Are Family Offices going to eat Institutional LPs’ lunch?
In the era of covid, adaptability is key
My kids (twins) started first grade about two weeks ago. They zoomed into First Grade would perhaps be a more accurate description. Their wonderful public school in the Bay Area is all remote for the time being. And these last two weeks, despite the occasional technical glitch, has shown me the adaptability and resilience of teachers, students and parents. Teachers and administrators, with input from parents and other stakeholders, were given a gargantuan task of reworking how teaching was going to work. They rose to the challenge, ultimately because it was too important not to — necessity is the mother of invention.
Looking at new venture managers may not on the surface seem to have many parallels to teaching. But when you peel it back — both are about investing in the future, a better future. Both involve a bit of gardening, you plant, you tend, you harvest. And any gardener knows you can’t ignore your garden and expect it to flourish. We can’t simply take a year off from teaching our children, just as LPs can not afford to take a year off from scouting for the next new manager that will deliver top decile returns.
It is paramount that endowments, foundations and large institutional limited partners (LPs) evolve and adapt. We recognize that diligence now has an inherent friction which was not there before covid, back when we could easily jump on planes and shake hands. But a portfolio of 100% re-ups, risks not finding the new sources of alpha out there. The known is always easier to fall back on in times of uncertainty; but fortune favors the bold. And right now, “the Bold” well that is undoubtedly family offices.
Family offices are great LPs. They are engaged, they often bring tremendous industry knowledge and connections and they are adaptable. Many have a patriarch or matriarch whose own entrepreneurial achievement has propagated family wealth and entrepreneurial mindset for generations to come. It has been very rewarding to see our Prime Movers Lab LPs directly interact with our portfolio entrepreneurs, introducing board members, helping secure customers, personally co-investing. We tell entrepreneurs that money will be the least valuable thing we offer them; and the same holds true for family offices and high net worth individual LPs.
In engineering there is something called Lehman’s laws of software evolution and specifically “The law of increasing complexity”. It essentially means the more process oriented (complex) you make something the smoother it can run, but the harder it is to change when needed. Institutional LPs’ have great processes for looking at new managers. But at a time like this it can be challenging to alter the status quo. This law postulates that the quality of a software system will decrease unless it is rigorously maintained and adapted.
The mechanism that Darwin proposed for evolution is natural selection. In this case the desirable heritable trait that favors survival is the ability to adapt process. Family offices may just eat Institutional LPs lunch when it comes to finding and securing allocations in the best new managers in this covid era. Once you identify and back a new manager who has demonstrated early success and sustainable differentiation; you virtually secure some form of allocation in perpetuity to their future funds. And almost all VC managers who are considered top decile today reached a tipping point where access was virtually impossible if you weren’t in an earlier fund. Organisms with these heritable traits of process-adaptability get more future access; boxing out those that could not adapt and this is likely to persist and reverberate over generations of funds.
Lindel Eakman; a renowned LP with Foundry Group has written about his own anti-portfolio and misses on new managers.
“The idea of an “anti-portfolio” reflects some of the great investments where you had the opportunity to participate but missed for one reason or another. There are many excuses, as you’ll see below, but the truth is that you completely screwed it up.” — Lindel Eakman
This will undoubtedly be a ‘low birth rate year’ for newer managers. But in many ways this unusual year has been a gift. Fund managers taking on new LPs can get to know them better and the value that they will bring, after all, it is a long term relationship! Newer managers who raise money this year, well… watch out! They are hungrier, scrappier and saw something in the market that others have missed, so did their LPs.
Prime Movers Lab invests in breakthrough scientific startups founded by Prime Movers, the inventors who transform billions of lives. We invest in seed-stage companies reinventing energy, transportation, infrastructure, manufacturing, human augmentation and computing
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