Peter is a guardian at the Leslie eLab and an intern at the Entrepreneurial Institute. He is co-president of CASEA and co-chair of the NYU Entrepreneurs Festival. He has started a film production company called Minetta Studios. This is the third piece in Peter's 'Statistical Analysis is Sexy' three-part series, the first of which you can find here and the second here.
Now that the scene is set, statistical analysis makes its entrance onto the stage. It seems if a firm could better analyze startup data, it could find ways to capitalize on those companies that are making humble returns as well as increasing the success of getting a high return. In order to get a better understanding of the quantification of venture capital, I talked with David Coats of Correlation Ventures.
Coats is the Managing Director at Correlation Ventures which launched in 2010. It’s a 165 million dollar fund and is flexible regarding geography, round, and industry. They have already made 95 investments, making Correlation one of the most active venture funds in the country. He has 16 years of experience as a venture capitalist as well as being a bio-tech entrepreneur.
The seeds of Correlation Ventures were planted when he noticed that classic due diligence was often way too time consuming for entrepreneurs, and at a certain point there were too many active investors in a round that slowed the growth of the company. In other words there were too many cooks in the kitchen. He saw a niche where there needed to be a “dream co-investor”, aka an investor who will be supportive and content with the lead investor’s decisions.
The dream later became reality, with Correlation Ventures able to make an investment decision within two weeks or less and not taking any board seats in a company. They aren’t trying to replace the due diligence of the lead investor but instead supplement it with their quantitative analysis. They don’t take board seats and offer assistance when requested by management or the lead investors. “We don’t force another decision-maker into the mix”, said Coats.
They are fine with the role of a co-investor, however they will help anyone of their portfolio companies if they request assistance with introductions, mentoring, etc. They typically trust and abdicate hands-on instruction to the lead investors. They will also be upfront with both lead investors and entrepreneurs that they will automatically follow-on finance a company based on their reserve cap. For example, if they invest $2 million in a company and have $2 million in reserves, they will agree to follow-on financing at pro-rata until they hit that cap.
Their data sources center around commercial data providers like PitchBook, Thomson Reuters, and Dow Jones, as well as SEC filings, their own research, and knowledge sharing from other venture firms. With all this data most of his workday still comes down to networking and deal sourcing. He and his partners are constantly meeting with entrepreneurs and other venture firms.
Variables they consider are broadly: who the other investors are, terms of the investment, fundamental facts about the company, and financials. They are typically looking to invest somewhere between $100 thousand and $2.5 million; as well as up to $5 million over the lifetime of a company. They have as of now 95 portfolio companies and looking to expand that to over 100, and make about 2 investments a month.
They have had two positive exits since founding the firm only a couple years ago. Virsto was acquired by VMware and more recently InstaEDU was acquired by Chegg, with both being very attractive exits. For example, InstaEDU was bought for $30 million. Coats says with their model is designed to consistently generate returns in the upper quartile of venture firm returns (above 30% IRR in some vintages).
Their time horizon is about the same as the rest at 5 to 7 years from the first financing round. He said that 5% of venture funded companies typically make a portfolio successful, and about half don’t return any of the capital. After a company has gotten a passable score they still have veto rights that they could implement, although the model wins out most times.
They choose to only co-invest because their model works a lot better with lead investors. The most common way they go about this is if a lead investor comes to them with a company in need of more funding or if an entrepreneur comes already with a lead. Coats and his partners observed that no other venture firm had aggregated and analyzed historical venture financing data. Coats remarked, “our thesis is that we could both learn valuable patterns and be able to do more rapid investments to be the dream co-investor”.
They have tremendous support from their peers in the venture community. They often receive accolades about how they are saving so much time and energy for management teams and lead investors, enabling them to focus that saved time on building their business rather than on fundraising. They have a wide range of venture firms that do business with them. Even more proof is seen by 30 venture capitalists that personally invested in the Correlation Ventures’ fund.
Thanks for following along with the 'Statistical Analysis is Sexy' series. For more information, you can email Pete at firstname.lastname@example.org.