What I’ve Learned: Two Funds and 3.5 Years at Costanoa
As we announced the closing of Costanoa’s second fund, a $135 million fund executing on the same strategy as our debut fund, it felt like a decent time to reflect on what I’ve learned since the beginning of 2012 when I started working full-time on creating and launching Costanoa Venture Capital.
1) Venture capital is venture capital. When I left Sutter Hill Ventures after 13 years to start Costanoa, a big question from Limited Partners was, “How will you operate outside the system of a bigger firm?” Fair point. I’ve found that the business is still pretty much the same. The biggest difference in the beginning was setting an investment strategy and maintaining the high bar for quality without the benefit of an experienced group of partners. Saying no because it’s the right answer (even if you want to yes) requires a ton of discipline. Clearly, there are some additional tasks, such as fundraising (see below), but the value creating parts of the business — finding great entrepreneurs, doing your homework, selling ourselves as a partner, and actually being a great partner — are darn near identical.
2) Entrepreneurs are our customers; Limited Partners (LPs) are (the equivalent of) shareholders. It is tempting for a new venture firm to focus on appealing to their investors and to design the firm for that purpose. PR and big social events, for example, make investors think that somehow, “this time it’s different”1, but venture firms still have reputations more than they have brands. How we work with portfolio companies remains the key ingredient not just in helping build valuable companies, but also in the referral network that helps us see and win the next great opportunity.
3) Focus, focus, focus. The entire venture industry preaches focus to portfolio companies but doesn’t much practice focus itself. In our case, we are focused on business- to- business software (data driven applications and infrastructure) and true early stage rounds. We know who we are, where we fit and why we win. We are well calibrated on the universe of early stage opportunities and have depth in our sectors. We love helping companies bring initial product to market, find product market fit and move quickly through the initial phases of the sales learning curve. We do want typical venture ownership of 20%, which doesn’t fit every investment opportunity, but when it does, companies know they’ll have our attention.
4) As in all things, alignment matters. The kinesthetic chain of a company aligns target market, problem definition, product, and go-to market strategy. An enterprise-focused startup with a full featured product and field-based sales team is very different from a mid-market focused company with an inside sales approach and a product with limited features that is easy to deploy. In a venture firm, the key components of the kinesthetic chain are team structure, fund size, typical investment size (dollars and ownership), engagement model with portfolio, and sector focus. Starting Costanoa has made me think through and articulate our strategy in a completely different way. We’re focused on B2B software and Series A (and Seed) rounds. We typically invest $2–5 million in the initial round and are well reserved afterwards to support companies throughout their lifecycle. That means we’ll make about 15 (core) investments in a fund and roughly five per year at our current scale. We typically join boards and aspire to be the most active and engaged investor, especially during the early phases of a company’s life. As products need market fit, entrepreneurs and their investors need to be a good fit, so it’s important to be clear about what we do.
5) Radical transparency works. The world has changed from a time when venture capital firms sat up on Sand Hill Road and bequeathed capital upon a few companies. Not only are there more sources of capital and competition amongst investors, but the open discussions on blogs and social media platforms mean entrepreneurs know more than ever before about their potential investors. I experienced this early on when we wrote about cloud-based infrastructure (as well as SaaS) and began to see networking and datacenter systems opportunities. We shifted the language to talk about data-driven infrastructure and started seeing companies more in our sweet spot — security, management and the data stack. Similarly, when we published an article on The Missing Slide, we quickly began to see companies incorporating it into their presentations.
Part of the idea of founding Costanoa Venture Capital was to try some new things and thereby change my own learning curve. I’ve learned a lot in the last 3.5 years, including the affirmation of some of the core principles I was taught growing up in the business at Sutter Hill. To our current and future portfolio, I say, “May the next 3.5 years provide as much experimentation, learning and growing together.”
1 According to great investor and philanthropist Sir John Templeton, the four most dangerous words in investing.
Originally published at medium.com on July 9, 2015.