I guess,” Meir responds on that. “We don’t need to fundraise for the next three years or so, so it will not come out of need, hopefully, unless something really unusual is happening, but it will come more out of opportunity and if it presented a way to grow even faster. “I think the key here is how fast we grow. And how good a product we certify — and if we have an opportunity to make it even faster or better then we’ll go for it. But it’s not something that we’re actively doing it… So to all investors reading this piece don’t call me!” he adds, most likely inviting a tsunami of fresh investor pitches. Discussing the challenges of building a business that’s so fast growing it’s also changing incredibly rapidly, Meir says nothing is how he imagined it would be — including fondly thinking it would be easier the bigger and better resourced the business got. But he says there’s an upside too. “The challenges are just much, much bigger on this scale,” he says. “Numbers are bigger, you have more people around the table… I would say it’s very, very difficult and challenging but also extremely fun. “So now when we release a feature it goes immediately into the hands of hundreds of thousands of travellers that use it every month. And when you fundraise… it’s much more fun because you have more leverage. “It’s also fun because — and I don’t want to position myself as the cynical guy — the reality is that most startups don’t cure cancer, right. So we’re not saving the world… but in our little niche of business travel, which is still like $1.3tr per year, we are definitely making a dent. “So, yes, it’s more challenging and difficult as your grow, and the problems become much bigger, but you can also deliver the feedback to more people.”

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