Welcome back to Inside the Mind of an NYC VC, a new series at AlleyWatch in which we speak with New York City-based Venture Capitalists. In the hot seat this time is Jeff Parkinson, Managing Partner at KEC Ventures, an early stage venture firm with a focus on the New York and Los Angeles tech ecosystems but investing globally. The fund is investing out of its second fund ($65M). Jeff stopped by to talk about his investment banking and private equity roots, his transition into venture, what KEC looks for in founders, the KEC philosophy, the investing landscape, and much, much more.
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Jeff Parkinson, KEC Ventures
Bart Clareman, AlleyWatch: Tell us about your journey into the venture business and how you came to co-found KEC Ventures?
Jeff Parkinson, KEC Ventures: Like most, my journey was not planned.
I started my career in traditional investment banking. I was in TMT [technology, media and telecom] with Citigroup, Capital Markets at ABN Amro, and then was at a distressed to own private equity firm in Chicago. I had paid very little attention to startups until call it ‘06/’07, when my roommate, who was a consultant and a guy I’d grown up with, was starting to play around with a business idea.
We were walking one day and I remember him saying, “there are all these cars sitting on the streets of Chicago, not being used, merely taking up space. Wouldn’t it be great if somebody else could use those cars while they’re sitting idly?” He started to work on the idea in his spare time and ultimately went on to found and start building the business while in business school. That company was Relay Rides which was rebranded to Turo and has now raised close to $200m.
From that, I started to explore the Chicago startup scene , which was barely existent and certainly not media fodder. You had the guys starting Groupon and maybe a few others. I was instantly captivated by it and found it to be far more interesting than anything I had worked on to that point.
Just as I was exploring opportunities in the startup ecosystem, ’07 happened. The world started to collapse and it was clear to me that it was going to be a long and painful ride. So I ducked out to go back to business school for two years; ’05 and ’06 had been good years, so I could take a little bit of time to figure out what was next, dressed up in the beauty of going back to school full time.
When I was coming out of business school I met a guy named Jeff Citron, who was a serial entrepreneur. He was the Founder of, Vonage, Datek Online and Island ECN, which were all substantial exits.
He had stepped down from Vonage in ’08 after taking it public in ’06. He was getting pretty bored of being on the beach; he had a family office, but it was making mostly passive investments at the time and he was looking to do more active investing. After spending a lot of time with both he and Brian [Laung Aoaeh], who was working with Jeff at the time and is one of my Partners at KEC, we determined it was a good match of personalities and skillsets and I joined them to help formalize a fund.
This was the end of 2010. Our observation was that the New York ecosystem had a decent amount of money being invested into seed-stage companies, but very little of it was coming from professional/institutional funds. First Round was here and a few others were just getting off the ground, but in general, there was a void in the ecosystem from our perspective of institutional seed funds that could lead rounds, roll up their sleeves, lend a big network to these companies, etc., and we decided that was a pretty interesting opportunity.
We had the benefit of a large capital base to draw from, so our first fund was a single LP fund in 2011, $40M with a focus on investing in early stage companies, mostly in New York but it quickly expanded beyond that.
That was my journey.
The first fund was $40M in 2011, how have things evolved since then?
Our second fund was in 2014. We took outside capital for that; it was $65M.
With the first fund we had a flexible mandate, given its single LP structure. We really tightened up the focus for Fund 2 when we brought on external LPs. While the thesis and flexibility narrowed, being great partners to early-stage companies was still the core principle. We lead seed stage deals, take an active role in the companies, oftentimes a board role, and put a good amount of money behind our companies to enable them meet their milestones and raise subsequent rounds.
Do you guys ever make first investments at the A level, or do you only stick to seed?
We have in the past but we won’t going forward. We’ve really tightened up on that as a result of figuring out who we want to be in terms of ownership and our value-add. That said, we reserve a substantial amount of capital for follow-on investment, so we’ll put a significant amount of capital to work in Series A rounds, but all will be in companies that we’ve seeded.
You’d been in private equity, but Fund I was your first formal foray into VC. What were the greatest learnings for you in the course of Fund I, and what have you done differently with Fund II?
There’s the experience that comes with repetition, often referred to as pattern recognition around founders and opportunities that naturally took time. I had personally invested in a couple of startups in the past, but never at the scale of a fund. Also, how you work with a startup founder and team is very different from how you work with the management team of a larger organization. That cadence and style got developed over time as well.
Two, we were pretty much generalist in the first fund. Look, I think any seed stage fund is reasonably opportunistic and generalist unless you’re one of the few vertically focused fund. That said, from Fund 1 to 2 there was a lot of tightening our message to the founder community, which continues to evolve and probably always will.
Beyond that, I got a real education in and appreciation for “how do you run a fund.” I think this is where most seed funds break down. Most optimize for syndicate and are flexible on ownership, paying little attention to the fund math. It’s clear why that is: good story for LPs in the early days of your fund, hero at the next tech networking event, etc. The cruel reality is, if your best company does not return 1x your invested capital, it’s almost impossible to achieve the returns that are expected from a venture fund.
There’s this great X-Y axis I draw for all of our investment decks and for our LPs: on the Y it’s, total enterprise value of the fund you need to return 3x committed capital, which is the baseline expectation, and across the X access it’s the percentage of your ownership at exit.
You realize pretty quickly, if you’re a fund of our size and you only own 2-3-4% of a company at the exit, you need an Uber or AirBNB, or one of these generational companies because you need an enterprise value in the portfolio of $10B plus, which is a huge number. If you own 7-10% of companies at exit, on the other hand, you need $2-3B of enterprise value to return that 3x.
We try to never lose sight of the fact that the math is always the truth and there’s nothing we can do to change that.
Beyond all that, it’s a lot of work building a brand and your work is never complete. You’re constantly trying to put yourself in a position where founders want to work with you.
To your point about founders, what does the right founder look like to you and KEC?
Every founder is a dreamer and has a vision that seems unfounded in many ways. It’s inherent in the personality. However, too often, founders have a vision of the end game – what the world looks like once their product has achieved mass adoption, but are unable to articulate a near-term execution plan. The vision is table stakes, but we’re attracted to founders who have a strong operational mindset and think deeply about short and mid-term milestones.
Most VCs will tell you that they want to back highly technical founding teams, full stop. We have multiple companies, each of which is a top quartile performer, that were founded and are run by former consultants and another that is run by a former investment banker. We’re not hard and fast on a founder’s background, we dig far deeper on whether or not he or she can execute.
Finally, there’s simply nothing more off-putting than a pitch filled with hype and ego. We’re just not a group that buys that noise.
You note in your bio that you have experience investing at every stage of the lifecycle, but that your passion is early stage technology. What is it about early stage that you’re especially passionate about?
It goes back to that piece I was telling you about 10 years ago or so. It’s that process of watching somebody formulate this idea in their head, decide they believe in said idea enough to take a huge life risk and start a company, scrape together enough money to prove there’s demand for the product they’ve envisioned, and then having a front row seat on their journey of building a business.
It’s an exponentially harder stage of investing than anything I’ve been involved with previously. The emotional swings, though not nearly as dramatic as those experienced by the founder, are huge. At this stage of investing, every company has its challenges and pretty much every one of them has their near-death moment. Running a fund is a business and all of these moments make you worry about your business, but more importantly, you become really close with the founder’s you invest in and you know the toll the lows can take. However, all of this is what makes the highs so good and why I couldn’t imagine doing anything other than what I do.
Also in your bio is that you “know a thing or two about frothy markets and bubbles.” So to ask a question du jour, how do you assess the froth level in the tech industry and are we in a bubble now?
I think the answer is no. Most people would suggest that there’s too much capital chasing too few deals and therefore a lot of deals getting funded that don’t have venture-scale; leaving a huge swath of companies sitting in no-man’s land.
What you’ve seen is no-man’s land has gotten bigger. There’s a no man’s land between every round. The fallout between Seed and Series A is the most talked about, but there are plenty of companies who raise Series A and are good businesses, but don’t have the scale to raise Series B or a growth stage equity round. The reality is that the funnel of deals getting done is always going to narrow at each subsequent stage. The ratio at any given time will determine the “froth.”
Do I think there will be consolidation? Definitely. A lot of the easy money will dry up over time for both macro and micro reasons and both companies and funds will fail to raise additional capital and we will see a correction at some point. However, I always believe that good companies and funds will be able to raise capital.
Technology companies are the most valuable companies in the world, and there’s infinite amounts of innovation left to happen, which means a massive amount of opportunity for tech investment for the foreseeable future.
You mention on the website that you guys are “truly global investors with a portfolio reaching all ends of the world.” There are of course investors who will only invest in a very specific geography. Why is geographic agnosticism the right approach for KEC, and how do you respond to the contention that VCs, like the startups they fund, should focus on one specific thing?
The answer today is we don’t really want to be globally focused. We’re really North America investors who have a few markets that we’re particularly bullish on: New York, Los Angeles, and Chicago are the core of where we’re trying to spend a lot of our time.
In our early days we had invested in three companies in Israel. We like Israel, we like what’s happening there, but we do want management in the US.
Say a bit more about the entrepreneurial ecosystems in New York, LA and Chicago. Are the businesses you see out of each ecosystem qualitatively different from one another, or are they fundamentally similar?
They are different from one another. For one thing, New York is ahead of those two markets – it’s significantly ahead of Chicago in terms of the investor community as well as the quality of investment opportunities, and probably a few years ahead of LA – though I know many of my LA friends would beg to differ
New York has a far more robust mix of industries and verticals in which companies are being started. The AI epicenter is being established in New York and you’ll see a bunch of cool companies come out of that. New York has a great AR/VR ecosystem and there are a number of well funded drone companies.. So you have a lot of the frontier tech that’s happening in New York that’s not happening in those other ecosystems.
LA is getting there. We have a blockchain company in LA that has a killer technical team, but I feel like they’re an exception. Most of the opportunities in LA still skew heavily towards commerce and media, which is to be expected, given the nature of the large corporations in that ecosystem.. But it’s coming along and you’re continuing to see new pockets of innovation.
I don’t know if you could define Chicago quite as well. I would say, edtech and fintech are probably the most common types of companies we see out of there. Their biggest challenge is they don’t yet have the density of the angel and seed stage capital to support a more robust ecosystem. That said, there are a lot of good, smart people, who will continue to bring the community along. Our first two investments this year were Chicago-based. There’s good stuff happening, it’s just in smaller doses.
You talked about New York relative to LA and Chicago. How would you compare NYC to Silicon Valley. What are the greatest gaps, and what does New York need to take itself to the next level?
I think the biggest fundamental challenge to New York startups is there’s not enough density of Series A and later funds. It’s pretty easy to find Seed funding in New York, there are a lot of seed stage funds. But when you look at the Series A landscape, there’s maybe 5-6 tried and true NYC based funds vs. the Valley with probably 40-50 true Series A firms.
Given this dynamic, a lot of NYC based companies are forced to look for their Series A financing out West, which is a real challenge.
I’m hopeful we’ll see this gap close over time.
You said once that entrepreneurs “learn painfully and quickly what it takes to be a good company, and we can help you do that” – say more about that. What are the painful lessons these companies have to learn, and as you make investments, what are those things you repeatedly see early stage companies and founders struggle with?
The key thing is focus. Founders generally have 12-18 months of capital post their Seed round and an enormous number of things they want to accomplish. It’s imperative to define those 1-2 metrics to focus on that will enable you to raise your next round of capital. That’s not a trivial exercise and we spend a lot of time helping founders think through what are those “right” metrics. The nature of venture capital is that it forces companies to put points on the board in the short-term, while not harming the long-term vision, a really hard thing to accomplish.
Almost every founder can conceptualize this, but very few can live by it at all costs, it’s hard not to chase every opportunity possible when you’re burning cash. It generally leads to companies trying to ramp up before they have true product-market fit and that’s when they get into trouble. It’s a shitty conversation to come back to your Seed investors and ask for a bridge and should be avoided at all costs. Even though founders always think they need more resources, the reality is that you can always make it with less. Until you nail product market fit, you have to operate on next to nothing.
Is there an investment thesis that KEC is investing off of?
Traditionally we’ve had a pretty heavy bent towards commerce. Both DTC eCommerce as well as commerce enablement (marketplaces, POS, etc). However, we’ve seen a pretty dramatic shift over the last couple of years from the front-end to the back-end in terms of where the greatest amount of value is captured. Customer acquisition costs have increased dramatically for a host of reasons and scaling a business via traditional digital channels alone is unsustainable.
At the same time we’ve seen some really incredible innovation on the supply side. We think there are a number of areas across a number of industries that are ripe for digitization and innovation. Our next wave of investments will generally look to capitalize on the areas of the supply chain that we believe are most ripe for transformation.
You mentioned KEC had invested in Austin, how robust is your presence there?
We have a company called Buzz Points in Austin. We like Austin for a lot of the same reasons we like some of these other markets: the supply-demand is still very much in favor of investors. That said, Austin is well behind some of the other “rise of the rest” markets. The pace of innovation and density of talent is simply not anywhere close to the likes of NYC or LA. It’s not inconceivable that we do more deals down there in the future, but it’s not a location that we’re heavily focused on.
How will Amazon’s acquisition of Whole Foods impact the ecosystem there? It could do wonders for the local angel investor community, I would think.
It will be interesting to see how it plays out. The market could certainly use a more robust angel network; it’s pretty small at the moment. I would say the nuance here is that the newly minted millionaires on this one are unlikely to have a strong “give back to the tech community” mantra that drives a lot of the angel investment in the tech hubs. For instance, I don’t expect the moneymakers from Whole Foods to invest their capital in the same manner that those from SNAP will.
Beyond what you mentioned earlier, are there any trends you’re watching closely in 2017?
There are a number of areas within the supply chain that we’re excited about. Those range from breakthroughs in manufactured goods to really interesting innovation taking place within agriculture and food. We’ve also been very public with respects to our interest in logistics.
Favorite book and why?
Probably Fever Pitch by Nick Hornby. I’m a lifelong sports fan, and it’s one of the great stories about sports fandom. The main character’s journey with his favorite team really resonates with me.
Let’s just say that it’s very different from the journey all the newfound Golden State Warriors fans have gone through.
Alright, sports fan to sports fan, what are your teams?
Denver Broncos and TCU football.
Is there an early stage investor that you admire?
In this industry, people who are direct and genuine are at a premium. There is so much BS floating around, it’s nauseating. Marc Andreesen is the best in the biz IMO, but I also really like guys like Paul Martino at Bullpen. What you see is what you get, a rare trait.
What’s the most under-hyped part of the tech ecosystem?
There are a lot of them. Anything that’s not easily understood by the urbanites that are most capital allocators is generally under-hyped. Conceptually, people know that there are opportunities for technology in rural communities, such as energy or agriculture, but it’s not a natural network for the VC community and thus, not well understood, plus it’s not very sexy to blog about, so you don’t hear much about it. As we’ve seen this inversion of value taking place, we’ve spent a lot of time immersing ourselves in these areas and it will be a major focus of our next fund.
One bold take: How will the world be different in 20 years?
I don’t think that in 10 years we’ll have phones in our pockets, at least not in the same form as we do today.
I think the world is moving much more towards conversational interfaces; Alexa is the most notable one but there is technology out there well beyond the capabilities of Alexa. I’m also a long-term believer in AR, even if the short-term opportunities are sparse. I believe the combination of advancements in both of these areas will make the phone as we know it today obsolete.
10 years might be aggressive, but I have a 6- and a 3-year-old and I don’t believe they will go to college with a device that resembles the current form factor in any way.
That suggests you believe they’ll go to college in the first place, that higher education won’t have been disrupted away?
I definitely do not believe that the traditional brick and mortar college experience is going away. Does there need to be continued innovation to drive costs down and allow for a more flexible learning environment? Absolutely. The value of experience and network that comes from attending a traditional four-year institution is unmatched. It would be tragic from a personal development and life experience standpoint if higher ed went completely digital and I simply don’t see that happening.
Plus, if college sports went away, there would be complete anarchy.