🎧🍌 Cendana's Michael Kim on Characteristics of the Top VCs, How Seed Funds Compete vs Multistage Firms, Portfolio Construction Best Practices

204x DPI funds, why high ownership to fund size drives outlier returns, how secondaries are generating most early stage VC returns, the 60x rule, and inside Cendana's early days

Michael Kim started Cendana Capital in 2010 to make investments in very early stage venture funds.

This conversation gets into characteristics of the top performing venture investors, how Cendana does diligence on fund managers, portfolio construction best practices + Michael’s 60x rule, and why a high ownership to fund size ratio drives outlier returns.

We also get into how VCs are using AI, the competition between Seed and multi-stage investors, why US endowments are under siege, and how secondaries are driving most early stage venture returns today.

Michael also opens up about the early days of starting Cendana, the 18 month grind raising Cendana Fund 1, the day he almost died, and ranking in the top 2% globally in Call of Duty.

This was a fun episode to research and record - special shoutout to Roger Ehrenberg, Kevin Hartz, Semil Shah, Jeff Clavier, Elizabeth "Beezer" Clarkson, Jack Altman, Jeff Morris Jr., Sheel Mohnot, Nichole Wischoff, Ted Alling, and Rick Zullo for their help putting this together.

Let me know what you think!

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👉 Stream on Spotify and Apple

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Timestamps to jump in:

• 4:24 The day Michael almost died

• 5:10 Call of Duty & video games

• 9:34 Hiring @ Cendana

• 10:31 How Cendana uses structured and unstructured data

• 16:51 How VCs are using AI

• 19:55 Why secondaries are driving most early stage venture returns

• 22:01 Deciding when to sell secondaries

• 24:28 Best performing venture funds ever

• 27:26 The best VCs have amazing access to the best founders

• 33:42 Why Cendana backs Solo GPs

• 35:57 How to invest over time and hype cycles

• 41:35 Why multi-stage firms are investing earlier

• 44:45 Cendana’s current thesis: High ownership % to fund size

• 45:51 Why Cendana started backing non-lead VCs

• 48:41 How Cendana does diligence on fund managers

• 52:22 VC NPS Scores and Ron Conway’s Silver Bullet

• 53:49 Good vs bad new VC firm strategies

• 56:36 Determining defensibility of a strategy

• 57:57 “Messy middle” software buyout fund

• 1:03:25 Portfolio construction best practice

• 1:08:11 Michael’s 60x Rule

• 1:14:28 How Seed funds compete with multi-stage funds

• 1:20:05 Should you collect logos writing small checks?

• 1:21:07 Becoming an LP for the city of SF

• 1:24:42 Taking 18+ months to raise Cendana Fund 1 in the GFC

• 1:26:48 Warehousing the first Cendana Fund 1 investments

• 1:29:56 How to do a first close

• 1:34:29 Why it’s hard to kill a VC firm

• 1:37:00 What happens to ZIRP tourist fund managers

• 1:40:22 How to raise a Fund 2 or 3 today

• 1:42:07 “US endowments are under siege”

• 1:44:55 What the best GP LP relationships look like

• 1:46:41 What Fund of Funds get wrong

• 1:50:43 The three most interesting trends in venture today

Referenced:

• Cendana Capital

• Check out Deep Checks

• Prior episode with Eric at Bolt

Find Michael on X / Twitter and LinkedIn

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👉 Find on YouTube, Spotify, and Apple

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Transcript - (read on Rev)

Find transcripts of all prior episodes here.

Turner Novak:

Michael, how's it going? Welcome to the show.

Michael Kim:

Thanks. Great to be here.

Turner Novak:

You were telling me right before we started recording that you almost died one time. What happened there?

Michael Kim:

Yeah, it's not like I lead a really risky life, to be honest, but the one time I almost died was literally true. I almost died because my friend and I had gone to see a movie. This was near Lincoln Center in New York City, and I was just engrossed in a conversation with him and we were at a stop at the corner and I kept walking and then my friend grabbed me by the back of my neck and just yanked me. And luckily he's a really big guy. So he actually did yank me. And then a second later, one of those big buses came barreling through. So I don't know if I would've died, but I would've been in serious trouble.

Turner Novak:

Geez. Well, you apparently like really deep conversations. Maybe that's what we're about do hopefully.

Michael Kim:

Well, also I guess the thing is you got to have some situational awareness, right? And I play a lot of Call of Duty. I don't know if people know that, but I play probably an hour a day.

Turner Novak:

Really?

Michael Kim:

And actually at one point I was ranked 200,000 something out of 10 million.

Turner Novak:

In the world?

Michael Kim:

In the world.

Turner Novak:

Okay.

Michael Kim:

And the one thing about Call of Duty, and it's a first person shooter, you don't want to just go barreling into situations. You want to sit down, look around, and then figure out what you want to do. I mean, obviously it's pretty quick so you're not sitting down for five minutes thinking about it. But I think a good life lesson is that you don't just rush into things. And for me, the reason why that's important is because when I first moved to San Francisco, I was a first year associate at Morgan Stanley. I was in the tech M&A, I was in the M&A group in New York City and I was thinking, "Oh, okay, I'm going to just move up the ladder, become a managing director in 10 years, and then maybe join KKR or some private equity firm."

And then there was an opening in the Tech M&A group because this, back then in the 90s, Frank Quattrone had left. So Morgan Stanley was rebuilding their team and they're like, "Michael, why don't you do a three-month rotation?" And I'm like, "Okay." And I did it and it was great. We were on Sand Hill Road. And then they're like, "We want you to stay permanently." And I'm like, "Sure." And I made a very quick decision and that I guess was my gut feel. But it wasn't like I sat down and wrote all the pros and cons. I have a lot of friends in New York. My family is in New York. I just did it. So.

Turner Novak:

You just did it. Oh.

Michael Kim:

As I get older, and my birthday was this Sunday, I just started thinking, "You got to be a little bit more contemplative and not rush into things."

Turner Novak:

Well, happy birthday!

Michael Kim:

Thank you.

Turner Novak:

And actually, crazy story. I was at one point, do you remember the game Gears of War?

Michael Kim:

Yeah, of course.

Turner Novak:

So there's one week that I was ranked second in the world in Gears of War.

Michael Kim:

Oh, awesome.

Turner Novak:

When I was in high school. Well, I don't know if you call that awesome. If you remember how Gears of War worked, you had to play a lot to be ranked high.

Michael Kim:

Yeah.

Turner Novak:

So...

Michael Kim:

And the specific features that you could shoot around corners, right? If I remember.

Turner Novak:

Yeah, it was a third person shooter overhead. So you could... Yeah. You could snipe someone around the corner, one handed.

Michael Kim:

Because the gun was pulled around.

Turner Novak:

It was fun.

Michael Kim:

Yeah.

Turner Novak:

Yeah. And there's a bunch of different ways you could, the whole mechanism of locking in against something. You could slide in and out and you could shoot as you slid or shoot as you were sliding out. That was a fun game. But I haven't played that one in a while.

Michael Kim:

Yeah.

Turner Novak:

And I kind of switched to more Call of Duty, Halo. I actually did a full prestige in Call of Duty once in one day in high school.

Michael Kim:

That's impressive.

Turner Novak:

But very embarrassing. Again, it's one of those things you play for 16 hours in the day.

Michael Kim:

Right. I'm perceived six right now in the new Call of Duty.

Turner Novak:

What's the new one?

Michael Kim:

I don't know what it's called, but it's Call of Duty.

Turner Novak:

Okay. Yeah.

Michael Kim:

The new one.

Turner Novak:

I haven't played in a while. It was midway through high, or through college, I was like, "All right. I got to probably take a career a little bit more seriously than video games." But I've been actually playing a little bit of Minecraft lately with my daughters. So I don't know if you played Minecraft with kids at all.

Michael Kim:

No, but I'll tell you a story. So my son who's 14 now, when he was eight or nine, he got really into Minecraft. And so he was building his own worlds, but he would do the PVP also. And then he decided, "Okay, I'm going to record these." So he started recording them and then he also set up his own server and Discord channel and YouTube channel, learned how to edit his videos, add music to it, and then put it up on his channel.

I mean, it wasn't like thousands of people following him, but he actually got, I was impressed because he was probably by then nine or 10. And the reason why he learned how to do this, because I don't even know how to do any of that, is because he watched YouTube videos. So one thing that we're doing right now is we're hiring some people. And as I think about the type of people we want to hire, it really comes down to obviously intellectual horsepower, but it's also super high agency people, people who don't have to give a lot of direction, they'll figure things out. Right? And so I guess that's a humble brag about my son, but he figured things out. Setting up a server, I don't know how to do that. So that's I think an important life lesson.

Turner Novak:

And then YouTube too. This will be on YouTube.

Michael Kim:

Oh. Why?

Turner Novak:

Some people will be watching this YouTube. So.

Michael Kim:

Cool.

Turner Novak:

Well, so you mentioned you're hiring people. What are you hiring for specifically open roles right now?

Michael Kim:

Yeah, right now we have a team of nine. So for a long time it was just myself. I started Cendana in 2010. And we can talk about the sort of origin story, but I was by myself for four years and then Graham Pingree joined me in 2014. Kelli Fontaine joined me in 2018. And then we started hiring in 2020. So we're up to nine and we're hiring a CFO. We're hiring one or two investment associates. We just hired three, two more data people, because... And we can talk about this, but data is very critical to what we do, how we collect it, and how we use it and actually use it for investing. So I think by within the next 12 months, we'll probably be closer to 15 people. We might bring on another partner. So it's exciting times.

Turner Novak:

Yeah. The thing that you said there that I thought was really interesting was the using data. So you said it's a big part, it's going to be an even bigger part. How have you used it historically? How do you want to use it in the future?

Michael Kim:

Yeah. So let me talk about two critical principles that we've always had since I started this. The first is that we want to be the lead investor. And much like a VC is a lead investor in around or in a company, typically that means you're the biggest check. So in 80% of our portfolio funds, we are the largest investor. But it's also not about the check size, it's how you work with the fund managers. So we're always on Slack, on WhatsApp, we're texting. We want to be the people they call at 11 PM if they have a question about something they're trying to wrestle through. But also structurally, we do a 30-minute monthly call with each one of our fund managers.

There's no agenda. They talk about companies that are doing well. We're actually collecting all that data. So on every call we have a partner, an investment associate who's taking notes, although we've been experimenting with AI solutions, and then a data person who's tagging companies and metrics like revenue growth, et cetera, into our sales force real time. So what that gives us is over a two-year, three-year, multi-year period, we know how companies are tracking.

We know which ones are the value drivers. And so one of the things that we don't talk as much about is we do have a co-investment program where we invest in companies, largely series B, generally all portfolio companies from our fund managers. And it really helps reduce adverse selection. Because if a fund manager came to me and said, "Hey, this company's raising 10 million, there's 2 million available, do you want it?" And then we look at our notes and they've never mentioned it, it's kind of a yellow flag.

Turner Novak:

Yeah. Or a red flag even potentially.

Michael Kim:

Yeah. But also because we have the data at the company level, we have over 5,000 companies, we have every transaction, so share price, number of shares, et cetera, with that, we know we can roll that up and then actually see what the vintage year quartiles are for companies and for funds. And so this is how we use the data. So imagine a fund manager came to us and pitched us and said, "Hey, our 2018 fund is marked at 1.8 TVPI."

We're like, "Okay, that sounds good." But then when we go and look at our data and see what the quartiles were for that, and this is just our own portfolio funds, maybe they're second or third quartile. And then we can drill down even further from there and look at the list of their companies the year that they invested, and then compare that to the quartiles in our own portfolio. And we can actually filter that for geo or sector. So we could do quartiles of a FinTech fund in the East Coast, for example. So it's that level of granularity.

Turner Novak:

Because you might be big into 75% crypto, 75% cyber security, and one specific year was just a bad year for cyber. And so you can say, "Oh, you're actually top decile of cyber investors in that years." That's actually good.

Michael Kim:

Exactly.

Turner Novak:

Interesting. Okay. How do you track that? Do you just have Excel or do you use a program?

Michael Kim:

No, we have our super-duper elaborate Salesforce.

Turner Novak:

It's Salesforce. Okay.

Michael Kim:

And-

Turner Novak:

And you have performance numbers in Salesforce too?

Michael Kim:

Yeah.

Turner Novak:

Interesting.

Michael Kim:

We have everything.

Turner Novak:

I didn't know you can do that.

Michael Kim:

Yeah. So we've automated it so that we can actually issue capital calls through Salesforce. So we just enter what fund it is and what the amount is, push a button and it generates the letters. So what that also means is that we have the cash flows for every portfolio fund. We know exactly when they called and for how much. So that's how we can actually track the metrics also.

Turner Novak:

Interesting. I've never heard of somebody doing analytical data, stuff like that in Salesforce. I guess, I always thought it was-

Michael Kim:

Yeah. I think what we have is pretty cutting edge. And Kelli, my partner is the one who architected it and we're actually evolving it. So the idea is that we're going to go to a data lake, we're using Databricks and we're connecting all our unstructured data. So that's the Slack and email and WhatsApp and our structured data, which is our Salesforce and our Dropbox, which is where all the PDFs are.

And then using, then leveraging an LLM, you can have a front end where you can do natural language query. And that way also, the one thing about Salesforce is that it is really good, because it's super customizable, but the bad thing about it is that you have to enter stuff into it. Right? And that's where you get human error. It's just also a pain in the ass. Whereas if you were able to just tag things and it just dropped into our data lake, it would then be instantly available.

Turner Novak:

Because you could just, there's the PDF that just gets pushed into wherever it needs to go and automatically populates what you would previously be typing in Salesforce.

Michael Kim:

Yeah.

Turner Novak:

Get all the right dates, get the numbers, et cetera.

Michael Kim:

Yeah, exactly.

Turner Novak:

Okay. Interesting. So you-

Michael Kim:

Easier said than done though. We're still working on it.

Turner Novak:

Yeah, it sounds super simple, but I feel like people have been pitching this with AI for 20 years, that you'll be able to do this.

Michael Kim:

No, I know. The other thing is that I think a lot of this stuff is Flintstones. You have the cuckoo clock and or anything that Fred Flintstone was doing, basically a human was doing it even though it looked like it was a modern thing. Like the car, right?

Turner Novak:

You mean running the feet under the car?

Michael Kim:

Yeah.

Turner Novak:

Okay.

Michael Kim:

So the reason why I say this is because we spent a lot of time looking at solutions to do just simple using AI to do data ingestion. Exactly what you were saying. We get a PDF of a fund manager's financials, and then using OCR, you should be able to get that data. Right? And then the solution providers we're talking to, they're saying, "Oh yeah, we're happy to do that, but it's 5,000 per per fund per year." And we have 200 portfolio funds, so that's actually a million dollars. And then so we don't do that. We actually use a BPO in Manila. We have three people there. We're paying them on average 1500 bucks a month, so about 20,000 a year, and they're doing the exact same work.

Turner Novak:

Wow. That's like yeah, 90% or 99% discount.

Michael Kim:

Yeah. So you have the AI hype and then you have the reality.

Turner Novak:

Just the BPO.

Michael Kim:

Yeah.

Turner Novak:

Yeah. Speaking of AI hype or realities, that sounds like interesting applications that you're kind of using it, are you seeing any other funds or anywhere else in venture where they're using AI to run the firm or make better decisions?

Michael Kim:

Yeah. So we have a portfolio fund called Moonfire, and that's based in London.

Turner Novak:

I've heard of him.

Michael Kim:

It's run by this guy, Mattias Ljungman. And he was the co-founder of Atomico. So very seasoned BC. But when he left Atomico to start Moonfire, his thought was, "I'm going to make this a data first fund." And so they actually have more data people than investment team members. So the data is led by this guy Mike Arpaia. And so I'll just give you a sense of this. So they're scraping, people scrape from different sources off the web. Thyre basically using that to source thousands of potential companies. And then they winnow that down and then they go out and meet them. But they also use GPT to generate an outbound email based on the profile and the data they scrape.

So it's a very customized email to that founder. And the reasons why Moonfire's interested in them and maybe highlighting one or two things that they think that company's doing really well. And the conversion rate for those cold emails is really high. And then on the return trip where they're generally, because you're passing on most of these companies ultimately, they will generate a past email articulating all the reasons why. And so I think that cuts down a lot of time. And also I think VCs need to focus a bit more on their SLAs and their MPSs. Right? You don't want to get ghosted. If you get passed, the founders appreciate a fast no. They appreciate reasons why instead of just being ghosted. So I think that helps along in that regard.

Turner Novak:

How do you make sure that it's not shitty AI generated? You know what I mean? I'm sure we've all gotten those emails where it's like, "Hey Michael, I saw that you went to Alabama. My cousin went there. I would love to sell you my SaaS product" or whatever.

Michael Kim:

Yeah, that's a good point. I get those too. And you're just wondering, "Oh my God."

Turner Novak:

Or it'll say first name, like, "Hi, first name, company name."

Michael Kim:

Yeah. The merge didn't work. Yeah. I mean, I get a bunch of those, especially more recently, but I think it's just getting better. Where one of my pet peeves actually is that I get reached, people reach out to me about a fund. They're like, "We've spent all this time researching the space and we think we're perfect for Cendana. We're raising a $500 million oil and gas exploration fund."

Turner Novak:

Oh, yeah.

Michael Kim:

It's like, "Dude." Obviously...

Turner Novak:

You looked at the website, you'd qualify that.

Michael Kim:

Right. I seriously get a lot.

Turner Novak:

That's crazy. I mean, I get those too. It'll be like, "We're raising this..." well, even 30 million round or we're doing some, a buyout or something. And investment bankers that'll email me eight times and I'll just respond, "Please remove you from this mailing list or something like that."

Michael Kim:

Yeah.

Turner Novak:

So one of the big things I wanted to ask you is historically, when you look at a lot of the data, where have the returns come from in venture? What specific companies or strategies? What ultimately drives most of the returns in the industry?

Michael Kim:

Yeah. Obviously historically it was IPOs and really large acquisitions. I'd say in the last five years, it's actually been secondaries.

Turner Novak:

Really.

Michael Kim:

Yeah, and I can talk a bit about that. Last year actually was the second-highest level of distributions we've received. A major part of that was an acquisition of a portfolio company called AuditBoard, and they were acquired by-

Turner Novak:

I've heard of them, yeah.

Michael Kim:

... a PE firm for 3.2 billion. Our fund manager's Mucker, and they owned almost 7% of it. So they got over 220 million, but their fund is only 45. So it was almost a 5X fund returner for them.

Turner Novak:

Just from that one deal.

Michael Kim:

Yeah.

Turner Novak:

Yeah.

Michael Kim:

So that's what we really like to see. Obviously everyone wants big outlier returns. But we also had another fund manager who had a company sold to Cisco for 300 and another company around the same time sold to Zscaler for 150, and he owned 10%, so he got 45 million back. His fund is also 45 million. So he actually returned his entire fund through two basically modest exits. And so what that would suggest is that ownership matters relative to your fund size.

And we can go a lot deeper into that. But I think on the secondary's part, we had another fund manager who had a company that's doing extremely well, over a billion in revenue, 10% EBITDA margin. They sold a portion of that position and actually returned about 1.25X their entire fund. And yet they still own 10% of this company. If you looked at a public market, it would probably be worth five to 6 billion. And again, our fund manager still owns 10% and their fund is only 75 million in size.

Turner Novak:

So they have another potentially seven, eight X sitting there.

Michael Kim:

Yeah, exactly.

Turner Novak:

That they can take. Yeah.

Michael Kim:

Exactly. So-

Turner Novak:

So how do you decide? So it sounds like they probably decided to trim sounds like 20% of the position, 15%. How do you size up a sale like that?

Michael Kim:

Yeah. So our advice to our fund managers always is do not sell your entire position. We've had two examples where they did and they totally regret doing that. One was, it was in Chime, the other was in ServiceTitan. I won't throw the fund managers under the bus by naming them, but I think they sold for good reasons, but they sold their entire position at substantially lower.

So ServiceTitan was sold at basically a $300 million valuation, and I think right now it's six or 7 billion market cap. The other one was Chime and our fund manager sold at a billion and a half, and that was a huge win. I mean, it was a 6X DPI fund, but I think obviously Chime last raised at 25 billion. It's been marked down to about 8 billion or so by most fund managers that have positions in it. But in the secondary markets, it's trading at 10 to 11 billion. So our fund manager missed out on an eight to 10 X additional turn of their fund.

Turner Novak:

Yeah, that's hard.

Michael Kim:

At least.

Turner Novak:

Yeah, that's hard to look back on, but.

Michael Kim:

Yeah. So but to get your point, the question, I think fund managers should contemplate selling part of their value drivers only when they are number one, confident in how the company's doing. Because we would want them to still hold 60 to 80 percent of their position. And if not, then they should sell a lot more, right? If they don't have confidence in the company or they're ahead of skis on valuation by a lot, by unreasonable amounts. But I think it's also important that if you're going to do a transaction like that, that it returns a meaningful part of your fund. So generally the transactions that we've seen have returned anywhere from half to more than the entire fund by just doing a 20, 30 percent secondary.

Turner Novak:

Okay. So the general time you should start thinking about it is if you can return half the fund by selling less than half of the position, maybe a quarter of the position you. That's when you... And then you can maybe tilt it like, "Ah, maybe we should take half it off the table to return the whole fund or however you want to tilt it."

Michael Kim:

Yeah, exactly.

Turner Novak:

Okay, interesting. And then just historically, I know you probably have a couple of these you can rattle off the top of your head, but people might be interested in what are some of the best performing venture funds ever?

Michael Kim:

Yeah, that's a good question. The one that comes to mind is Chris Sacca's first fund, Lowercase One. It was an $8 million fund. And I've seen the financials, the audited financials, it returned 204X DPI.

Turner Novak:

Wow, that's insane.

Michael Kim:

Yeah, it is.

Turner Novak:

That's like an individual best check in a fund for someone.

Michael Kim:

Yeah. Chris had a great nose. He was in Instagram, Twitter, and Uber. And also Stripe, pretty good.

Turner Novak:

Yeah, that's decent. Yeah. Pretty good.

Michael Kim:

But so amongst the mere mortals, the best performing fund that we have in our portfolio is Mucker. I mentioned Marker with regard to AuditBoard. That's not their best fund. Their best fund is their first one and it's 20X DPI. And it's because they own 7% of Honey. And Honey sold to PayPal for cash, $4 billion. So they got 280 million back and their fund is 12 million. Their first fund was 12 million.

Turner Novak:

Oh, wow.

Michael Kim:

And just because people can do math, carry on 280 is 56 million. Right? So the-

Turner Novak:

That's the fund. They return the entire fund in carry to themselves.

Michael Kim:

Yeah. They return almost 5X the font in the form of carry to themselves. It's also life-changing money for Eric and Will, but yet they are amongst the hardest-working GPs that we have. I think that's also an interesting dynamic is that there are people who make enough money or personal wealth that they start leading sort of what I call a rich guy life.

And they're kind of in it for lifestyle, but also want to be relevant. There are others, and I think they just have a different DNA, who just really work hard no matter what. And that's actually what you want to see. And you see that with founders, right? The Collisons for example, at Stripe. So but getting back to that, Mucker is the best-performing fund manager that we have. The second one is Manu Kumar, and we're not in his first fund. Manu runs a fund called K9. And it's a pre-seed fund. In fact-

Turner Novak:

Oh. I've heard of it. Yeah.

Michael Kim:

He's the guy who actually coined the phrase pre-seed.

Turner Novak:

Really?

Michael Kim:

This was 12 years ago.

Turner Novak:

Okay.

Michael Kim:

His first fund is ADX.

Turner Novak:

Isn't he invested in Uber's seed round, right?

Michael Kim:

No, Lyft.

Turner Novak:

Am I remembering that? Oh, Lyft's seed round.

Michael Kim:

Lyft.

Turner Novak:

Okay.

Michael Kim:

Twilio. He's basically the co-founder of Carta. So those were all in his first fund.

Turner Novak:

Wow. That's good.

Michael Kim:

Sadly was before my time. Same with Lowercase One, it was before I started Cendana. Those were both 2008, 2009 funds.

Turner Novak:

And you started Cendana 12 or 10?

Michael Kim:

I formed the management company in February of 2010, and our first fund, the final close was 2012.

Turner Novak:

Yeah. I know it was a journey to get there. We'll talk about it a little bit later.

Michael Kim:

Yeah.

Turner Novak:

Yeah. We're teasing people here. So then you mentioned one of the characteristics, but just generally speaking, what are some of the characteristics when you meet a fund manager or when you just look back historically, what have been some of the characteristics that really stand out of, "This person is going to put up a 10X, 20X legendary performance?

Michael Kim:

Yeah, that's a really good question. So the metric that we, or the vector that we look for is amazing access to phenomenal founders. Right? And so then we really try to assess the credibility of that fund manager to do that. And whether it's their own networks or their operating experience or a combination thereof, the relationships that they have with downstream capital with other co-investors at the seed or pre-seed stage. So what we look for are magnets, and I'll give you an example. So there's a guy named Dita Van Lomen, the Dutch guy living here in San Francisco.

We think of what we have as a collection of networks. Our ecosystem is a collection of network nodes. And we realized a few years ago that we didn't have people in Stripe, from Stripe in our network. So Lockheed Groom is an advisory board member now, but we were looking around for someone who was coming out of that Stripe Mafia. And we met Dita. He was an employee 26 at Stripe. He was the first head of Stripe International. So he opened 27 markets for them. So true operating experience. And then on top of it, he was the co-founder and CEO of Commure, a digital health company Last year, general Callas led around at 6 billion. So he's a unicorn co-founder and serious operating chops. His first fund was 15 million, we anchored it with 3 million. He is someone that founders know and want to work with. A more recent example is Immad Akhund, the CEO and founder of Mercury. We invested with him, again, Immad is like a poster child for YC with the Collisons, with Brian Chesky, and then Immad, Mercury obviously just raised that 3.3 billion from-

Turner Novak:

Incredible product and business. I use it, it's great.

Michael Kim:

Yeah, I use it too. He has that magnet. He's a magnet for founders. And so that's what we're looking for. I'm not saying that every one of our fund managers has that profile, but I think we look for that profile plus an extra step, which is we want to see hustle. And I talked a little bit earlier about agency. We want high agency people, because where the rubber hits the road, and I guess what we're saying is that we want people who aren't just sitting back waiting for emails of companies that are looking to raise. They're out there turning over every rock. They're out there looking at different ways to access founders.

We have this one GP, her name is Casey Caruso, and she runs a fund called Topology. She was a partner at Paradigm, before that she was three years at Bessemer and also at Google. Casey will actually rent rooms in hacker houses and stay there for a few days, get to know all the people there, and then she'll actually compete in the hackathons. And sometimes she actually wins. So she's younger, she's like 31, but she's out there, and she's actually spending time with founders in an authentic way.

Turner Novak:

I've never heard of that strategy before. That's really unique.

Michael Kim:

Yeah. And so nothing against old people.

Turner Novak:

Yeah.

Michael Kim:

I'm 57 now, so I can say this, but if you're sitting around coming out of an established firm and assuming that you have the networks and people are going to come to you, I don't think that's a good strategy. You have to be out there looking for founders. I actually think venture capital is a young person game.

Turner Novak:

Yeah. I'm thinking back of who are some of maybe my favorites, just thinking through who are maybe some of the better emerging managers that maybe are top of mind for people. I'm just thinking through lists and thinking people's faces. They're all relatively young ish. I would say probably in their thirties, maybe there's some people in their twenties.

Michael Kim:

Yeah. I think for a long time, Sandhill Road was sort of an older crowd. And it was just the evolution of technology investing. It all started with the guys coming out of the semiconductor world. And now I think a lot of those firms, the ones that have done very well, like a Sequoia, is always looking for younger people. They roll off both. He'll be a perfect example of how they groomed him up. But there are other firms that are just sort of resting on their halo from the 80s or 90s, and they haven't brought younger people on. Sebastian Mallaby wrote this book called Power Law, and it's a great book. It's easy to read because basically every chapter is about a different VC firm.

Turner Novak:

Oh, really? I didn't realize that. I haven't read it yet.

Michael Kim:

So there's a section on Sequoia and talking about how they groom their younger people to become, have more gravitas, to have more presence in investing. And then he actually uses Kleiner Perkins as the counter example of how they had taken some missteps in the 2000s. So they had brought on older people like Al Gore and Colin Powell, if you remember.

Turner Novak:

I don't really remember this, but that's an interesting strategy.

Michael Kim:

Yeah. But they were actually older. Obviously, gold-plated kind of guys.

Turner Novak:

Yeah. It looks good on paper.

Michael Kim:

But it was not the right strategy, because then they had this girth of the younger VCs that they wanted to mentor and bring up. Now, they've obviously corrected with that and some others, but it really is interesting. And this is a whole discussion about how VC firms establish themselves, and how they maintain their success. And Sequoia obviously is by far the dominant firm.

Turner Novak:

I know we're getting pretty sidetracked here with this conversation, but is there a best way to do that? Or maybe mistakes that you make, is it probably not prioritizing, I don't know, youngness, or you put too much emphasis on the older ish, pedigree ish, that doesn't have as much agency?

Michael Kim:

Yeah. So, we were known because we would back single GPs, solo GPs, when most people wouldn't. And we thought that was a pretty good strategy, especially if they were really good at picking companies.

Turner Novak:

Why is that a good strategy? Because a lot of people still say solo GPs, they don't do that.

Michael Kim:

Actually, it's the fear that... Well, I guess the LP world, they would call it partnership risk. And so it's like-

Turner Novak:

Literally hit by a bus.

Michael Kim:

Well, no, no. So, I was getting at a different point, and I can talk about that as well, but if you have multiple partners, then it can become political decision-making, I support your follow-on if you support mine. So, it's more susceptible to that dynamic, as opposed to just flinty-eyed investing. So, we're okay with the solo GP.

The hit by the bus thing, I don't worry about so much. Because in the LP agreement, the LPA, there are provisions. So, if the fund manager is incapacitated, the LPs can take over, find a new manager, and then manage out the fund. So, there's structural ways to deal with that. The bigger issue about a solo GP is that they fall in love with their companies, and they just keep putting money in, good money after bad. That's the biggest danger. And so the mitigant to that is do they have a good group of advisors around them, sounding boards, including us. And that's worked. But I think with solo GPs, the real question is, how do you spread the offense? How are you finding these amazing founders if it's just yourself? And maybe you have a community. So there's a guy named Julian Shapiro, we backed him. He runs a fund called Julian Capital. He has an amazing community. And so he also is kind of like a founder magnet.

Turner Novak:

He's got Deepchecks right now. Deepchecks.vc is the website. If you're not a part of that, you should definitely check it out.

Michael Kim:

Yeah. So, I think that was a very clever thing. And so it really for us comes down to the question, and it gets back to the first principle I mentioned, which is, does this GP have the credibility to find amazing founders? And how are they going to do that?

Turner Novak:

Yeah. How do you think about investing over time? I mean, it sounds like you've kind of been building Cendana through tail end of the financial crisis, ZERP, Covid, rising rates, SVB, AI hype, there's every new year, every year there's a new once in the lifetime type of event. But just how do you think about managing firm fund and then investing over Time Horizons?

Michael Kim:

Yeah. So, I think the high level element here is that you cannot time technology innovation. And so I think about post the global financial crisis. So Lehman Brothers went bankrupt in September of 2008. The markets were way down, substantially more than they were in the past month. And it was all doom and gloom. Firms like Bear Stearns were going bankrupt. Lehman Brothers went bankrupt.

Turner Novak:

Banks were failing every week.

Michael Kim:

Yeah, it was a terrible time. But that's when Uber, Pinterest and Airbnb started, and it's because those founders were willing to walk through walls to get it done. So, if you are just thinking, okay, in Q1 of 2009, as all these banks are failing, is this a great time to be deploying into a very long duration, because venture takes a long time, should we be deploying capital into an illiquid asset class, let alone a specific company who wants to totally change how things are done, human behavior? Airbnb, you had to convince people that homeowners were willing to open up their house to strangers.

Turner Novak:

Yeah, literally it was called, I think it was Air Bed in Breakfast, and it was literally air mattresses on floor, was the first product.

Michael Kim:

Right. But the key thing here is those founders were willing to walk through walls, and they got it done. So that's just amazing. But my main point here is, you can't time technology innovation. In October of '22, no one was talking about ChatGPT because it launched in November of '22, and that actually changed the whole world. And you can see in the deployment of venture capital from both LPs and the VC firms, it's an explosion of capital.

Turner Novak:

How do you think about balancing that? When there's something that's blowing up like that, like AI, I think I saw a statistic like 70-something percent of all venture dollars were invested in AI. Maybe you should have been doing this two years ago. Are we at the top or the bottom? I don't know. But how do you think about balancing that, whether from a fund perspective, or advice to managers?

Michael Kim:

Yeah. I think our fund managers should have a thesis about what is interesting to them. Ideally, they'll be able to see around corners. So, one of our fund managers is Ali Partovi at Neo. They're the seed investor in Cursor, which is a company called Anysphere. They invested in that a couple of years ago. We have another fund manager, Kevin Novak, who runs a fund called... no relation to you, I don't think?

Turner Novak:

No, I've heard of him before. I actually should probably meet him.

Michael Kim:

Yeah, you should.

Turner Novak:

People say like, "Oh, do you know this guy? You're related?" It's like, "No, I'm not."

Michael Kim:

Yeah.

Turner Novak:

He was like Uber Data or something?

Michael Kim:

Yeah, he was head of data of Uber. So Uber is a software company, basically. And he was overseeing all that data. He actually invented surge pricing. So you have have him to blame. But anyhow, he invested in a company, Codeium, which now is called Windsurf. And last week it was reported that OpenAI was in discussions to acquire them. But again, he invested in that before ChatGPT was launched.

Turner Novak:

Yeah, you can't come rushing out and there's a bunch of these code editors today. I think it makes sense late stage, if they're good businesses, maybe Cursor is good to invest in today, but creating the company, I just don't know if... I think it's hard to balance. Maybe at any point in time a category might be good to invest in broadly, but should you invest it company creation, or more mature at the top, the growth crest?

Michael Kim:

So, on the later stage side, it's pretty clear that someone like Founders Fund is really good at identifying the four to five companies that they want to back the truck into. They just raised 4.6 billion for their growth fund. They were targeting three and a half. The plan is for them, from what I know, or what I hear, is to invest in four or five companies. And then Josh Kushner at Thrive has a pretty large opportunity fund. And his thesis, as far as I know, is to invest into one specific winner per category that he finds interesting. And so it's really a concentration of a large amount of capital into a few companies. And that's great, and more power to them. That's not the sandbox I play in. I focus on very early stage.

And in a way, one way to think about that is that at later stages there are only a handful of companies. And so it's more about picking the right one, and getting access to it, and then deploying the capital.

Turner Novak:

Yeah. Because who wouldn't want to invest in Cursor today? Will they even take your money? Everyone with a fund is trying to, cold email, I'm inviting to events.

Michael Kim:

Right. So it's a question of picking the right company. At the earliest stages, it's infinite. New companies are being formed every day. So you don't have a target list. So, it's not so much picking the right company, it's actually picking the right founder. And so I think that's the critical thing that we want to see from our fund managers. And again, it goes back to, do they have the credibility to attract and work with the best founders? And actually, define them, whether it's in a hacker house room, or... We have another fund manager named Josh Browder. And Josh was a Teal fellow, he's on the selection committee. So here's my thesis. If it's easier and cheaper for companies, small companies to actually get scale, you hear about these companies zero, 10 million in one year.

Turner Novak:

Yea, with two employees or whatever, yeah.

Michael Kim:

Then the critical thing is to be the first check into those companies. Because then it actually skips the A, goes straight to a growth round, or what looks like a growth round.

Turner Novak:

Yeah. You get less dilution, and if the company's doing well, it's faster velocity to making money, basically.

Michael Kim:

That's right. I mean, we have a company, ElevenLabs, they're a rocket ship. They had that growth with very few people. And obviously, Cursor's kind of like that too. But what I would say is that because of that dynamic, the series A funds are wanting to be now the first check. And so while multi-stage firms at the seed stage has always been a thing, our fund managers are telling us, it's turned to 11. It's super competitive now. And so the question then becomes, how do you access these founders?

And I'll tell you a story. One of my friends actually told me that a family that they know, their ninth grader signed with Stanford for baseball. And so, how early do you go? And I was talking to Corey Levy who runs Z Fellows, and I'm like, "Corey, what's the youngest applicant you had?" And he's like 13. And so the question is, okay, you have to go younger and younger, and does that make sense? Neo has been at the forefront of this.

Turner Novak:

They're college students, is their strategy.

Michael Kim:

They'll go talk to the top five CS students at the top 20 CS departments and try to make them Neo-scholars, and kind of bring them under the tent.

Turner Novak:

Is it kind of a scout program/maybe you'll start a company?

Michael Kim:

It's more like that in that they're not assuming that all these kids are going to start a company out of the box, but they're part of the family now, they may be working at OpenAI, and then...

Turner Novak:

Five years later start something, yeah.

Michael Kim:

So the key is, how do you get access to these younger and younger founders, and how do you be that first check? And I think that's where we are right now in venture at the early stages, is finding the founders. And of course, you're going to have high mortality. Not all these companies are going to be Cursor. That's what's actually making right now very interesting, because-

Turner Novak:

Well, so then, question it brings up, is this a question a lot of people wanted me to ask you. What's your current thesis in venture? If I'm investing in funds I guess, or if I'm a manager trying to come up with a strategy, you hit on it a little bit, but what should we do, or what should you do?

Michael Kim:

Yeah. I guess the structural answer would be that if you're raising a fund or have a fund, you should have a portfolio construction that will optimize for modest exits. And of course, everybody wants an outlier exit, multi-billion dollar unicorn exits. But the average exit in venture is under 500 million. So, if you have a fund, would a $500 million exit, what percentage of your fund would that return? And so then obviously that becomes a question of what's your ownership? Did you have any reserves to preserve that ownership level? What's the check size you need to write in order to get that ownership? And then how many companies do you want? And then you just aggregate that up, and that should be your fund size. Mike Maples is absolutely right saying, "Fund size determines strategy."

Turner Novak:

Has that thesis changed at all for you over time?

Michael Kim:

No. Well, there's a nuance, yes. That's a good point. Originally, when I started Cendana, we would say that we wanted to back fund managers who were going to lead their deals. And for us back then a seed round was like maybe 2 million. And so we wanted to see people who had credibility to write a million dollar check. So, when we were diligencing Kirsten Greene's first fund, I called all of the founders she had angel invested and said, "Hey, if Kirsten had a $40 million fund, could you have seen her write a bigger check?" And all of them said, "Absolutely." So that's how we were diligencing the credibility.

And so what we want to see is that you can get the right level of ownership relative to your fund size. So, we actually did an analysis with our data. We compared ownership to fund size, across our portfolio funds. And when we did that, it came out to be about 10% of fund size for seed. So what I mean by that is, if you have an $80 million fund, you should be getting at least 8% ownership, initial ownership.

Turner Novak:

Okay. So it's like 1% ownership for every 10 million in fund size, roughly.

Michael Kim:

Yeah, exactly. Now, obviously it's asymptotic, right? If you have a 200 million seed fund, it's pretty hard to get 20% ownership because there's probably adverse selection, right?

Turner Novak:

Yeah. So there might be, you probably have some fall on reserves, and maybe you're capping your returns a little bit because you're investing in an A or B. But in theory, they're really good. If you have that big of a fund, you're so good that you're still going to get a hundred X on that series A check potentially, and still get a 10 X fund if things go really well.

Michael Kim:

Yeah, exactly. And then by the way, so for pre-seed funds, we also did that analysis, and it comes out to about 20% of fund size. So, if you're a $50 million pre-seed fund, you should be getting about 10% ownership. Now, it's not hard and fast, but when we get all these different pitches, we actually do look at what their fund size is, and what their target ownership is. And that's the first screen that we take.

So what that actually means is that we don't really invest in fund managers that are doing more of the spray and pray, higher velocity kind of thing. I mean, we have this one fund manager who has done extremely well. Their first fund is like 8 X. They have 25 unicorns in it, all at the seed stage. But because they were all small checks and it was a high velocity fund, and there were reasons why we wanted to work with them, it's not a 50 X fund, or a 20 X fund, it's 8 X, which is awesome.

Turner Novak:

Yeah, that's better than 99% of people. Yeah.

Michael Kim:

It's top five percentile for their vintage.

Turner Novak:

That's awesome.

Michael Kim:

They're great. But it was a different strategy.

Turner Novak:

So, when you're meeting somebody and you're doing diligence, what's the general process look like? When you meet someone, you met this person with a certain strategy, what is your kind go-to? What do you look for? What are you referencing, and how do you reference someone?

Michael Kim:

Yeah. We do a lot of off list referencing. We'll talk to people who know them or we would look at their portfolio and see who their co-investors are, and more than likely we know some of them. And so we'll start talking to them. "What do you think of Turner? Has he been helpful?" When we start doing more formal diligence thing, we will actually start calling founders.

Turner Novak:

So that's like a little bit of a second, third step. We don't go right to that.

Michael Kim:

Yeah, exactly. So we first try to get calibrated on whether this is something that we want to spend time on and do a deep dive. And that just requires talking to people. And at the heart of it, it's relationships. And fortunately for us, since we've been around since 2010, we have a number, we know a lot of people in the seed world, and also the multi-stage firms, and we can talk to them. We're very mindful of founder time, so we don't start calling founders until we're relatively serious. Then we'll call all of them. There are times where we've called 30 to 40 founders, talk to each one of them, we document them, we memorialize it, and that's our investment memo.

Turner Novak:

Interesting. Okay.

Michael Kim:

It's part of our investment memo.

Turner Novak:

So, you're looking for basically, this person maybe did some angel checks, they gave you 10 K, 25 K, would you have taken 250, 500, a million, whatever the appropriate amount is.

Michael Kim:

Yeah, exactly.

Turner Novak:

Do they do what they're telling us? They're saying, "Oh, we help with marketing, we help you recruit," did they actually help you with that?

Michael Kim:

Yeah. I mean, at a high level, my standard reference call would be, tell us how you got to know them, how they were during the investment process, and especially, how have they helped you post investment. And there are a lot more questions behind all that. But at a high level, that's what we want to know, because the first part actually gets to access. How did that GP get access to that founder? So that's, again, part of trying to calibrate on the quality of the access that they have. And also to be honest, the hustle. And then during the round, were they just passive and just writing a small check, or were they actively trying to help that founder with introductions to other investors? Or especially if they're the lead investor, et cetera. And then obviously post investment, do they do anything? And are they responsive to emails?

Turner Novak:

The bars always surprises me how low it is. They needed help with something and you just responded, just top 25%, just from responding.

Michael Kim:

Yeah, exactly. I mean, a lot of founders have said that they sent out their monthly or quarterly updates. And most of their investors don't even say good job. These don't respond. And so I think founders, I don't know if they take it personally, but said differently, GPs can be a lot more proactive about that. It takes one second to do.

Turner Novak:

Yeah, you're saying some rocket emojis or whatever.

Michael Kim:

Exactly.

Turner Novak:

And then the founder, the interesting then is the founder remembers they have a hundred investors, whatever, 20 investors, and you're the one or two that respond, they'll remember that you exist. And when they have a friend, or raise, and they're like, "Oh, I love Trenton. He talks to me every month."

Michael Kim:

Yeah, it's the easiest thing. It's like this thing about being nice, it's the easiest thing to do. It doesn't cost you anything.

Turner Novak:

So you mentioned you think that VCs could do a better job increasing their NPS score.

Michael Kim:

Yeah.

Turner Novak:

I guess unpacking that a little bit, well, how do you think someone could do that? Or why are our NPS scores so low?

Michael Kim:

I think partly it's the responsiveness, and it's also sort of that delta between what you promised them, and what you actually delivered. So if you're saying, "Hey, if I'm on your cap table, I can get you intros to all these companies, and customers, or strategic partners, whatever. Then it's crickets, the founder never hears from you.

Turner Novak:

Yeah. You can severely underperform versus you could literally promise nothing and then introduce them to one customer, and then you look great.

Michael Kim:

Yeah. In fact, that's the Ron Conway model.

Turner Novak:

Is it?

Michael Kim:

Ron is a legend, of course, but his promise is that he'll do one thing for each company that he invests in. So it's like the silver bullet. So obviously, then the founder has to think, "How am I going to use that?" But Ron doesn't say, "Hey, we'll engage with you quarterly, daily, monthly." You got one bullet with us.

Turner Novak:

Interesting. Okay.

Michael Kim:

So he's managed expectations, I guess. So that's kind of what it's about. You got to manage expectations with the founders.

Turner Novak:

Yeah, I've heard stories of Ron where it's like he single-handedly negotiated the deal, or a sale, and saved the company kind of a thing multiple times.

Michael Kim:

Yeah, exactly.

Turner Novak:

Yeah. So continuing, I guess, just kind of the general meeting and fund manager, when you meet someone and they maybe have a unique idea, or something, or it's kind a new strategy, how do you discern from good, crazy and unique, versus bad, crazy and unique?

Michael Kim:

That's a tough question, because crazy is good, contrarian thinking is good.

Turner Novak:

But what if somebody is too contrarian? Is there such a thing as trying to reinvent too much?

Michael Kim:

Yeah. And I wonder about, especially around defense investing right now, you just got to think all these young people trying to start next-gen defense companies, it's easier said than done. There's an entrenched process of procurement, all that. And then you have to be able to get up to scale. It's not easy. I guess the bad crazy would be that, again, you're not managing the expectations of your investors, and you're saying that you're going to get into these companies. It would be totally fine if you said that almost all of them could be zeros, which is true. A venture fund can actually go to zero. And there have been examples of that.

Turner Novak:

Literally return $0.

Michael Kim:

Zero. The best known example is Hummer Winblad’s 1999 fund. Literally it was zero TVPI. It's rare, but it can happen.

Turner Novak:

Yeah. Hopefully I've exceeded that bar, I think, on both of my funds. Not close, not by much, but I exceeded that, for sure.

Michael Kim:

Yeah. And I think also, bad crazy would be that you don't have the highest integrity. You don't do what you say you're going to do. You mislead or lie about things.

Turner Novak:

Do you see that a lot?

Michael Kim:

Not often, but there was a fund manager who was saying, "I'm raising this fund. It's going to focus at seed stage." But then you look in their deck and they're talking about the series A investments they want to do, and then we passed. And ultimately, it became more of a series A fund. And so they were clearly trying to get us involved. And they were just basically lying to our face that they're going to be a seed fund. So that's bad crazy.

The good crazies, like I was talking about Casey Crusoe, renting rooms in hacker houses and then competing in the hackathons. That's awesome.

Turner Novak:

Do you think something like that is defensible? I mean, no, I don't know her super well, but I'm just like, sounds like a cool idea, I should go do it. I probably because I'm married with kids. So maybe that's the defensibility vote. But, how do you decide, not just Casey, but just anyone, like you said, this is actually a defensible strategy that you can build a firm around?

Michael Kim:

Yeah, that's right. And so part of that I think goes to the scalability of your time. And obviously, having a large presence on X, because Julian Shapiro does, for example, Nicole Wischoff does, for example, that could be helpful, but it's not the only thing. You got to be able to convert those into something real. And so again, not to sound like a broken record, but it's about access to amazing founders. And so whether they know or hear about you from X, or your online presence, or podcasts, or you're out there every night slumming around at all the different events in Silicon Valley, or New York, or LA, or Boston, you're finding these founders. And that's why people talk about serendipity. You never know who you're going to run into. And it also takes sort of a proactive high agency person to say, "Oh, I don't know if I can help you right now, or invest in you right now, but I know this other person who could be interested." And that's how you build trust, and that's how you foster relationships.

Turner Novak:

What seems like it'd be a good idea for a new fund or new take on venture, but usually isn't?

Michael Kim:

Okay. So, it has nothing to do with seed but right now we've been wrestling with this for over a year. It's something that we call the messy middle.

What we mean by that are companies. Let's just say SaaS companies-

Turner Novak:

Yep.

Michael Kim:

... that are at 10 to 30 million of revenue, but the revenue has slowed down to 10 to 20%, so basically no one on Sand Hill Road will look at it.

Turner Novak:

But it's a company. Like, it's a product. People are paying for it.

Michael Kim:

Yeah.

Turner Novak:

Yeah.

Michael Kim:

And it was venture backed and, you know, "Hey, we have 30 million in ARR but we're growing at 10% now."

Turner Novak:

Yeah.

Michael Kim:

What do you do as a founder? And I think everyone, all VC firms, probably have a few of these in their portfolio.

Turner Novak:

Yeah.

Michael Kim:

And then so what do you do with these messy middles? Do growth equity firms come in and try to buy them? Do you have General Catalyst doing their roll up strategy?

Turner Novak:

Yeah.

Michael Kim:

You have PE firms starting to take a look at this. Could you create a holding company and then start acquiring some of these?

There's a lot of interesting things that could be done. Easier said than not, and the reason why is because that founder of that company still probably thinks they're going to become a unicorn, so if you're going to have some private equity firm or growth equity firm come in and take 50% or 49 or 51% of your company, you have to have a huge shift in mindset. Right? If you're that founder thinking you're going to be a unicorn-

Turner Novak:

Yeah.

Michael Kim:

... you're either tired or you have some self-awareness that your company's not going to go anywhere and that there are alternatives to engineering a successful outcome.

Turner Novak:

And you think it's not a good idea for venture because it's just a totally different product or asset class or motion of how you do your day and how you structure your time and strategy?

Michael Kim:

Yeah. I mean because if you're one of these firms coming in to buy, let's say you bought 51% of a company that's doing 30 million of ARR, growing at 15%. You're going to be putting in your playbook how to reduce costs and increase revenue, and the founder may not like that-

Turner Novak:

Yeah.

Michael Kim:

... and the founder may actually be pushed aside.

Turner Novak:

And that's usually not good for a venture firm when they're known for the ones that kicked out the founder.

Michael Kim:

Exactly. So most VC firms won't do this, but private equity guys, they're a little bit more sharper elbowed perhaps. They're used to it, right? Because they take control of companies and they control the future of the company because they own it. And so could you see where the rubber hits the road and this whole slew of these messy middle $30 million ARR companies, do you ultimately see them being acquired by private equity or growth equity funds?

So that's actually one of the things that we've been thinking through.

Turner Novak:

Where are you at on it now? Are you on a yes or no?

Michael Kim:

Well, I'll give a-

Turner Novak:

Sounds like no because you haven't done it yet.

Michael Kim:

I'll give a shout out to my friend Hans Swildens. He's the founder of Industry Ventures and I meet with him once a quarter. We're competitors in some ways but we're also very good friends, and he was very smart in seeing this and so he actually has a buyout fund. His current buyout fund is 300 million.

The idea is to invest in... You know, basically buy 10 companies of the profile I was talking about, and I thought that-

Turner Novak:

Okay.

Michael Kim:

... was a pretty insightful thing that he came up with five or six years ago.

I'm not saying that we're going to launch a buyout fund, but we've been actively thinking about what do you do with these messy middles? Because it's also in our portfolio.

Turner Novak:

Yeah.

Michael Kim:

Right? Are these going to be zeros or how do you engineer a soft landing for them?

Turner Novak:

Yeah. And I'm assuming there's a lot of cases where maybe that company 10 or 20 ARR, they maybe have raised 30 million bucks, 50 million-

Michael Kim:

Right.

Turner Novak:

... bucks, so you can help engineer like a, "Hey, we'll give you most of the money back. We can buy out the investors."

So if you got your $300 million fund, you're probably investing, after fees, 220, 40 million bucks depending on that first check. You can probably give people... Maybe there's an equity injection; you give people a decent chunk back and-

Michael Kim:

Right.

Turner Novak:

... you can make them happy. It's like, "All right, we got 60% of our capital back on this thing that we didn't really want to deal with-

Michael Kim:

That's right.

Turner Novak:

... anymore."

Michael Kim:

Yeah. Exactly, because no one wants zombie companies in their portfolio.

Turner Novak:

Yeah.

Michael Kim:

It also removes pressure, to some extent, about follow-on capital because if you're an individual GP at a multi-stage firm, you really care about your track record, right?

Turner Novak:

Yeah.

Michael Kim:

And so you may be incentivized to keep the company alive longer than it should be.

Turner Novak:

Yeah. I mean, I feel like everyone has those examples of the company where it's like, technically on paper it's worth 300 million, but it's probably only worth 30-

Michael Kim:

Right.

Turner Novak:

... or 50.

Michael Kim:

Exactly.

Turner Novak:

But it's still technically at that on the books and they haven't raised a round for a couple years, and they probably won't, so it's like, what do you carry?

How do you discern that when you're looking at someone's performance? Like, they come to you and say, "Oh, 2019 fund, we're a 1.8x TVPI." But then you look under the hood and it's like-

Michael Kim:

Yeah, we look at our data and we may have companies that overlap with our fund manager, so we'll actually see where they're carrying it and then we're like, "Okay."

Or we'll just ask them outright, "What's your valuation policy?" And if they just say, "Oh, you know, we just carry it at the last round." But all the last rounds were in 2021, then you know that they're not being straightforward. And again, that's kind of bad, crazy.

Turner Novak:

Yeah, yeah, that's bad, crazy.

So then how do you approach...

We talked about a little bit but how do you think someone should approach portfolio construction? Or what do you like to see?

I know ownership, super important-

Michael Kim:

Right.

Turner Novak:

... but just if I were to ask you: First time fund manager. I've never done this or thought about this before. I want to put my portfolio together. How should I think about it?

Michael Kim:

Yeah, assuming you have the credibility, amazing access, blah, blah, blah.

Let's say you're going to go out and raise a $50 million fund. So then the question is, okay, what's that portfolio construction?

You probably want to have, let's say 25 shots on goal as opposed to 10 or 15.

Turner Novak:

So why is that important? And versus like-

Michael Kim:

For diversification.

Turner Novak:

... a hundred. Why don't I do a hundred if I want to be diversified?

Michael Kim:

Well, because of the ownership.

So, then 50 million, if you're going to have 25 companies, you know, going back to that 10% of fund size thing, you'd want to have at least 5% ownership.

Turner Novak:

Okay.

Michael Kim:

And so let's say the post is 20 on average for the deals you do, so to get 5% you'd invest $1 million, so then 25 companies at a million is 25 million initial checks, and then the remaining could be for follow-on. But generally another evolution of our thought is that we think fund managers... Because we used to think fund managers should have at least half of their capital as follow-on to preserve their ownership, and we've seen it deployed in very wrong ways and we probably should've been more on top of it, so some of it is my fault, but if you're a fund manager and you have good reserves, you don't want to do pro rata in every single follow-on round.

So let's say you have a portfolio of companies, and let's say almost all of them raise their series A. You should modulate how much you do in that series A as pro rata. In some cases you may just want to do a token 100k just to let the founders say, "All my investors are investing."

Turner Novak:

Yeah.

Michael Kim:

But in other cases you should be doing super pro rata.

Turner Novak:

You should put-

Michael Kim:

And-

Turner Novak:

... like, 5x the original check-

Michael Kim:

Exactly.

Turner Novak:

... if that thing's going public.

Michael Kim:

Yeah. So it's to show some judgment about it as opposed-

Turner Novak:

Yeah.

Michael Kim:

... to just programmatically doing it.

But anyway, so, the evolution of our thought is right now we think because of the dynamics we talked about where companies that's really take off, they're off to a growth round after their seed round.

Turner Novak:

Yeah.

Michael Kim:

You want that ownership upfront. So, let's say you'd want, going back to that example of $50 million fund, maybe $40 million is for initial checks and so that would suggest that your initial checks could be higher, right? Like, say $1.5 million, and then you're getting 7.5% ownership. So-

Turner Novak:

Which then is slightly better than the 5%.

Michael Kim:

Which is better. More is better to a certain point, until you get adverse selection.

Turner Novak:

Because then where's the point? So like, concentration is good. What if I say I'm going to write one check and that one check's 100x and I get 100x fund, right?

Michael Kim:

Yeah.

Turner Novak:

So there's obviously a spectrum of like, "All right, would you do five? Could you do 10, 20?"

Michael Kim:

Yeah. I think in general with our fund managers we generally see 25 to 35, maybe 40 companies depending on the fund size, and we also have fund managers who have done-

Turner Novak:

The 25 unicorn person. Yeah.

Michael Kim:

Well, that, but we've also seen fund managers that do 10 to 15, and that, when it works, it really works, but it's actually a higher risk strategy, so we've seen their subsequent funds where they'd have 15 companies actually be the worst performing funds in our portfolio.

Turner Novak:

Is there a general fund size where below or above it you need to lead? So like, let's say 50. If you're above 50, you have to start leading rounds. Is there a certain rule of thumb there?

Michael Kim:

Yeah, our informal line in the sand is about 100 million.

Turner Novak:

So I could tell you I'm doing 80 million fund and not lead, and you think that could actually work?

Michael Kim:

Yeah, because at 80 million you'd want it... Let's just say 10% for ease of math, and-

Turner Novak:

Yeah.

Michael Kim:

... let's say the post-money average is 20, so you'd have to write $2 million checks and so with an $80 million fund, you could do probably 30 companies; that's 60 million initial and then have 20 million in reserves.

If you're writing a $2 million check into a three to $5 million round, you may be leading or you may actually be co-leading. So it's somewhat just the taxonomy.

Turner Novak:

And sometimes you don't even have to be the largest check to lead. Like, I've had people-

Michael Kim:

Exactly.

Turner Novak:

... that would do 3% leading the round. I'm like, "Whoa. I didn't know you could do that!"

I remember the first time I came across it-

Michael Kim:

Yeah.

Turner Novak:

... I was like, "Oh, that's actually kind of interesting."

Michael Kim:

I mean, it helps to have a bigger check into the round, obviously, but it really is the relationship you have with the founder and the role that you play in getting that round to happen.

Turner Novak:

Yeah.

Are there any historical assumptions about portfolio construction that you think we, just as an industry, should maybe revisit or adjust?

Michael Kim:

Yeah. There is, because...

I mentioned that ownership is somewhat asymptotic. Like, if you had a $500 million fund, you're not going to own 50% of a company, right?

Turner Novak:

Yeah, yeah.

Michael Kim:

And so then it becomes a question of what is the right fund size to generate a 3x return? And informally, I have this sort of rule in my mind. You know, it-

Turner Novak:

Is this the 60x rule?

Michael Kim:

Yeah.

Turner Novak:

Yeah, I remember you explained that to me. I actually forget what... I meant to go reread it again.

Michael Kim:

Okay, so let me just explain it.

Turner Novak:

So what is the 60x rule? Yeah.

Michael Kim:

Well, it's just a numerical thing but let's assume that you own 5% of a company at exit. In order for you to get a 3x gross on your fund, just multiply your fund by 60. So let's say you had a $100 million fund and you multiply that by 60, that's 6 billion, so you need 6 billion of exit value because you own 10%, so that's the...

Turner Novak:

Or 5%?

Michael Kim:

No, sorry. Five. Yeah. Right, 5%. So, 5% of 6 billion is the 300 million, and 300 is the 3x gross on your $100 million fund, and so that's the math but the reality is you have to have 6 billion of exit value. That's six unicorns. You know, on average.

Turner Novak:

Yeah.

Michael Kim:

Or one company that returns most of that and probably one or two other unicorns.

Turner Novak:

Yeah.

Michael Kim:

So that rule of 60 really is keyed in on the exit ownership assumption.

We're using 5% there. Let's say you're a larger fund and let's say it's 10% at exit, so then the math would suggest that it's the rule of 30, and so the example there is if you had a billion dollar fund and you own 10% at exit, on average, you would need $30 billion of exit value because 30 billion times 10% ownership is 3 billion. 3 billion is 3x of the $1 billion fund. To have 30 billion of exit value, that's three decacorns.

Turner Novak:

Yeah. Or like-

Michael Kim:

Or one decacorn and 20 unicorns. And again-

Turner Novak:

Yeah.

Michael Kim:

... if you have 25 to 35 companies, that's a hell of a hit rate.

Turner Novak:

And then at that point people think you're God and your fund just gets massive because they think you're the next hot shit, so-

Michael Kim:

Yeah.

Turner Novak:

... it's a tricky thing to navigate.

Michael Kim:

There's a lot of criticism about these platform funds just aggregating all these dollars, and perhaps there's some resentment against the smaller funds because LP dollars are being sucked up by these platform funds but they're offering a different product, basically.

It goes back to my comment about Founders Fund and Thrive. They're on a specific mission to find the four or five best companies and put serious wood behind that arrow. And LPs want that because they can still see a 10x from there as opposed to a $500 million multistage fund that's going to make 30 to 40 investments, and maybe two of them are going to be good.

And then you go back to that math; $500 million fund, multiply that by 30, you need 15 billion of exit value, so that's a... It's five unicorns and a decacorn, and that probably sounds less appealing to an LP than investing in Josh Kushner or Peter Thiel.

Turner Novak:

Yeah. And then the other thing too is time to exit, so like if you're Founders Fund and you're investing later, and like-

Michael Kim:

Yeah.

Turner Novak:

... we might get an IPO on this in three years, and it might only be a 2x-

Michael Kim:

Yeah.

Turner Novak:

... fund but you get a 40% IRR.

Michael Kim:

This is the issue. So, venture is illiquid, obviously. It's a long duration asset. That's how LP's think about it, and you're like, "Okay, I'm going to be in this thing for at least 12 years."

This is the other thing about venture is that traditionally it's a 10 year fund, plus two one year extensions. It actually should be more-

Turner Novak:

It's not even that. I think it-

Michael Kim:

... like a 20 year fund.

Turner Novak:

Yeah.

Michael Kim:

But no one wants to sign up for that. Even if you have a 4x, your net IRR after 20 years is going to be sub 10%.

Turner Novak:

Yeah, I was going to say that's literally 10%; something like that. Yeah.

Michael Kim:

Yeah. So, I think fund managers really have to think about institution LPs who have their asset allocation, and if ultimately a venture capital fund is going to deliver a 2x and a 10% net IRR, small buyout, middle market buyout can generate a 2x with a lot less risk, and in five years as opposed to 20 years, right?

Turner Novak:

Yeah, we're just putting the public markets and it's liquid.

Michael Kim:

Yeah.

Turner Novak:

You can press a button and get it back right away.

Michael Kim:

Put it in S&P 500. Right?

Turner Novak:

Yeah.

Michael Kim:

Historically that's the 12% net IRR.

Turner Novak:

So, is the 3x fund assumption even...

Like, that doesn't sound that good. Shouldn't you try to be shooting for at least five, maybe 10?

Michael Kim:

Yeah.

Turner Novak:

Like-

Michael Kim:

I mean, absolutely. That 3x that I'm talking about is gross, and then so if you apply the carry then it's actually closer to 2.5, 2.6.

Turner Novak:

Yeah.

Michael Kim:

And so 2.6, again, if you're an institutional LP, why are you gunning for 2.6x on a very long duration asset as opposed to investing in small buyout?

Turner Novak:

Yeah.

Michael Kim:

Or in the public markets.

Turner Novak:

So you really should be trying... If you're a venture manager-

Michael Kim:

Yeah. For sure.

Turner Novak:

... you should be shooting for more of the five to 10x.

Michael Kim:

Yes. I mean, we tell our LPs that we will...

We're targeting three to five X net returns to them and fortunately we've been able to deliver that in our older funds because they're more mature, but when we are underwriting a new name, a new relationship, we run a bunch of scenarios on how they can get to a 3x at minimum, but if you had... And we don't use a bunch of unicorn exit assumptions. This is all sub $1 billion exit assumptions, but if you start putting in one or two unicorns, you can see how a fund could easily get to a five to 10x. And the fundamental thing is if they have relatively high ownership and their fund is relatively small.

Turner Novak:

So, I want to ask you about starting Cendana but I have one other non-related question to that.

Michael Kim:

Okay.

Turner Novak:

So, can seed funds compete with these multi-stage funds? We were just talking a little bit about that, because I think there's two arguments to this, and I'm sure we've all heard both of them.

What's your take on it?

Michael Kim:

Yeah, so if you're a founder and you're talking to all the other founders that you know and some of them have gotten these bigger seed rounds from the multi-stage, and then Founders Fund offers you eight on 32 and then all the seed funds were offering four on 16, you probably take the Founders Fund.

Turner Novak:

Yeah.

Michael Kim:

And by the way, that's the same dilution. Right? 20% dilution.

Turner Novak:

But you get twice as much money-

Michael Kim:

Capital.

Turner Novak:

... to work with. Yeah.

Michael Kim:

Which is kind of a conundrum because everyone's talking about how with AI copilots you can actually accomplish more with smaller teams.

Turner Novak:

Yeah.

Michael Kim:

So this is how our fund managers fight that dynamic. They will tell the founders that, "Hey, you're not a call option with us." Because the big, multi-stage firms, they're making a bunch of these investments and you're a call option. If it works out, they'll pile in. If it doesn't, they don't even know your name.

Turner Novak:

Yeah. I mean, we just said Founders Fund had, you said $4.5 billion fund. 40 mill-

Michael Kim:

Yeah. But like-

Turner Novak:

... that's like, 0.1%.

Michael Kim:

But that's their growth fund, but their-

Turner Novak:

Yeah.

Michael Kim:

... main fund is smaller. But, you know-

Turner Novak:

Fair. Yeah.

Michael Kim:

So, our fund managers generally fight this dynamic by saying, "We are going to roll up our sleeves and work with you."

And by the way, if Founders Fund... And I'm not picking on them but... Or like, Andreessen or whomever, if they're interested now because of the capital that they have, they can easily lead your next round, so it's better to keep them interested because the biggest negative signal is if one of these multi-stage firms invest in the seed round and they don't lead your next round. All the other series A funds are like, "Hey." You know.

Turner Novak:

Is there something wrong here?

Michael Kim:

What's wrong?

Turner Novak:

Like, they should have followed-on.

Michael Kim:

What do they know that I don't? And we've actually seen this happen where the founders had a hard time raising because the multi-stage firm that was in their seed was not leading their A.

Turner Novak:

I was going to ask, how do they get there without there being any negative selection? Because if it is actually a really good founder or product team, Founders Fund will just be like-

Michael Kim:

Right.

Turner Novak:

... "We'll give you 10 million. We'll give you 20 million."

Michael Kim:

Yeah.

Turner Novak:

Instead of the eight.

Michael Kim:

Yeah. We have this discussion almost every day because our fund managers, for the most part show great discipline. They are thinking about ownership and their fund size, and then they're like, "Oh, but there's this amazing founder. I've known them for 10 years-

Turner Novak:

Yeah.

Michael Kim:

... and they're going to raise 10 on 40."

Again, 20% dilution, but do we do that? And I'm like, "Well, your fund is too small that you're not going to hit your target ownership."

Generally our advice is to actually participate, especially in the cases where they have super high conviction about the founder-

Turner Novak:

So don't lead, but small check.

Michael Kim:

Yeah. So-

Turner Novak:

Okay.

Michael Kim:

... there are different playbooks around that, but let's say there is a $10 million round at 40 pre; amazing founder that you've known for a long time and you're convinced that this company is going to do really well but you can't get your ownership, but to write a check size, let's say your standard check size is 500k, you would write 500k into that and then maybe you could get your ownership level higher doing uncapped safes or discounted safes along the way.

Turner Novak:

So it's like three months later you're like, "Hey, this is going really well. I love you. I want to give you another 500 grand."

Michael Kim:

Yeah. Or they might come to you and say, "Hey, we're planning to hire two new people and we need a little bit of cushion. What do you think?" And then you could say, "Hey, I'll help fund that. I'll just put an uncapped safe here." Or a safe with a 10% discount, "And help you along." So you can actually build your position.

You know, Roger Ehrenberg was really good at this. He's the founder of IA Ventures. One of their biggest wins is a company called Trade Desk, and Trade Desk, at the time of IPO, he owned 17% of this and it's because actually the company went sideways for a little bit, so he bridged them, but he had the foresight to see it was a bridge, not a pier. So, whenever people-

Turner Novak:

Okay.

Michael Kim:

... are talking about bridges-

Turner Novak:

That's a great description.

Michael Kim:

... we're like, "Hey, is it a bridge or a pier?"

Turner Novak:

Yeah.

Michael Kim:

Like, "What are you actually bridging to?"

Turner Novak:

Okay.

Michael Kim:

And Roger could articulate all the reasons why he thought with just this little bit of extra capital that the company could get to this next level, and he was right.

You know, Founder Collective was also in it. They own 13% at exit, and it's because they also worked with Roger to do that bridge.

So-

Turner Novak:

So-

Michael Kim:

... to answer your question directly, it is a major issue with our fund managers. Do they participate and how do they participate in these rounds that pedigreed founders, the rounds are being led by the multi-stage firms?

Turner Novak:

Yeah.

Can you do these pre-launch, 100 million post rounds? Is there a cut-off of, "That amount is just too high to even participate."?

Michael Kim:

Well, I think it comes down to what do you think you can do in terms of exit? So is it 100x from here? Is it going to be a $10 billion company? Because what it is, said differently, it's opportunity cost. So if you're going to participate in something that's high valuation and you're getting a tiny piece of it, would that capital be better used on five new investments that you could have made at the pre-seed stage?

Turner Novak:

That's an extremely hard question to answer.

Michael Kim:

Yeah, it's extremely hard.

To be honest, we generally err in saying to the GP that they should go ahead and do it if they have high conviction.

Turner Novak:

Yeah. Is there a marketing component to it where someone says, "Oh, shit, you were an early investor in that specific company. I want to work with you for this."?

Have you seen that become a part of it? Or is it really like you're owning part of the company that's going to be extremely valuable and you still get the returns?

Michael Kim:

Yeah, that's a really good question because obviously the cynical way of viewing that is that you're collecting logos, right?

Turner Novak:

Yeah.

Michael Kim:

And so-

Turner Novak:

And some people have that strategy, and it's worked for them to a certain extent.

Michael Kim:

Right. But I think it ultimately comes down to relationships, and if you're a founder, you probably would want to...

So like, you're a founder and then your friend is a founder. They're invested in by tier one VCs. You'd want to know if they actually have been helpful to you, et cetera, and whether it was just that one particular fund that wants to invest in you was just doing it for logo collecting.

Turner Novak:

Yeah.

Michael Kim:

So again, it's about diligence.

Turner Novak:

Yeah, that's fair.

That could be kind of insulting. Like, "This person saw me as a logo to collect." Like-

Michael Kim:

That's-

Turner Novak:

Yeah. Huh.

Okay, so I think I want to talk also about starting Cendana.

Michael Kim:

Oh yeah.

Turner Novak:

So, I don't know if we talked about when you first got exposed to being an LP or if we start this when you-

Michael Kim:

I actually... Yep.

Turner Novak:

... actually...

Michael Kim:

Yeah, so I mentioned that I came out here with Morgan Stanley in the tech M&A group, and then in 2000 there was a family office that wanted to start an alternative investment program, and that was called Rustic Canyon, and it was $500 million.

I was a lowly second-year associate at Morgan Stanley, but they were like, "Hey Michael, you should join this. We'll give you the partner title, et cetera."

There were six of us; two of us here and then four down in Los Angeles, and so that was my first exposure to actually investing in private companies.

Turner Novak:

Because you were doing banking, like M&A-

Michael Kim:

Yeah, we were working with venture-

Turner Novak:

... advisory?

Michael Kim:

... backed companies and VCs, but I had never-

Turner Novak:

Okay.

Michael Kim:

... really made a direct investment in a company.

And so I did that for nine years. It was sort of across the board or across the spectrum in investing. We did a small buyout, we did pipe steals, we did growth equity, we did some early stage venture. But in 2003, Gavin Newsom ran for mayor in San Francisco, and-

Turner Novak:

Wow. I didn't even know that.

Michael Kim:

Yeah. He ran for mayor, and-

Turner Novak:

Oh, he was the mayor for a while, wasn't he?

Michael Kim:

Yeah. Starting in 2004 for eight years.

Turner Novak:

Okay.

Michael Kim:

And I was the co-chair of his finance committee because I knew him.

Turner Novak:

Okay.

Michael Kim:

I knew his sister really well. I knew his dad. His dad actually married my wife and me, so he was the officiant.

Turner Novak:

Oh, amazing.

Michael Kim:

But Gavin's like, "Hey, now that I've won, you're a finance guy; there's this board I want you to join."

It was the San Francisco Employee Retirement System, and that's the public pension fund for the city employees of San Francisco, and so I joined it and that was the first time I was on the LP side of the table.

So, it was a $12 billion pension plan. Today it's probably closer to 40 billion. That's actually-

Turner Novak:

Probably because of you, because of your decisions-

Michael Kim:

No.

Turner Novak:

... right? Back in the day.

Michael Kim:

No, they've done a really good job. They were very early to venture compared to other public pension funds, but-

Turner Novak:

I mean, they had a cheat code. They were right here. Everyone's around them.

Michael Kim:

Yeah, exactly. They started investing in venture in the '90s.

Turner Novak:

Nice.

Michael Kim:

Which is pretty impressive.

Turner Novak:

Hopefully they got some of the good funds in the '90s.

Michael Kim:

Yeah. I think so. And they were also in a lot of the great buyout funds. Like Hellman and Freeman, they were in their first fund. But that was the first time I was on the LP side of the table, thinking about asset allocation, how to evaluate managers, because obviously no one grows up thinking, "I want to raise a fund of funds."

Turner Novak:

Yeah.

Michael Kim:

That's not how...

So I was thinking, "Okay, this is actually really cool."

And the other thing that was going on was venture was changing. So this is going to sound quaint but in the '90s, the first round a company would raise would be for 5 million because they needed to buy Sun Microsystems servers. They had to pay for software licenses.

So, 5 million sounds like it's like the seed round now but-

Turner Novak:

Yeah, and they would sell like 30, 40, 50% of the company, right?

Michael Kim:

50%. So they would-

Turner Novak:

Yeah.

Michael Kim:

... sell...

You know, the typical round was two multi-stage firms would come in, split that, so they'd each take two-and-a-half and they'd own basically 25% of the company each.

That totally changed because of the cloud, so Amazon web services and open source software, you could start a company for an order of magnitude less. You could start a company for 500k, and so that's why in the early 2000s you see firms like Union Square Ventures, True, and Foundry, and then in the mid 2000s, First Round Capital, and so what I saw was... And I'm not the only one who saw it but there are basically people who are called super angels in the late 2000s. Guys like Mike Maples or Jeff Clavier, and they started institutionalizing by taking outside capital and having funds.

That was-

Turner Novak:

But it's still like, angel-ish. Angel-like type of-

Michael Kim:

Yeah.

Turner Novak:

... chats.

Michael Kim:

This is the genesis of seed funds.

And so I'm like, "Okay." My thesis is that small funds outperform, and two, that seed funds would de facto become early stage venture because at the same time, the multistage firms are getting bigger and bigger, so now there was an opportunity cost for a partner at a multistage firm to spend time with a dinky $1 million check, and so that created this greenfield opportunity for seed funds to launch and so I'm like, "Okay, I'm going to start a fund to invest in these seed funds."

Turner Novak:

Yeah.

Michael Kim:

And, you know-

Turner Novak:

So why was that a good idea? Because for someone who might not know this, they'll just say, "Oh, this endowment, just give a million bucks to Jeff Clavier. Do it-

Michael Kim:

Yeah.

Turner Novak:

... for him."

Why were you in the middle there?

Michael Kim:

Yeah. Well, number one, I think a lot of the institutional LPs at the time did not recognize seed as a legitimate thing, so when I was pitching my first fund, it took me over 18 months to raise. 99% of the people I pitched said no.

I've actually had people tell me it was a stupid idea. Other more generally would say, "Is this a fad?"

Turner Novak:

Yeah.

Michael Kim:

You know-

Turner Novak:

So-

Michael Kim:

What-

Turner Novak:

So why?

Michael Kim:

Why did I start it? Or-

Turner Novak:

No, why was it a fad? Or, why was it a stupid idea? Like, what was their-

Michael Kim:

Oh. You know-

Turner Novak:

... thinking?

Michael Kim:

... it's not scalable. All these people are... They were just rich guys who want to take a little bit of outside money and then keep-

Turner Novak:

And coast, and...

Michael Kim:

... their rich guy lifestyle-

Turner Novak:

Yeah.

Michael Kim:

... which totally was not the case. Mike Maples and Jeff Clavier, they hustle.

Anyway... You know. And it was also really bad timing because coming out of the global financial crisis of 2008, people were very focused on liquid strategies. The fund of funds is double layer of fees. And then I was also a solo GP. It was just-

Turner Novak:

Oh yeah.

Michael Kim:

... myself. So-

Turner Novak:

With this new asset class that was emerging-

Michael Kim:

Yeah.

Turner Novak:

... too.

Michael Kim:

Four strikes against me.

Turner Novak:

Yeah.

Michael Kim:

And that's why it was really hard. But I was very, very fortunate that the University of Texas believed in the strategy.

It was Lindel Eakman at the time. He's now at Foundry Next, and he called me one day and said, "Hey Michael, we're committing 60 million to this." And then I had cobbled another 28.

Turner Novak:

Oh wow. So they were like, what is that, 70% of the fund?

Michael Kim:

Yeah, so they're actually in a separate vehicle called Cendana Longhorns, it's a managed account. So they were the sole LP in that vehicle. And then I raised 28 in Cendana One. And that was very difficult, but-

Turner Novak:

I think you convinced a family office, the first one that came in, you warehoused a couple of deals on a fund to fund. I've never actually heard of that on a fund to fund level.

Michael Kim:

This is totally crazy, but the family office I'd never met in person until after the transaction was pretty much done. I pitched, it was a guy named Steven Chang, he was running a family office for a well-known real estate investor, and they were out in the main line in Philadelphia. And Steven was a credit guy, so it's not even his world, venture. So I did four or five calls with him, I convinced him, or at least somewhat persuaded him that this was a good idea. And, again, he's not from that world, he's from the credit world, the real estate world.

Turner Novak:

He's looking to downside and getting his money back.

Michael Kim:

So basically he agreed to warehouse up to 18 million of commitments. And because of that warehouse and I had to give them carry, also they were funding the capital calls, so I was paying pretty high interest, which is what he was interested in to some extent.

Turner Novak:

Okay, that makes sense then.

Michael Kim:

But with that 18 million, our first commitment was to IA Ventures, fund one, which is a 10X DPI fund.

Turner Novak:

Did it look good though at the time?

Michael Kim:

Yeah, Roger's a beast and I just knew he was a special person. We invested in Jeff Clavier's fund, we invested in Kirsten Green's fund. And so that warehouse actually enabled me to make those investments. And one thing that's really helpful for GPs is, again, LPs will want to due diligence, so by making those commitments to those fund managers, other LPs who are looking at Cendana could call them, could call Roger or Kirsten and say, "Hey, what do you think of Michael Kim? What do you think of the Cendana idea?" So what you want to actually do is give proof points or touch points where people can due diligence on you. So the other way I phrase this is that I went from being a PowerPoint to actually something real.

Turner Novak:

Nice.

Michael Kim:

And that's an important dynamic, founders, VCs, it's important for everybody because of one fundamental psychological dynamic, which is fear versus greed. So fear is like if I make a commitment to Michael's fund, am I looking smart or am I looking stupid?

And then if you do a first close or have investments that you can show, then it becomes more like greed because there's scarcity value. Oh, I only have six months to decide on whether I'm going to invest it or not. And that's the same with founders, the typical story is a founder goes out and pitches 20 VC firms and it's crickets, but then they hear, "Oh, Sequoia's leading the deal," and all other 19 firms are trying to pile in, it's the fear to greed. And to be able to control that dynamic in any way and help shape that is critical in any kind of fundraising situation.

Turner Novak:

So what's the right way to approach a first close and flipping from fear to greed?

Michael Kim:

Warehousing investments is one thing because it's touch points.

Turner Novak:

What does that mean? Actually for somebody who's never heard that before, what does warehousing and investment mean?

Michael Kim:

So let's say, Turner, you're raising your first fund, you have some pool of capital because they're interested in investing in you, maybe they can warehouse your first two or three investments.

Turner Novak:

So this might be like an LP that's going to invest in the fund and they volunteer to say, "Hey, we know you're raising 20 million. We'll give you five," and you can use it like a line of credit almost, draw it up. And then when you close the fund or close more capital, you'll buy it back from us, and you'll maybe pay some interest on it or something?

Michael Kim:

Yeah, exactly. That's exactly it.

Turner Novak:

It is that hard to set up? Do most people know how that works?

Michael Kim:

Most people don't know about doing that, I'd say, but it's very helpful. I mean, it was super helpful to us. The risk that pool of capital is taking, that LP is taking on you is that you don't raise your fund, so they're now stuck with it. So they have to have some conviction in your ability to pick amazing companies. But the question of first close, it gets to the point about fear to greed, because once you do your first close, then you have scarcity value, then you've converted yourself from a PowerPoint into a real fund. And so then you can key off of that and say, "Hey, I did this first close. We've made investments. We now have touch points for diligence, and then we're going to spend the next six months, two to three quarters finishing this fundraise." So now you have scarcity value, you have a deadline, and people will either act on it or they're like, "Okay, congrats. Let's stay in touch. We'd love to see your next fund." But at least it's a forcing function.

Turner Novak:

What advice do you have on getting to those quick answers and quick closes? Because just merging other emerging manager friends, they'll be like, "Oh, this LP dragged us along. Never made an answer." What have you seen works best of just getting someone to make a decision and move on, at least from your portfolio funds or in your own experience?

Michael Kim:

I think really just in an earnest, high integrity, honest way to ask the person, "Are you interested? And if so, how can I help you get to a decision point?" I think structurally we're talking about first close and a final close and scarcity value, but it's actually I've had so many people, so many perspective LPs ghost me. It's really annoying, but it happens, I understand, but if you reach out to them and say, "This is real, we would love to have you on board, what are the next steps?" It's really just pushing for next steps.

And there are different tactics. Mark Suster talked about this once in a blog post, if you meet with one of the LPs, then maybe they have another team member and you can suggest, "I'd love to meet your other team members." Actually showing up in person is a real thing. There are very smart institutional LPs who are not necessarily in San Francisco, New York, LA, and Boston. So by visiting them, you're actually showing, number one, hustle, but, number two, you're trying to build that personal relationship. And, again, it's a long game. There are many LPs who have told us no, and then they go to a different firm and then they say yes, because they believe in their strategy, but the overall first firm didn't believe in it.

Turner Novak:

So should you be asking what does your guys' investment process look like? Who makes decisions? What's your capacity this year? How many more funds are you doing this year?

Michael Kim:

Yeah, all that. It's just really getting a sense of who your customer is, right?

Turner Novak:

Yeah.

Michael Kim:

It's standard stuff actually.

Turner Novak:

Yeah, it's like enterprise sales. It's like someone's buying a product from you at the end of the day. It's like what need do you fulfill for them?

Michael Kim:

Yeah, exactly.

Turner Novak:

Thinking through the current environment, what percent of emerging managers do you think are going to survive? I think a lot of people talk about extinction events. What are your latest thoughts on that?

Michael Kim:

I'll give you two stories, or two angles. One, it's hard to kill a venture firm, because, again, it's 10 year plus two one year thing, so it's going to be around for 12 years. The question then becomes does that GP actually want to continue on? If they're having trouble raising their second or third fund, maybe it doesn't make sense. And then the question also becomes is it opportunity cost? Could I be actually doing something else? So we have this one fund manager, it's not throwing him under the bus, but I won't put the spotlight on him, but they're at a very successful seed fund and they're thinking about what does the next fund look like, could we generate meaningful carry off that fund, how long will that take, and if you were to say, "Okay, I can make five million of carry over the next 10 years from that fund," well, you divide that by 10, that's 500K, and they're not paying themselves that much.

So let's say they're paying 150K salary, so 650K all in, then suddenly working at OpenAI and getting paid a lot more is actually pretty reasonable. And so I think GPs are coming to that conclusion. Same with actually the junior partners or the mid-level investors at the multi-stage firms. So using no names, if you're just at a $5 billion VC fund and you're thinking, okay, how is this fund going to generate carry and in what timeframe, and then, oh, by the way, what's my percentage of that carry? Then suddenly you're thinking, okay, I'm actually doing all the work, but I'm ultimately going to get paid maybe two million bucks over the next 10 years from this fund, 200K on top of my salary. Then, again, suddenly it looks a little bit more attractive to either start your own fund or join a tech company or start your own company.

Turner Novak:

Go work at Google and make a million bucks a year. Even some venture funds, the larger ones, or maybe not venture fund, but investment management, asset management firms make high six figures, maybe seven figures a year...

Michael Kim:

Yeah, exactly.

Turner Novak:

You don't have to deal with the risk, fundraising, and all that stuff.

Michael Kim:

That's right. So I think LPs really need to dig into this, how incentivized are actually the people doing the work.

Turner Novak:

So how do you tell? When you meet someone and you tell maybe they're good in all these things and check the box, or you're just like, "I don't think this person actually wants to do it," how do you tell? And you, say, if there's an 18-month period where it gets really hard that they're not going to give up.

Michael Kim:

Yeah, that is a very good question. We have some fund managers whose funds aren't performing as well as they hoped it would be. These are fund ones, their TVPIs are below one, partly because it's still J curve and they haven't had a bunch of markups. But some of those companies, let's say a good amount of them are not going to make it, they're going to be zeros, then fundraising is going to be hard because they don't have any superstars, they don't have anything that they can really point to because it's just too early. And so then the question is, number one, when are they going to raise the next fund? Do they try to slow roll it so that they can actually show progress and delay fundraising?

Let's say they were thinking about every two, two and a half years, maybe it's now three to four years just to see how their portfolio plays out and they're making salary from their management fees so they can do it, but if they deep down know that most of their companies aren't going to make it and that portfolio is not going to look like a pretty stellar one and that fundraising is going to be hard, they might throw in the towel. And I think we're going to start seeing more of that. Partly because in 2021, in the bubble, there are a lot of new funds being formed. It's like tourist fund managers. Everyone talks about tourist founders, oh, my friend raised a round, started a company, I'm going to do that too. We also saw that in the fund world, tourist fund managers like, "Oh, my friend raised $15 million, I'm going to go out and raise $15 million." And back then it was pretty easier to do that.

Turner Novak:

My conversion rate on my fund one in Q1 of 2021 is way higher than it should have been. You have a call with someone, they give you 100 grand, 150 grand was surprisingly easy, especially when you contrast 2020 and 2021 to 2025, massive difference.

Michael Kim:

Massive difference. And it's also because the smaller funds, their LP based were largely high net worths, and people in the tech world, and maybe they aren't doing it as well now, so there's less liquidity to commit to these smaller funds. So I do think that we're going to see quiet resignations of groups who are not going to raise their next funds, and they'll position in a way that, "Hey, I'm joining a16z" or a multistage firm, and that might be the right home for them and they might still be amazing investors, it's just the dynamics in the fundraising market and also the last five years in venture make it very hard. Unless you have a few amazing companies in your portfolio, it might be harder to raise and you might ultimately conclude from an economic perspective that it may not be worth raising the next fund, but rather going to work for an established multistage firm or starting a company or something else.

Turner Novak:

In 2025 right now, raising a fund two or a fund three, what do you think someone needs to have, or would've proven proof points to get either you or just generally the LP community excited about the fund?

Michael Kim:

Well, first and foremost, did you do what you said you were going to do? So let's say you raised a $25 million fund and you said you're going to invest in 25 companies, 500K each, did you actually do that? And then we would look at like, okay, let's look at the companies and we can see how they're performing. Even though it was still early, you can get a sense by triangulating who are your co-investors, if you have follow-on investors, who are they?

Turner Novak:

You can probably look too it, it looks like there might be three companies in here that could return the funds.

Michael Kim:

Yeah, we would do the math and then say, "Okay, this is a plausible path for these guys to actually generate three X." So that's the kind of analysis we would do. And then obviously, as I mentioned before, we would talk to all the founders and say, "Hey, was that fund manager actually helpful to you? Why did you let them on the cap table?" Let's say you had a $25 million first fund and now you're talking about raising 50 million, which is probably the next natural step, 40 to 50. But we've actually had fund managers who had 20 million funds and say, "I'm going to raise 100 million." And we're like, "Dude, that means you're going to have to write one and a half million dollars checks, not your 500K checks." So then we would talk to the founders and say, "If this guy or gal had $100 million fund, would you let them have two million of year round?"

Turner Novak:

And hopefully they come back with yes, hopefully, but probably not always the case.

Michael Kim:

It's not. We've had founders say "No, no way."

Turner Novak:

So then just thinking about broader just LP, what's going on in LP world right now, some of the listeners have probably been aware of this, but there's some of these endowments, like classic venture investors like Yale, Harvard, I think there's a lot of endowments out there that like venture. What is happening right now in their world?

Michael Kim:

Right now, the endowments I think are under siege. There's been a proposed tax on the endowments. If your endowment on a per student basis is above 500K, you might be subjected to, and this is the proposal, 21% tax each year.

Turner Novak:

21% each year?

Michael Kim:

Yeah, it'd be an income tax. So basically I think what that would mean is that endowments would have to think through what their asset allocation is because if they're actually paying tax now, they actually have to have more liquid.

Turner Novak:

You’d need to be 25% liquid at least at a minimum to pay that tax.

Michael Kim:

Yeah. And so I think that's something that every endowment that's under that spotlight or going through right now thinking about it, and universities also have been more active issuing bonds just to have more liquidity. Now, I don't think that endowment tax will happen, actually. If I had to bet you it doesn't happen.

Turner Novak:

Why not?

Michael Kim:

Not at 21%. A few years ago, in the first Trump administration, there was a tax put in, but I think, if I remember, it was like 1.3%. So now there is a tax. The question is because with any tax, it always just gets bigger. What level does it end up 20% versus 10% or 5% is a material difference. So I do think maybe it will go up, but I don't think it'll end up being 21%. So I think endowments are really thinking through how are we going to change our asset allocation in order to have more liquidity? Well, that generally means you're going to have probably more fixed income and less longer duration assets like venture funds. So I think the other part of it is that I think both the PE firms and the venture capital firms are going to be lobbying very, very hard against this tax, because the pool of available capital from institutional LPs for private funds is going to be less in that case.

Turner Novak:

Yeah, you're going to have to find new sources of capital, like high net worth or go overseas, which I know some people have already done that. Luckily though we have a lot of friends in VC, in the administration, hopefully they can do something for us here.

Michael Kim:

Right, I agree.

Turner Novak:

Maybe one of the last questions, what do you think the ideal GP, LP relationship looks like? You have a lot of them. What seems to be the best just way to structure that?

Michael Kim:

Well, no one likes to be micromanaged, so we're very mindful of that. And as I mentioned, we're the largest LP and 80% of our portfolio funds, but we don't unnecessarily ping them. Like I said, we do monthly calls with them and every so often we're texting, we use WhatsApp specifically to text with our fund managers, and we just want to be helpful. So our fund manager might ping us and say, "Hey, one of my companies is going to go out for series A." It's in, let's say, this particular space are there downstream capital investors that you think are the right fit for them? So then we would start engaging. But we're not pinging them how was your day, what'd you do today?

Turner Novak:

Any hot deals come out that we can get into?

Michael Kim:

Yeah, it's not like that. So I think it just comes down to the normal things about any relationship, is there a trust, are you responsive, and do you ultimately provide good advice? And it's that kind of thing. We try to lubricate all of our ecosystems by having events. For example, we'll have a dinner with a multi-stage firm and invite a few of our GPs to it. We're really trying to foster our ecosystem. And if we have a new fund manager and they don't know some of our other fund managers, we'll connect them so that they can go off and meet them on their own. So, again, we're just trying to foster and lubricate the ecosystem. So I think that's appreciated.

Turner Novak:

Is there anything you think fund of funds get wrong or usually make mistakes on?

Michael Kim:

Yeah, absolutely. The number one thing would be just continuing to re-up. And so the traditional VC fund of funds, the knock against them is that they kept re-upping to these multi-stage firms through the two thousands and 2010s, and those firms were over the hill, they were past their prime. And they weren't open enough or didn't have their own portfolio construction where they could add new names. The reason is historically venture funded funds would basically be selling access to a big state pension fund who wanted to check the box off that they had venture, so they worked with a big fund of funds, and the big fund of funds would have these traditional Sand Hill Road names, and the trustees of that state pension fund could say, "Look, that's our venture."

Turner Novak:

That's an incredible pitch to the right LP.

Michael Kim:

Yeah, and there are very large fund of funds in venture, and that's, I think, the core premise of what they're doing. The smarter ones like a Horsley Bridge, which I view as the bluest chip in venture fund of funds, they're a different beasts than us, because their funds are a billion plus, they're in multi-stage firms, they do some seed investing, but they're smart. They add new names. And, again, they write big checks to their existing portfolios. They're not constantly re-upping with every name. So each name is a new underwriting. But historically, venture fund of funds would just continue to re-up with the Sand Hill Road crowd so that they can say to their institutional piece, "Look, this is what our portfolio is. These are hard names to get." When in reality, those weren't the funds that you wanted to be in.

Turner Novak:

So it wasn't even a performance or underwriting, it was just like, "We have access," and that was the pitch. And it's a good pitch for the time, I guess, but maybe not...

Michael Kim:

The other thing that we're very different about than traditional venture fund of funds, aside from our space that we focus on seed and pre-seed is that from the beginning we really wanted our LPs to meet our fund managers. So most venture fund of funds don't allow their LPs to meet with their fund managers, because it's the Achilles heel of a fund of funds, the LP will ultimately invest directly.

Turner Novak:

That'd be terrible.

Michael Kim:

But that's intrinsic. And so because we decided it's intrinsic and because seed was still early in its stages, no pun intended, we actually wanted institutional LPs and RLPs to see what these fund managers were doing. We actually encouraged our RLPs to invest directly into these funds with the value prop being, Hey, Cendana is going to continue to find new managers, and so we're a good sourcing engine, and so we're okay with them investing in some of our portfolio funds, but they still want to work with us because we're finding new ones for them.

Turner Novak:

They almost see you like a seed investor in companies, but in funds. You're constantly finding new one's, bringing them in, and they'll graduate, these guys, they have a billion dollar fund, it's not in the Cendana model anymore, but they have a great pitch for a 4x return. To an endowment and other LPs, they probably see you as a way to deploy more capital downstream and help you vet the managers.

Michael Kim:

Yeah, exactly. And because we're known as very active in the early stage, we also see a bunch of series A spin out firms like Sarah Guo Conviction, Thomas Tunguz Theory, the chemistry guys, we've seen a lot of those and a lot more. And while it's not a fit for us, the ones that we like, and we always take the meeting because obviously it's an ecosystem and our fund managers need to know these new groups because they might be leading their series A, we'll also introduce the higher quality ones to our LPs and say, "Hey, this is an interesting group. You guys ought to talk to them directly."

Turner Novak:

What's the most interesting thing happening in venture right now that you're paying attention to on an ecosystem level?

Michael Kim:

Well, there's a couple of things. One, I think there's an arms race to get earlier and earlier. And so I don't know if VC firms are going to be funding 13-year-olds, but, yep, finding these younger founders in their natural habitat I think is important. Then you also have this whole very large scale investing in the late stage companies, and they're making billion dollar investments into companies, and those companies may not survive. So you might have a complete catastrophe for some firms that bet on the wrong horse. I'm largely thinking of that foundational model companies. So it'll be interesting to see, if you fast-forward that movie 10, 15 years from now, whether it was a disaster or they turned out to be genius pickers.

The other thing I would say really is that messy middle that we were talking about, there is this whole slew of companies that are just stuck there and what do you do with that? And I think there's an opportunity in there. So like I was saying earlier, we've been thinking through that. I'm not sure raising a bio fund is the right answer for us, but you actually see certain VC firms starting holding companies or obviously the general callous roll up strategy, et cetera, I think that's very smart. And it's partly because if you have a portfolio of companies that you've acquired, you can roll out a tech stack and make it a lot more efficient, AI tech stack, et cetera.

Turner Novak:

I think in theory, the companies are acquiring, depending on how tech native they are, some of them might be not very technical. The meme is acquiring accounting firms so maybe you supercharge a tech stack and boost-

Michael Kim:

Actually, on that point, it would be interesting to see how service centered companies can get software margins. And I'll give you an example. So if we get an LPA, a limited partner agreement, and we send it to our law firm, they have an associate read it for five hours and write out all the issues, and they charge by the hour. You would think that with AI you could do that in one minute. And so I think that some service centric firms like law firms should start charging by project. So our law firm would just say, "Hey, Michael, it's $10,000 flat fee," and then it's up to them to get a 90% gross margin on that.

Turner Novak:

And then we'll actually see how that works.

Michael Kim:

For sure. Again, you can never time technology innovation, it's always a great time to be in venture, but it is a long haul, long duration asset, and I think there have been ways where people are generating liquidity, and I think that hopefully will be sufficient, but, ultimately, venture is a power log game, you want big exits, and the fund managers who are going to do best are the ones who own a relatively high amount compared to their fund size.

Turner Novak:

In the best companies?

Michael Kim:

In the best companies.

Turner Novak:

I think that's a good way to end it. I feel like you just succinctly tied everything together at the end, so this was a lot of fun. Thanks for doing it.

Michael Kim:

Yeah, absolutely.

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