E385 | Michael McGraw, Inovia Capital: European LPs and why a higher risk appetite could pay for itself

26:40Yeah. And I think also caveat on. So obviously only one third of your fund is going to Europe. So you're not exactly in that bucket. I do also think that for me, when I saw the tweet, I thought, well, there's definitely a difference between the fund three and four and fives that are in this size and those that are in fund two. I think that it's difficult to deploy as an early manager this much capital wisely. that's why I think it's hard. And we do have a couple of funds that are early in their development and actually raising this large. I think that might be difficult. Yeah, it comes back to the point of what's the team you have behind it as well, right?

27:27And like what firepower do you have to kind of put that money to work? And what I hear on this podcast all the time is definitely not that we have too many funds that can write large checks. So do I want to have a 400 million euro fund that primarily does seed? I think that's very hard. Do I want to back someone who does A and B? I think that's a very different question. I think we have a lot of room for good VCs that come to the growth market with a venture mindset, not a private equity mindset, because we have many crossovers. And this is something that I've been learning from diving a bit into the late stage market here in Europe.

28:11what I hear from many is that there might be ample capital in euros, but it tends not to always come from the people that you would want it to come from. Yeah. In the sense that we have. And maybe you can talk a bit about that because you're saying yes to it. So yeah, no, it's funny. Like I was talking to, again, I was talking to NLP two weeks ago. And the way they asked us, they said, do you invest in momentum businesses or in what he called boring growth? Right. And so that boring growth was this, call it 30, 35%, 30 to 40 % grower, 5 to 15 % EBITDA margin. Right. And that's kind of a safe bet, which is if you, if the company just keeps growing within that realm and you exit at the same multiple as you entered, then, you know, you make your, your IR target that way.

29:00But that's, that's very close to P if it's not pretty much P right in some ways. And so there has been a flight to safety from that perspective. I think there was a bit more risk appetite, obviously, a few years ago, but now that's changed. I do think that there is an opportunity for these businesses that you can put 10 to 20 million in and not everything is proven. But if it gets proven or, you know, if the thesis pans out, it's going to be a massive return. And that I think people have kind of shied away from a little bit. And it takes scale to do that, right? Like even for Inovia, we have an allocation to what we call high potential businesses, but we can only do so many of them with$400 million,$450 million fund, because ultimately you need scale to be able to diversify that risk away, right?

29:49That's what I'm learning, that we are definitely in a difficult spot in Europe when it comes to getting venture growth capital, so to say. I think in Europe, we've weeded out a lot of the, you don't have to take VC money from someone who doesn't play the VC game anymore, you know, in the early stages. Yeah. But in the growth stages, there's not a lot of those, that money that says, yeah, run as quick as you can. We're here. uh we're just backing you yeah especially in this day and age right because like i think and again like it's it's always a picture in picture in time but then lps are asking about dpi and all these things and it's a lot harder to connect these dots for for a gp that's raising and saying okay this is going to be a high dpi driver or something like that and so we do need more skilled managers and you know again whether harry's fund goes that way at some point or or or, you know, kind of enables more companies to go there with the right amount of capital.

30:51And maybe they just skip that venture growth and get to a point where they're proven afterwards. I think time will tell, right? We spoke a bit about Harry. I just want to go on the record and say I'm the biggest admirer of everything Harry has built. Yeah. And the access that he has with his fund or with his podcast and the whole ecosystem that he's built around that. I am sure that he will, as he has already done, go on to build incredible things. I'm sure that he will be a force to be reckoned with in European venture. And all the people that are dunking on him, I think they're making a big mistake.

31:26I mean, listen, you don't raise 400 million if you don't have something to back it up. So no, I'm excited to see what he does. Definitely. Okay. So I just want to ask you another thing, which is you're talking about the lack of commercial driven incentives for the private sector. in Europe. Maybe you can add a few notes to that. Yeah. I mean, it goes without saying that like government or public institutions, right, should have some role to play in an ecosystem. And especially in the early years, right? Even in the US, you can think about DARPA and whatnot, or in today's environment, you know, in climate, you can think about the IRA and whatnot.

32:02And so a lot of them play quite directly in the ecosystem, right? Be it as LP positions or actually even like co-investments with some of the LPs. Again, I'm going to preach a little bit for Canada here with my bias is that what I think Canada did really well is we have a national development bank that will also do some of these LP commitments. It's quite commercial. More importantly, or just as important, what we have is we have this program called the Venture Capital Action Plan, VCAP, that started 10 years ago. And what that did is the government said, all right, we're not going to necessarily build out the infrastructure to do it ourselves.

32:39What we're going to do is we're going to commit$15 million to multiple funds of funds. So$400 million in total across different investment vehicles that are privately managed by GPs. And then the Canadian government's money is going to be first in, last out. And so that way, what these funds of funds went on to do is they went on to see private investors. They said, listen, if you put money, it's going to be last in first out, which means you put your money very late, you get your money out very quickly, which from an IR perspective is phenomenal. So the Canadian government basically committed $400 million that way.

33:18And that helped these fund managers raise an extra 900 millions on top of it. And so not only do you get a really good multiplicator effect on your capital, what you get is you also get these private managers that are then a lot more efficient from a bureaucratic perspective, right? I think sometimes some of the issues with public institutions and rightly so, because they have a lot of governance and it needs to be done properly, it can take a bit of time to get them to act. But in this case, what's fantastic is you have kind of, I'll call it like the bureaucratic pain upfront of the government putting that program together and making the funds of funds commitments.

33:52But then after that, it's purely kind of commercially driven by private managers. And it's something that's been hugely successful. It was kind of renewed for a second program. And it's an ongoing structure that I think Europe should probably try to emulate if it can in one way, shape or form. I absolutely agree. And it's so paradoxical to see EIF. And I love EIF. They're doing so much. But fuck, could you please start having a fund-to-fund program? We need to get more fund-to-funds that can make wise choices. that can, you know, we not a single fund of fund in Europe are not fundraising all the time.

34:30Like, yeah, it's, it's, it's challenging. I think exactly like backing these managers, right. Cause as you said, like Isomer is going to have like this very deep expertise, but also like being able to move quickly and whatnot, there's something quite powerful there and you don't want to be the only LP, but if you just think about these little, the way I think about it is with the government capital being first in last out, that's almost just like an opportunity cost, right? Like it reduces the government's IR a little bit, but it's just the right amount of risk premium for then these private investors to come in and kind of underwrite the higher risk of backing kind of Canadian ecosystem managers.

35:06And the funds of funds are not Canada only, but they have a Canadian allocation definitely. And so I think that those kinds of programs just create a lot more of a dynamic ecosystem. I spoke to a fund manager the other day who's at, he has multiple funder funds, European funder funds in his LP base. And he's at Andreas. Isomer were the only funder fund that came through and finally ended up investing what they had committed. The rest, you know, and I was like, wow. And I think, like, I know these guys are great people. They're all hustling and doing everything they can. But the fact is that it's very difficult to raise a fund of fund in Europe.

35:53And then we end up in this situation, which is super bad. I mean, effectively, what you see happening is these U.S. institutions that then have the funds of funds, right? And they'll have some European allocation. But again, I think it's a shame to not have more ISMRs and like across stages, right? That can really like an easy go-to. and they can be, as we were saying at the beginning of the podcast, they can be an amazing way for family offices or whichever institution doesn't have a VC strategy to kind of get started within that world. To be fair, I should add that Isomer did come in with the full amount, but it did take longer than first expected.

36:32So I don't want to leave out part of the story because I'm a venture partner and make it sound like they were incredible. They're all hustling. We're all doing our best. in the end. Yeah, I think as long as it's not, you know, like a two year process, even like a year, right? Like these things can be quite long. As long as you're able to move relatively quickly, you know, plus or minus a few weeks won't make it, won't break the bank, you know. But this is that this is any fundraiser knows, you know, you really need to hurt your LPs because otherwise it's. Yeah, it's it's an art. It's a science and an art in terms of, you know, even just if you think about like building the top of funnel and like converting conversations and everything, you almost want to be scientific about how you go about it.

37:13But ultimately, the art of the selling and the closing, yeah, it's a pretty meticulous one. Okay. So now let's pick up the pace a bit because we have stayed on this topic for quite some time, but it's rare that we have someone on the podcast that has seen both the LP side and the VC side. And at the same time, also the North American side and the European. So this was a very, interesting perspective to bring. So I wanted to stay there a bit. But you're other than that. So let's hear a bit about Mike. Who is Mike McGrath? What kind of what has shaped you? How are you thinking about life? So Mike is a former simile entrepreneur in the sense that I come from a family of entrepreneurs.

38:00And I've seen both extremes. So my mom has had her magazine that she's been publishing for almost 25 years now. And it's like, you know, slow and steady. She has an employee and a half and it kind of pays for the bills and is this great magazine about well-being in Quebec. And my dad was on the other end of the spectrum, a scale of graph database business 15 years ago, which ultimately didn't work out. And what it means though, is it means that I've really kind of lived, you know, not directly because they were my parents. So they're the one with a lot of responsibilities, right? But I've seen what it is to be an entrepreneur.

38:34I've seen the impact on the family. I've helped them on a bunch of projects and whatnot. And the funny story on this is that, you know, while my father's business didn't work out and grab database because he was a bit too early. The other person that started a graph database around 15 years ago was Emil at Neo4j. And then I know he ended up investing a lot of money in the business 12 years after my dad's business didn't work. So it was full circle. But no, I think I'm basically, you know, coming from this entrepreneurial world, but now kind of supporting other entrepreneurs and the families that are associated with it being a venture capitalist.

39:09Yeah. And having seen your dad's journey, also know you'll want a portfolio. Yeah, that's exactly. I adored the diversification of being an investor. That's probably, you know, that experience as a family probably lowered my risk tolerance a little bit, unfortunately, but I still just couldn't get away. Like I started my career in private equity and I was just very bored. I love the people I was working with, but I was investing in, you know, like$300 million check. And so you basically put it and you hope that they manage it well. And you kind of are so far from the business compared to how closely we work with our entrepreneurs here at Inovia.

39:44And so I love to feel the excitement of it, but I appreciate having a more diversified portfolio to your point. Yeah, I think that's wise. You have two sayings that mean a lot to you. I just want to preface it with, because you're saying that it's very Canadian of you, but I also think that those two statements are also a good explainer of why you're in venture. So let's get your two statements. Yeah, I guess the context to it also. So the partner here at Inovia in London is the former CFO at Google. His name is Patrick, and he's just this, again, I'm biased, right? But like amazing human being, comes from rag to riches.

40:25He was born in the poorest neighborhood in Montreal and kind of studied and grew to become the CFO at Google. So obviously did very well for himself. And he's been my mentor for the last almost seven years. And some of the things that really stuck with me that Patrick taught me over time was, one, when in doubt, be generous. And then two, life is long and the world is small. Right. So I think, again, my my kind of tongue in cheek saying this is very Canadian of just wanting to do the right thing. But I've just realized that doing stuff to help people, which, you know, in VC, there's a lot of that to be done.

40:58and without expecting anything ever, but ultimately just seeing how it actually might pay off tenfold further down the road without, you know, having invested in that has been really powerful. And so I just really invest in what we call serendipity now, right? Like just doing the right thing. And at some point it'll come back. Renters are the hippie parts of private equity, as I say. That's what my PE friends tell me as well. Yeah, yeah. Well, we're also pioneering self-work retreats where we do yoga and shit. So yes, that's very much. We deserve the title. Yes. And we're doing everything we can to live up to it.

41:38Yeah. Let's rush into your three biggest learnings and venture. You're a young guy, but you've made some realizations already. So let's get into them. Yeah. So quickly, as I said, Inovio is the biggest firm in Canada, right? So ultimately, a lot of stuff comes to us just directly. And so for me, what I learned early on when I moved to Europe was I just need to get out there, right? It's not going to be about inbound because we don't have a brand. The brand was Patrick and myself. I do think we have a valuable kind of offering to founders. But whereas I was expecting or hoping a lot of inbound and I could just sit there and kind of get all the best deals.

42:13Ultimately, I just learned that I need to hustle. And it's something that I had a bit of an ego at first and kind of getting turned down, be it by founders or LPs was just like, oh, really? And then especially, again, working at a big Canadian pension where you have all the money in the world. And then I just learned that it doesn't really matter. And if anything, I enjoy the hustle of it, right? And kind of going out there. And ultimately, that also just came with believing that, hey, what we're bringing to these people is valuable. So you should hear it, right? Like it's kind of going out there and preaching that we should speak.

42:45And so, yeah, kind of letting go of the ego, getting out there, just trying to get in front of people was just a really fun journey that I enjoy a lot now. I guess the other one, coming from a private equity background, I was very almost like financial modeling and spreadsheets and this and that. But I've learned that it's only going to ever take you so far. And I've been super lucky to be mentored by Patrick. At Google, he grew it from, I think he joined at$20 billion in revenue and scaled it to$75 billion. And so there's only so many people that have that kind of experience. And for the record, he was also on the board when Twitter was bought by Elon Musk.

43:23And so has a lot of interesting stories. But yeah, so I've learned with him that ultimately, you know, like I needed to take my P hat off. And KPIs matters and all that kind of stuff. Financial metrics matter, right? But ultimately, spreadsheets are really only like a 2D representation of a 3D reality, right? Like there's people behind the numbers. And like understanding what those numbers mean in terms of operations, in terms of where people are coming in, where they're spending their time has made the job a lot more fun for me. And I think has been more enjoyable for founders also in the conversations that we have, right?

43:52Because they see that I care about the business. And I guess the last one, which is just very specific or quite specific to this environment is really the importance of optionality and kind of thinking about what's the path to liquidity. And liquidity, it doesn't mean necessarily exit, right? Even for the founders. but I came into VC being like, oh, my parents are entrepreneurs. We should just be super entrepreneur friendly and we're investor forever. And we're always going to be there. But the reality is one, there's always a bigger fish, right? So we have LPs who we have fiduciary duties to when we need to return capital, especially if we want them to give capital back to us and our next funds and everything.

44:29I'm personally feeling that also I'm an LP in Inovia and across quite a few funds and capital calls are starting to add up. And so I'm like, at some point we need to return capital, right? That's just the kind of circle of life of VC, if you will. But equally, I think it doesn't have to mean abandoning the founders either or forcing decisions that feel unnatural, right? Like there's a growing secondary market out there that can allow VCs to kind of exit relatively gracefully. There's also continuation vehicles. There's all sorts of different strategies. And even an IPO doesn't mean we have to sell, right?

45:02We IPO'd Lightspeed in early 2019 and we're still shareholders today. And so to us, it's really about thinking, how do we align all the stakeholders? And quite often that's going to mean liquidity for the investors further down the road. Yeah. And that is definitely something that we are all learning in venture. Let's rush on to your strongly held belief that you've had to change your mind on. This one had you struggling a bit when I asked you. Yeah, it did. I don't know. I went more of a philosophical route or something about well-being. And it's something that I've just been thinking a lot about over the last year because we're a small team in Europe, right?

45:40It's almost like a mini startup, right? It's entrepreneurial in terms of launching a new country and building all these processes and everything. So as people would know, when you're in VC and even more so when you're in a startup, it's always about prioritization and where do you spend your time? And for me, the saying goes like, time is your most valuable resource. I've just realized, yes, but headspace is even more valuable, right? Because you might have time, but if your time is spent thinking about what you need to be doing or listening to something and whatnot, and you kind of lose that time to think, that's where I think you start to feel overwhelmed.

46:14And so for me, it's just been really a realization of I need to protect my headspace. And I used to have this behavior of always, I don't know if I'm walking or if I'm going something or if I have downtime to always like listen to music, an audio book, a podcast, and nothing against podcasts, because people should listen to this and others. But I've found that creating my quiet time really just to think and like be on the tube and don't listen to music, for example, is actually really nice and really valuable for just my own mental wellbeing. That's very true. As I said earlier, we're doing these self-retreats or self-work retreats.

46:49And one of my realizations was, ah, wait a second. Now I know why my wife has been saying, you're here, but you're not here, honey. Exactly. realize ah wait a second exactly that's headspace right yeah because i was i was bitching to her about uh you know me not putting in as many hours as i have before in my life now that we have kids and one of them requiring more time than than than what one one might have planned for um and and then i'm like i'm here all the time man and now i realize hey wait a second maybe i wasn't So yeah, some grounding techniques, some things that allow us to be where we are fully present, I think is very important for all of us to get into.

47:32Yeah, a good saying for anyone is this guy said, in the moment, you can say these are the good old days. And the thinking just being you're going to look back on today being like these were the good old days, right? But you're living the good old days every day. And so just to ground yourself in being, okay, I'm with my wife and my children, right? These are going to be the good old days eventually. So just make sure you appreciate them in the moment. Yeah, that's very, very true. Yeah, something we all struggle to make sure that we live by because it's so easy to get caught up. Speaking of getting caught up, let's move on to top tips for VCs fundraising.

48:09An easy one, right? Start yesterday. So, you know, VC relationships take or LP relationships take years to build. And that's on both sides, right? You want LPs that are going to be supportive, that are going to be there for the long term. So you don't want just a quick check and a goodbye in a lot of instances. And the other thing that's important, again, very tactically for the people that are going out there to build relationships, this year for us, as part of the European fundraising strategy, we said, okay, let's try to go to conferences and see how valuable they are. And very quickly, we learned you need to prepare for conferences months in advance.

48:44There's one I started reaching out two months in advance and LPs would tell me, oh, sorry, my schedule is already full. And some people already had time and whatnot, but just like the amount of outreach that they get. And I speak to my LP friends and they tell me the same thing, right? It's just like a tsunami of outreach. And so start long in advance and make sure that you also kind of customize your email and saying, here's why I think I'm actually valuable for you because you want to do the homework for them almost in a way. Yeah, you definitely have to. And then on top of it, you know, the LPs that actually go to VC conferences or tech conferences are far and in between.

49:19And they're heavily shared between VCs. So it's like they are coveted. Yeah, I've seen the trick that they do usually. You know it's an LP if they seem to have done it, like to turn their little like lanyard so that you can't see their name or their LP tag. You know, that's probably an LP because, you know, they just get kind of swarmed if they show it. so that I've learned that this is a technique used by many. Yeah, yeah. And it is very true, yes. All right, know your LP as well as your second advice. Yeah, I mean, again, it's just about saying, you know, am I relevant to you or am I like personally even spending the right amount of time on the right relationships?

49:59And for us, there's also the extra layer of because we have a North American strategy, what we didn't realize early on is that we talked to some European teams, but that had US counterparts. And so we invest a lot of energy and kind of, okay, like these people are great people. We get along, they get the story and whatnot. But then when it's actually kind of game day and they need to make a decision on Inovia, we realize that because we're two thirds North America, we fall into their North American bucket. And so their colleagues in the US are the ones taking the decision. And then from a relationship perspective, we're back to square one, right?

50:33It's not ill intent. It's nothing bad. But it's something that we didn't spend enough time understanding their own processes, their own own appetite, their own strategies, and that we're just back to square one in terms of that kind of pitching relationship. And they're going to say a good word, right? But it's still very different if you're pitching someone that's never met you before. I would add to your sentence so that it's not know your LPs well, but know your potential LPs well. Because it's that part of, there are so many that could be LPs. There's not a lot that will be LPs. So it's really important for you as a VC fundraising that you try and as quick as possible figure out if this LP is actually a match for you.

51:14And you don't do that just to correct some because we've spoken a lot about this topic on the podcast. And it seems like maybe we've given the wrong advice because there's a lot of VCs out there that then rush to understand the decision-making process and how do we move through this gate and who's in the IC and when do you have your next IC meeting? when can we expect xyz yeah like you don't ask those questions first date uh no you try and figure out who they are first and what they're interested in and then at some point it makes sense to talk process and make sure that you you're you are aligning your process with theirs but to begin with you don't want to ask those questions you want yeah it's like asking about marriage or children on the first date right like i i mean i haven't dated in a while but like it it feels a bit premature.

52:02Yeah. I described it in another podcast less nicely because I described it as talking about which position during intercourse you prefer. Yeah, I went the PG-13 route, but thank you for saving that. Well, I blew it anyway. Finally, so speaking of intercourse, your third and final advice is do the work for them. Yeah, exactly. There you go. Perfect segue. I won't even go deeper on the analogy there, but from a fundraising perspective, and again, that's from, you know, my time when I was an LP, my time fundraising, but also just the conversations I have with other LP friends of mine, they get so much noise in the ecosystem that it needs to be very straightforward for them to be able to make a decision, right?

52:48So the art that we were talking about in terms of how do you close an LP and how do you kind of herd them towards something? If, for example, I mean, if all your funds are 10x and kind of super strong DPI and whatnot, like that's going to be relatively straightforward if it if you're not there yet right because it takes time to get there be it fun one two three and whatnot just make sure you you you make it as easily digestible as possible for them so the example of the canadian deck that i did for this canadian pension to educate them other examples could be if you have kind of good returns on paper but you obviously the fund is still maturing and just like actually charting the path to like okay here's how the fund is going to be a four or five x here's the companies that are actually mostly driving it and whatnot and making it really easy for them to actually arrive to the conclusions you want them to arrive to it's definitely worth your time like don't think that they're going to do it on their own because because they just don't have the time for it yeah i couldn't couldn't be more in agreement mike thank you so much for coming on the podcast i'm so happy that we got to know each other yeah likewise this was a lot of fun thanks for having me.