1Mby1M Virtual Accelerator Investor Forum: With Nitin Pachisia of Unshackled Ventures (Part 4)

Sramana Mitra: If you have to make 500 micro-VC funds productive, there needs to be some of these segmentation and clear definition. Otherwise, nobody will find anybody. It’s going to be constantly hit or miss, or it’s going to be very inefficient. The information flow needs to get much more efficient.

To your point that there are exceptions, when people have really great teams – teams that have track record or teams that come out of specific scenarios with very compelling insights into problem areas – would be an exception. What is your read of unicorn mania? As a seed investor, you could get buried under later-stage liquidation preferences. How do you protect yourself?

Nitin Pachisia: I think there is a bigger trend in play. There’s obviously a rush for unicorns. The bigger trend that’s in play is the over-glamorization of VC and VC-backed entrepreneurship. I think you will appreciate this a lot because, in your focus, you don’t see just VC-backed entrepreneurs.

Sramana Mitra: I’m one of the most vocal critiques of this trend. If you look at my writings, I point this out. Entrepreneurship is not equal to financing. Entrepreneurship equals customers, revenues, and profits. Financing is optional. Exit is optional.

Nitin Pachisia: Exactly. The over-glamorization ultimately leads to what you just said: founders celebrating financing rounds more than customer wins or hype cycles that create massive valuations, which are unsustainable. Then they realize that they’ve set up too high of an expectation.

Then on the VC side, that same phenomenon leads to logo shopping. You will see firms that have all kinds of unicorn logos on their portfolio page, but when you ask them about ownership, it’s ridiculously small. Even with a great exit, they’re not going to return any dollar value to the fund. All in all, what I’m trying to get to is that the unicorn rush is a symptom of the bigger problem.

We’re relatively new as VCs. When we started, we had to surround ourselves with people who’ve done this for decades. We were very fortunate that we were able to get their support and get their mindshare. From them, we learned that these hype cycles come and go all the time. Every few years, there’s a flavor of the month.

When you’ve gone through a few cycles, you know that investing is more about discipline and therefore, if you are able to build your discipline strategy, you will be able to weather the ups and downs. We went about talking to people that we admire and learn from. We went about building our discipline strategy, which ultimately comes down to a few things. Number one is, we’re going to stay small.

At the stage at which we invest, a large fund will distract us from operating at the stage at which we invest. It’s easier to return a smaller fund. You don’t have to chase unicorns. When we invest, we expect every one of our portfolio company to become a billion-dollar company. That doesn’t mean that if they don’t, we won’t be able to return the fund. Just playing the numbers, a $25 million fund and a $300 million exit returns my fund. That’s predicated on the ownership being a big factor on that.

That’s the second thing we focus on. We need to be investing with conviction. We need to invest early. We need to secure 10% to 15% ownership for the risk that we’re taking. It’s all a function of the price being reflective of the risk. Those are the kinds of two internal discipline mechanisms that we deploy – keep the funds small, invest with conviction with a meaningful ownership stake such that when there’s an exit, it’s capable of returning the fund multiple times over.

Lastly, this is the externality that comes to mind. There are different types of founders. There are founders who are really good at creating their own brand and building the hype around what they’re doing. They will be able to raise a lot of money because of their past success. Then there are founders who are just very execution-focused. They will raise only what is needed to get to the next milestone. They look at capital as a means to the end. They don’t celebrate funding rounds.

When we look at our portfolio, we have more of the latter kind of founders. That gives us some comfort that these companies will be built in the more traditional capital-efficient way. This means that they won’t raise 16 rounds. They will raise some rounds.

Sramana Mitra: By many hundred miles, that is our preferred category of entrepreneurs. We try to steer our entrepreneurs in that direction. With very few exceptions, mostly people make more money by being capital-efficient than raising huge amounts of money that get buried under liquidation preferences.

Nitin Pachisia: Right. It happens all the time. Being on the VC side, there is some blame that the VCs have to take for that. We’re not being responsible as investors to bring that mindset to the entrepreneurs. I think people are realizing themselves that infusing capital all the time is not a sustainable way of building the company.

This segment is part 4 in the series : 1Mby1M Virtual Accelerator Investor Forum: With Nitin Pachisia of Unshackled Ventures
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