MALCoSe in The Middle

If you’re a 80s/90s kid then you get this reference I hope - otherwise I’m just old and geeking out. FYI fun fact the first episode aired January 9, 2000…

This is going to be a high level post with tweets and images because there’s a lot of “stuff” happening right now behind the scenes that we all hear about anecdotally but wont come out publicly or in any data/stats for a while.

The tweet image below by the legendary Matt Turck sums up the majority of the tech world right now… Countless startups can’t raise more money and are not profitable (most shouldn’t be) so they are running out of cash (runway) and are pinging every other startup and corp dev big and small for an acquisition (savior). This is generally a normal thing but not in such mass amounts as there are hundreds, if not thousands of startups trying to do this all at once. I’m helping some of my investments with it as well.

The just trying to find a home (usually no one makes any real money), to merger of equals (cash/stock nothing really good but maybe upside) to great outcome (maybe 5-20x which is solid) but nothing HUGE (50-100x+). Obviously the HUGE are the multi-billion dollar M&A or IPOs though even those are difficult like “Salesforce acquires data management firm Own for $1.9B in cash” is amazing but it was last valued at $3.35B in 2021 (ZIRP!) so I assume early investors, employees and founders did well because it covered the pref stack.

So what do you do when there is no M&A or IPOs!? You sell secondaries in good companies generally at a discount - the company is solid but was over valued - to another willing buyer who can wait another few years for liquidity and gets in at a more reasonable valuation.

Cendana is a very successful Fund of Funds - they raise funds to invest in other early stage VC funds - and need the funds they invested in to sell a portion of their ownership in very highly marked up startup investments to provide liquidity for their investors. And in turn they can hopefully raise more, to invest more.

This is a very tricky thing to do - on one hand you need exits/liquidity generally to raise more capital for future funds though by selling early you also lose some upside but kind of secure your next fund. As a smaller emerging manager this is a critical point for many that selling some now will make investors happy, hopefully making it easier to raise your next fund but on the other side, depending on how much you sell, you’re leaving millions in upside for you and your investors. What would you do?

Assumptions:

1. VC Fund Size: $50 million.

2. Investment in the Startup: The VC invested $5 million over a few rounds in the startup.

3. Current Startup Valuation: The startup is now worth $1 billion.

4. Stake Owned by the VC: The VC owns 10% of the startup (equivalent to $100 million in value).

5. Sale of Stake: The VC decides to sell 25% of its 10% stake.

6. Sale Price of the Stake: The VC is selling a 2.5% stake in the startup for $25 million (2.5% of $1 billion).

Impact on the VC’s Fund

• The VC fund size is $50 million, and the sale generates $25 million in realized gains.

• This liquidity event represents 50% of the VC fund's total size ($25 million out of $50 million). So .5 DPI

4. Remaining Stake for Future Upside

• After the sale, the VC still owns 7.5% of the startup.

• The remaining 7.5% stake is valued at $75 million (7.5% of $1 billion) so still 1.5 TVPI for the fund.

• If the startup continues to grow, this remaining stake can appreciate further.

Ideally in a perfect world, the VC would hold until a much larger exit but VC is a long game that revolves around lots of timing, luck and LP relationships. With very few investors/VCs that have returned capital to investors, having DPI and creating liquidity for your investors puts you in a very advantageous position.

Which brings me to my final points that VC is ridiculously hard but when it works, it’s amazing for everyone involved! I remember when we did the expected return calculation in an MBA financial class, it was very close to, if not negative but the 2nd to 3rd sigma top quartile is a huge variance above and the best returner as you can see. It didn’t make sense to most of my class how that actually works 🙂 

But that only happens a few times a year after an average of 8-10years, so you have to be in it to win it and play the long game - don’t confuse a clear view for a short distance. VC tech startups is not a get rich quick scheme; 99% of SPACs have lost money for a reason.

1. Have you experienced one of their acquisitions recently?

2. Are you an emerging manager trying to sell secondaries?

3. Are you a caregiver? peelaways.com

FIND ME: 𝕏 @Trace_Cohen / in LinkedIn