20VC How To Get Back To 200 Tech IPOs Per Year, Why We Are In A 'Bulge Not A Bubble & The Impending Flat & Down Rounds To Come with Barry Schuler, Partner @ DFJ Growth

In this episode of "20 minutes VC," host Harry Stebbings interviews Barry Schuler, partner at DFJ Growth, to explore the intricacies of scaling companies and navigating the venture capital landscape. Schuler, a pioneering figure in the internet realm and former CEO of America Online, discusses the shifting dynamics of public markets and the role of growth-stage funding in preparing companies for IPOs. He emphasizes the importance of appropriate valuations for startups, noting the potential perils of overvaluation for both companies and investors. Schuler also touches on the challenges of mergers and acquisitions, the delicate balance between vision and stubbornness in entrepreneurship, and the vital nature of passion in business success. The conversation delves into the "bulge" of highly valued companies and the future trajectory of the VC industry, with Schuler reflecting on his decade-long experience as a venture capitalist and the enduring threat of excessive capital chasing limited high-quality deals.

• Harry Stebbings hosts the 20 Minute VC podcast and invites listeners to suggest future questions and guests.
• Barry Schuler, partner at DFJ Growth, is introduced as the guest.
• DFJ Growth specializes in funding companies that are category leaders or have the potential to be.
• Barry Schuler is recognized for his role in shaping the modern Internet and his leadership at America Online.
• Schuler serves on the boards of influential companies like Coinbase, Unity, and Foursquare.
• Harry Stebbings acknowledges Randy Gline and Josh Stein for introducing him to Barry Schuler.
• The podcast features sponsorships from eShares and Fond, which offer services for cap table management and employee engagement, respectively.

Welcome back to the 20 minutes VC with me, your host Harry Stebbings at H stepbings with two B's on Snapchat. I'd love to hear your thoughts on questions you'd like me to ask in future episodes and guests that you'd suggest for the show.

This quote is Harry Stebbings opening the podcast, inviting listener engagement and suggestions for future content.

But to the show today. And we've seen a reopening of public markets in recent months. And so who better to have on the show today to discuss all things scaling companies than Barry Schuler, partner at DFJ Growth.

Harry Stebbings sets the stage for the episode's focus on scaling companies and the reopening of public markets, introducing Barry Schuler as an expert guest.

• Barry Schuler had a successful career as an entrepreneur and executive at AOL.
• After leaving AOL, he explored angel investing but found it unsatisfying.
• A conversation with John Fisher led to the creation of DFJ Growth, aimed at funding companies in their growth stage.
• DFJ Growth was founded on the belief that companies would stay private longer and required capital to scale before going public.

Well, I did have an amazing ride as an entrepreneur and being part of the AOL golden age. And when I left in 2003, I did a little bit of. After I detoxed and spent some time getting my head back together, I started to do a little bit of angel investing.

Barry Schuler discusses his transition from AOL to angel investing, implying the need for a break and recalibration after leaving AOL.

Those conversations led to a bigger conversation to start a new fund focusing on growth. This was back in 2005 where we saw an inefficiency in the marketplace.

Barry Schuler explains how discussions about his post-AOL career led to the creation of DFJ Growth, identifying a market inefficiency that the new fund aimed to address.

• DFJ Growth was founded to address the inefficiencies in the market for growth-stage capital.
• The strategy was to enable companies to scale privately and enter public markets as more stable entities.
• The "experiment" of keeping companies private longer is ongoing and has not fully played out.
• The "senior class" of companies is now approaching public markets after scaling privately.

We felt companies were going to stay private longer. We thought they had to because of the markets. We saw that as an opportunity to deploy capital to help these companies grow to more scale.

Barry Schuler outlines the rationale behind DFJ Growth's strategy, emphasizing the need for companies to remain private longer and the opportunity this presented for growth capital investment.

That experiment has not played out yet. We're just at the phase where I like to say the senior class is arriving.

Schuler indicates that the results of the strategy to keep companies private longer are still unfolding, with a significant wave of companies now reaching maturity.

• There is a mismatch between the valuation practices of private and public markets.
• The term "unicorn" became popular to describe companies valued at over a billion dollars.
• The number of institutional investors interested in tech IPOs has shrunk in the U.S.
• Public markets have been cool towards companies that scaled in the private sector, partly due to valuation discrepancies.

What we see is that there's been a lot of valuation inflation, that whole term unicorn, the U word popped up for these companies that are valued at billion or billions.

Barry Schuler comments on the phenomenon of "valuation inflation" in the private markets, leading to the creation of many so-called "unicorn" companies.

We have not seen the final act. I do think that what growth set out to do, which was to keep companies private, give them the opportunity to scale as a private company without the impact of the market and what it does to your focus and your reporting, let ceos focus on building their products and team get out there ramp their revenue to 100 million and beyond and then go public as a much more stable, derisked company.

Schuler explains the ongoing nature of the growth capital experiment, detailing the intended benefits of allowing companies to mature privately before facing the demands of the public market.

• There is a current standoff between company valuations and the market's willingness to invest.
• Institutional investors are concerned about the return on their investment, especially when companies have high valuations but less revenue.
• The market is small, with around 70 institutional investors, making the dynamics particularly sensitive to valuation issues.
• IPO performance is mixed, with some doing well and others facing challenges due to high expectations and valuation discrepancies.

"And they look at a company that may have under 100 million in revenue and a valuation of maybe $2 billion, and they go, where's my money? How do I take this out and make my two x over the next year or two?"

This quote highlights the concern of institutional investors regarding the disparity between a company's revenue and its high valuation, questioning the feasibility of a profitable exit strategy.

• IPOs are engineered to balance the selling price, investor returns, and the momentum behind the stock.
• Companies must consider how much they will raise and the potential demand for their stock post-IPO.
• There is a delicate balance between being undervalued (leading to a 'pop') and overvalued (leading to trading issues).
• Overvaluation can cause long-term recovery issues for companies, as seen with Facebook's initial struggles post-IPO.

"In an ideal scenario, you balance those in such a way that there's enough residual demand and therefore the trading is brisk."

This quote emphasizes the optimal scenario for an IPO, where the pricing is set to create sustained demand and active trading, avoiding both under and overvaluation.

• The 'last act' of a company's growth stage involves transitioning to a public market.
• The success of this transition is contingent on a return to a functional public market for tech stocks.
• Companies are raising more capital in later rounds than in classic IPOs, yet public exits are necessary for investor returns and company growth.
• The current challenge is the overvaluation of companies from early investment stages, which impacts all stakeholders, including the companies themselves.

"So we need to see not just five or ten companies getting public, we need to get back to 100, 200 a year. And they need to be healthy ipos."

This quote underscores the necessity for a larger number of companies to go public with robust and sustainable IPOs, contrasting with the smaller, high-risk IPOs of the past.

• Overvaluation of tech companies is causing a lack of interest and 'coolness' in the IPO market.
• Investors are skeptical about the potential returns on highly valued companies, leading to flat or down IPO rounds.
• A rationalization of company valuations is expected, with the market correcting overvalued entities.
• Successful IPOs, such as SolarCity's, demonstrate that long-term performance is more important than immediate post-IPO valuation.

"I think companies are being overpriced right from the very beginning."

This quote suggests that the root of the IPO market's challenges lies in the initial overvaluation of companies, which has a cascading effect through subsequent investment rounds.

• Mergers and acquisitions (M&A) are an alternative to IPOs for company exits.
• M&A can be challenging to manage successfully due to various factors such as talent acquisition and technology integration.
• Some entrepreneurs start companies with the intention of being acquired, which is a difficult strategy to execute.
• Large companies typically acquire smaller ones for talent, technology, or to mitigate competitive threats.

"In general, big companies buy smaller companies for a few reasons. One is they want the talent. Two, they have technology that they either want or they feel threatened by, and so they see"

This quote explains the motivations behind why larger companies might choose to acquire smaller ones, focusing on the acquisition of talent and technology or to neutralize potential threats.

• Cultural differences can significantly impact the success of M&A.
• Employees may perceive winners and losers post-acquisition.
• Silicon Valley/startup culture is described as almost religious.
• Changing corporate cultures is likened to changing religions.
• Managing the people factor is difficult and often not well-handled.

"In almost every case, the cultural part of m a can play out sort of like a know. I lived through what's considered to be the worst m a deal in history, the AOL acquisition of Time Warner."

This quote emphasizes the importance of cultural compatibility in M&A, referencing the AOL-Time Warner deal as an example of a cultural mismatch.

"And so there's a tendency to feel like there are winners and losers, a body of employees."

The quote highlights the common perception among employees that M&A creates a hierarchy of winners and losers, affecting morale.

"We all know that the silicon Valley culture, the startup culture, is almost like a religion. And all of a sudden now you're asking people to change religions, and the people factor becomes very, very difficult to manage."

This quote illustrates the deep-rooted nature of startup culture and the challenges that arise when employees are asked to adapt to a new corporate culture post-acquisition.

• The term "bulge" refers to a large number of high-valuation companies not yet public.
• The bulge is characterized by growth and capital but lacks IPOs.
• It is expected to release pressure steadily rather than explode.
• Some companies in the bulge will have successful IPOs at current valuations.
• Others will adjust their price upon going public.
• A few will be acquired at a discount due to running out of capital.

"We're not in a bubble, we're in a bulge."

This quote introduces the concept of a "bulge" as an alternative to the idea of a market bubble, suggesting a different market dynamic.

"You've got 200 plus companies with billion dollar or more valuations that are growing."

The quote provides evidence of the "bulge" by mentioning the number of companies with high valuations.

"Some of those companies will go on and have successful ipos without an adjustment in valuation. And that's because they are kicking ass."

This quote suggests that some companies within the bulge are strong enough to enter the public markets without losing value.

"Another group of those companies will successfully get public, but they're going to have a price adjustment."

The quote acknowledges that not all companies will maintain their private market valuations upon IPO.

• VCs support CEOs but do not run the company.
• M&A is hard; companies are bought, not sold.
• Best M&A outcomes often come from pre-existing relationships.
• Trying to sell declining or distressed companies rarely yields a good price.
• The role of VCs is to help guide decisions, not to force an M&A.

"Ultimately our job on boards is to support the CEO, not to run the company, and we can help them arrive at conclusion."

This quote defines the VC's role as supportive rather than directive in the context of company management and M&A.

"Companies are bought, not sold."

The quote expresses a common belief in the industry that successful M&A is more likely when a buyer naturally sees the value in a company rather than when a company is actively seeking a buyer.

"When you're aggressively trying to sell a company that may have had slower growth or is a little bit distressed, you don't have a great outcome."

This quote explains the difficulties and often unfavorable results of attempting to sell companies that are not performing well or are in decline.

• VC is a challenging field, tougher than running big companies.
• Investing requires constant problem-solving and is unpredictable.
• The future of VC may involve AI, but human elements remain crucial.
• Concerns about AI replacing jobs and investment decisions are downplayed.

"It is really tough to be an excellent investor."

The quote reflects on the difficulty of achieving success in the venture capital industry.

"It's hard to know who's the next Snapchat."

This quote highlights the unpredictable nature of investing and the difficulty in foreseeing which startups will become highly successful.

"I've gotten a little obsession with AI lately, and you hear a lot of people talking about all the jobs that will be replaced by AI, and AI will be making investment decisions, and I don't view that as a threat."

The speaker expresses a personal interest in AI and its potential impact on the future of VC, suggesting that AI may not pose the threat to the industry that some people fear.

• Venture capital (VC) is a niche investment in the financial services sector.
• VC is crucial for the global economy as it initiates the innovation cycle.
• The existential threat to VC is the oversupply of money chasing limited high-quality deals, which can lead to low returns and reduce the attractiveness of the VC category.

"You know, most people who are in our world don't understand that in the big picture of financial services, VC is a very niche investment. It's tiny, it barely registers as an asset allocation. Yet it is such a vital part of the world economy because it's where the innovation cycle starts."

This quote emphasizes the misunderstanding of VC's role by many within the financial sector and highlights its importance in driving innovation despite being a small part of overall financial services.

"I think the existential threat to VC is one that's always been around too much money, searching for too few good deals, yielding low returns and making the category not so attractive."

The quote identifies the ongoing challenge within the VC industry, where an abundance of capital can lead to a competitive environment that may not yield high returns, potentially making VC less appealing to investors.

• Entrepreneurs often struggle to learn from historical mistakes, believing they will not repeat them.

"Because they don't believe they'll make the same mistakes that other schmuck did."

The quote succinctly conveys the common entrepreneurial mindset that one's own venture will not fall prey to the errors that have befallen others, highlighting a potential blind spot in learning from the past.

• Vision and stubbornness are intertwined in entrepreneurship.
• Success comes from living and breathing one's vision.
• The indication to give up is when the company's momentum completely ceases.

"You have to live and breathe your vision and that's what makes an entrepreneur successful. And you only give up when the pulse of your company and your big idea stops and it's 2 hours later."

This quote illustrates the commitment required from entrepreneurs to their vision and the persistence needed until it is clear that the venture has unequivocally failed.

• "Sapiens: A Brief History of Humankind" by Yuval Harari is Barry Schuler's favorite book.
• The book is highly recommended for its insightful perspective on humanity.

"Yeah, I mean, I love reading, and I have to say my favorite book, maybe of the decade and maybe of all time, was sapiens, a brief history of humankind."

The quote reflects Barry Schuler's appreciation for "Sapiens" and suggests that it offers profound insights that make it a must-read.

• Barry Schuler's most influential mentor was a college art studio professor.
• The professor taught him the importance of listening to instincts and the heart.
• This lesson is revisited daily and is essential in a passion-driven business.

"She taught me how to turn my brain off and listen to my instincts and my heart. And I think that is something I go back to, probably as corny as it sounds every day."

The quote reveals the lasting impact of the professor's guidance on Barry Schuler, emphasizing the value of intuition and emotional intelligence in decision-making.

• Passion should not be suppressed in business.
• It's crucial to let passion come through and not be hindered by naysayers or self-doubt.

"You have to not suppress your passion. And because we are in a business that is built on passion and people following their passions, you really have to learn to let that come through and not let the people who tell you it can't be done become self preemptive."

This quote underscores the necessity of allowing one's passion to guide their actions in business, overcoming external and internal skepticism.

• Barry Schuler's recent investments include Unity and Giphy.
• Giphy was not actively seeking funding, but was convinced to raise a "war chest" after preemptive engagement by the VC firm.

"And Giphy. I had to get them to say yes. They actually weren't raising money. And one of the ways we like to operate is being a little preemptive."

The quote explains a strategic approach to investment where the VC firm takes the initiative to invest in a company before it seeks funding, indicating a proactive investment philosophy.

• Harry Stebbings uses his podcast as a model to generate deal flow for VC opportunities.
• Barry Schuler appreciates this model for its effectiveness.

"I love your model. Have your podcast which generates your deal flow."

The quote shows Barry Schuler's endorsement of the podcast as an innovative tool for discovering and securing investment opportunities.

• Harry Stebbings thanks Josh Stein and Randy Gline at DFJ for introducing him to Barry Schuler.
• Harry promotes eShares, a cap table management platform, and Fond, an employee engagement suite, as essential tools for VCs and companies.

"And a big thank you to Josh Stein and to Randy Gline at DFJ for the intro to Barry today, without which the episode would not have been possible."

The quote expresses gratitude for the connections that made the podcast episode possible, highlighting the importance of networking in the VC industry.

"But eshares most certainly is. Eshares is the number one cap table management platform, allowing for equity management 409 a valuations and liquidity all in one place."

This quote provides a recommendation for eShares, signifying its value and prevalence in the VC community for managing equity-related matters.

"And that's where fond comes in. Fond is the employee engagement suite with three core products rewards, a recognition platform for rewarding achievements and milestones perks, a premium corporate discounts program to show employees you care about them both in and outside of the office."

Harry Stebbings promotes Fond as a comprehensive suite for employee engagement, suggesting its utility for companies looking to improve their workplace culture and employee relations.