Investor Spotlight: Tyler Morgan, BFG Partners

25:06And by that, I mean category diversification, stage diversification, and then just continuing to bet on our winners, right? And so our goal at the end of the day is we're a fiduciary. We are here to make money for our LPs. And that looks like liquidity events. You know, there's some instances where there's distributions and things like that along the way, but 95 % of that value is going to be created from liquidity events. And 98 % of the time, that's a strategic exit to either a private equity sponsor or a strategic. And sometimes these companies IPO, but it's very rare. And so what does that mean?

25:44It means setting up these businesses for success along the way. Our, you know, inside baseball, our fund is a 10-year fund life with a couple of year extensions. So, you know, in general, we're thinking we have 10 years to get in and out of most of these businesses with the bell curve generally being the expectation is that it's a little bit less time than that. And so the goalposts in terms of the strategic exit have certainly changed since in the decade that I've been doing this, right? I think when we sold Chameleon Cold Brew to Nestle, that would be considered an extremely subscale business, particularly in ready-to-drink beverage, compared to what is expected of R2D beverage brands now to get to an exit.

26:27Not to mention the fact that I don't think Nestle has any interest in acquiring for R2D beverage businesses right now. much more focused on Nephle Health Sciences and things like supplements. So, you know, the goalposts are always changing. The strategic acquirer perspective, who has just bought major, major acquisition and is trying to service, you know,$10 billion worth of debt, who is divesting their ice cream businesses and no longer looking at the frozen category. So there's all those things to consider when you're trying to sell a business. But then there's the pure financial metrics of the company, which have moved upwards.

27:02since I've been doing this, at least. You know, I think what used to be$50 million in breakeven to get the attention is now$125 million in 15 % EBITDA. And that's just the reality is, you know, these things are so critical. Sometimes they swing back, but I think in general, some of these failed acquisitions that were made between 2017 and 2022 for some of these strategics have made them realize that, you know, they don't need to pay$600 million for a company that's losing$40 million a year. I think the squeeze on consumer businesses or the expectations have gotten higher across the board. I think even on the retail side, I think retailers are realizing just because you got some venture funding doesn't mean you're going to be a knockout brand.

27:45Like it used to be a little bit more of a signal of success that you were going to catch on fire. And now I don't think that's the case. I think proving out that you're going to be a brand that has some longevity is becoming increasingly important to retailers, to strategics and therefore to investors as well. Whereas I think we saw some crazy wild times for a little bit. Yeah, I think keeping a pulse on kind of end to end how every player that's a piece of the industry puzzle is thinking and working is really helpful for founders to understand where their best narrative or goals should kind of align to scale and succeed in their business outside of, of course, focusing on their customer.

28:26Yeah, exactly. Kind of pivoting a little bit to your diligence process, could you maybe give a brief overview of from your first conversation through to investment? What do you like to see throughout the process that gets you really excited about a brand? Yeah, I'm happy to chat about that. Again, like all things, everything's a little bit nuanced. And there's some deals that move really quickly that are really hot and everybody wants to be a part of them. And we're at the mercy of that brand's timeline and we're OK with that. in other times and how we prefer to work is slowly over sometimes years you know I'm building relationships with founders that are too small for us right now but in the hopes that I can be helpful and they call me when they want to raise their series a right even though their seed was a little bit too early for us so that process really starts like hopefully like long before you're ready to raise capital from someone like us and I would encourage folks to can you know always reach out to folks like us to have the conversation so I know you who you are and you know who I am long before that funding conversation takes place.

29:26But, you know, as far as the kind of direct process of raising money, you know, if a brand reaches out, I'll have a 30-minute intro call. If there's materials, I'll review those. And then, you know, I think it's much more relationship-based a lot of the times than it is purely financial metric-based. Some of these businesses are really early. They have 6 to 18 months of operating history. It's not like we're doing, you know, advanced DCF modeling here to understand, you know, future cash flows. There's usually no future cash flows at the time of investment. So it's a relationship and we place a lot of importance on that.

30:00I think hopefully we've developed a reputation in the industry of being people that are really easy and good to work with as thoughtful partners. I think that's part of our differentiation. It's a little bit intangible, but I think it's true. And so how does that first conversation go? How well do you know your company? How authentic are you and passionate are you about the business? which is usually very because we're in consumer and most of these companies get started because of some personal issue that they're trying to solve, which is always so fun to talk to founders about. And then from there, review your data room.

30:32And, you know, I think that's an important step for us because more so than like digging into the financial metrics, it's how is that information presented? I think it says a lot about the company. And, you know, I would encourage founders to have, again, like I keep saying this, but a deep understanding of your financial metrics and why you're making the certain assumptions that you are. If you send me a model that says, you know, your gross margin is going to double over the next 24 months, you know, you better have an answer as to why other than we're just going to get bigger. It looks good on the spreadsheet.

31:06Yeah, exactly. And so during that process, it's going to be one or a couple of weeks, and then we'll get back on the phone, usually with more of my team. or a small team. And, you know, before we make an investment, you know, there's several conversations where everybody on the team is involved. You know, I'd like to meet more of the founder's team and who are the key players besides yourself that are making this thing work. And then, you know, once we get to a term sheet, it can be anywhere from, I don't know, 30 days to 90 days, depending on how complex it is. If you don't have formation documents and you're doing a price trial, we'll need to set up a stock purchase agreement and investor rights agreement.

31:43And, you know, that takes lawyers doing lawyer things for lawyer amounts of money. Hopefully we can usually keep those to a minimum. That's really helpful. And I think you've kind of emphasized throughout your explanation the importance of just being a really controlled, I guess, entrepreneur where you feel really comfortable in the chair. You feel like you have a good understanding of all the different aspects of your business and can communicate it clearly. And to be clear, like we're not expecting you to know all the answers. Right. But some of the best founders have a very clear understanding of what they don't know and are authentic and honest about that.

32:18And the very best founders are great at finding people that can do what they can't to surround themselves with. And so that's something that we certainly look for. Yeah, I think that's great advice as well. I think it can be intimidating, like especially a lot of founders maybe don't have finance experience. They're working with additional outside help or they're kind of trying to learn it as they go. How much weight do you put in to forecasted financials versus historical financials when it's coming from a company side? And any advice you can share on when they're trying to think through what to show you there?

32:49Yeah, I mean, the only thing that's ever right about the model is nothing. And so it's more about the process, right? It's what are the inputs and what are the assumptions? And the more operating history you have, the easier it is to extrapolate those assumptions, right? If you're in Sprouts turning at five units per superstore per week, it's a lot easier for me to believe the assumption that once you go into Whole Foods, the Whole Foods turns will be 50 to 100 percent better than Sprouts. That's just generally extrapolated across most of the deals we've seen. That is the ratio that we see from Sprouts to Whole Foods.

33:24So like what are your assumptions and how did you go about making them? It's more so than like what's the output of the modeling, right? It's kind of like, what are the inputs? And we generally just like to see that bottoms up build rather than top down. It's not like, okay, we want to go 200 % next year. Let's make these numbers work for that. It's more like, okay, we think we can get into a thousand doors. We've got an 80 % probability of making that happen. We assume that we're going to do five units per scoop per store per week, but we're haircutted at four units per scoop per square per week.

33:55And, you know, there's digital metrics along the way that kind of mirror some of those. But yeah, it's that process. and how thoughtful you are about putting that together. You know, there's, I can count on one or two hands the amount of times that, you know, the model has been very accurate as to what actually happens. And sometimes if it is, you know, from a top line perspective, right, the inner workings of what channel made up what and how, you know, how fast things grew was very different than what was assumed. Investing would be a lot easier if modeling was a crystal ball. And I think even on the investing side, you know, Obviously, that's a core competency of an investor, especially the later stage you are, the more you probably focus and put weight on it, as you mentioned with the DCFs.

34:40But I would say even then, it's educated best guesses with as much rigor and education as you can get. I think it's very intimidating for most founders who maybe haven't ever even seen a model or they hear that you're building a model off of their company to understand what that means. But I think as you're describing, going through your company from the top of your P &L, starting with retail sales all the way down to the bottom and really focusing on, first of all, what are the levers that are currently driving my revenue and how is that going to change with capital or with time or with whatever milestones are coming up?

35:15and then how are all the rest of the factors of my P &L influence and how does that work together and what is that telling me? It's really just trying to understand the future story of your business through financials. And I don't think anyone's trying to trip you up on the investor side or get you caught with your pants down when they're asking you to model your business. They're just trying to understand a really nuanced understanding of how your business works and how you're thinking about growing your business from the language that they speak. Yeah, and that's definitely right. And, you know, a lot of the time there's unknowns.

35:43You know, if you're only a direct-to-consumer business and you're thinking about going into retail, there's a lot of assumptions you have to make. But, you know, what is not an assumption is how much it costs to make your product and how much you think you can sell it wholesale to a distributor for. So it's like, you know, there's things that you know that you know. And what do you have to make work from a retail perspective to be able to sell that product profitably, for example? A lot of founders sometimes have questions about when to get an investment banker or a third party involved in trying to get a fundraise process done.

36:18Obviously, on the later stage, that's very typical. But on the earlier stage, I would say much less so. What's your perspective on the inflection point of when that happens and how many deals that you're doing have that kind of intermediary as part of the process? Yeah, I'd say we're generally investing fairly early. You know, fundraisers 15 million and below. I'd say it's rare to see a fundraise shopped by a banker at that size. And I think it is candidly a bit of a red flag. You know, I think that if you're a company raising three to five million dollars, there's a network of folks that are writing those kinds of checks.

36:58I would question the banker's motives, just given their fee structure on doing a deal of that size, just because they're a middleman. And at the end of the day, we want as much of this money to go towards the running the business as possible. And at that early stage, we don't believe that there's much value in having a banker shop your business. And, you know, if I get on the phone and it's a banker telling me about a$5 million company versus a founder, I'm questioning, you know, why isn't the founder here to tell me their own story of a business that's clearly very new because they're only, you know,$5 million in sales.

37:37Also, another question dovetailing off of this, a lot of times founders are not sure how to approach the founder's salary portion of fundraising and hoping to maybe acquire some form of a salary or some different pay structure for themselves as part of the process. Do you have any thoughts on, if you were a founder, how you might think about approaching something like that or just in general through your experiences? It's a great question. You know, if they're going out to raise their first institutional round of capital, maybe they've raised friends and family money or maybe they've bootstrapped it to where they've been totally understandable to want to pay yourself after you raise some investor capital.

38:16And we're certainly okay with that. But we also have an understanding is that you're still going to own 70 to 90 % of this company after we're done with this fundraising. And most of your value is going to be derived from that equity. So if you want to, you know, if you're a$5 million business and you want to start paying yourself$350 ,000 a year, that's a bit of a red flag for us. Just because we want to understand that you're bought in for the timeline it takes to go and build and sell this company just as we are. Because obviously we don't derive any financial value until there's a liquidity event either.

38:51So, you know, it's a great way for us to hold hands as an investor and strategic partner to a founder. That said, you know, if people have different life experiences, you might have a kid, you might be trying to send folks to college. We want you to be able to have a comfortable lifestyle where you can live your life and focus on building the company and not have to worry about day-to-day finances. That number looks different from founder to founder. That's really helpful. And I think, you know, a question we often get asked or try to ask is how to evaluate an investment partner, you know, flip the script and understand what makes a right investment partner for you.

39:26So I hope some of these questions have highlighted some of your answers, the way that investor can really approach partnership, but would love to ask you the question directly. What kind of question specifically, if you were a founder, knowing what you know on the other side, what would you be asking firms as you were going through the process? Yeah, I mean, number one, I'd want to speak to our portfolio companies, right? I mean, I think we ask for references when we're doing diligence on a business and you should too. And there's no better way to understand how we work with founders than speaking to the founders that we're already working with.

39:59And, you know, hopefully those are our biggest advocates, right? You know, we give a lot of deal flow sent from our current founders. And hopefully that's a testament of the kind of relationship that we've built from them. I think that's my number one is, you know, there's going to be no better or, you know, unbiased. You know, sometimes it's biased, sometimes it's biased bad, sometimes it's biased good. But I think it's a very telling look into how we work with founders and young businesses. You know, I'd ask what communication structure that, you know, we typically prefer. Are we in your face every day?

40:32Are we, you know, trying to take sales calls for you? You know, we're minority investor in every business that we work with. we're betting on founders to continue to lead these companies we want to be a strategic thought partner along the way sometimes a board member you know we like saying we want to be the first call with good news or bad news so we want that so that you can call us and tell us something that's going wrong just as easily as you can call us and tell us something that went right you know and from a communication standpoint we typically work on a like a fairly set schedule we're reviewing monthly financials on a monthly call after the company's had time to close that month.

41:06Those are all like retroactive looking. And, you know, what did we say we were going to do? What do we do? What was the variance and where did that variance come from? And then quarterly board meetings where those are much more strategic and forward looking, right? We've done the monthly calls to understand the financial detail and board meetings should be about the future and strategic decisions, innovation, hiring, things like that. And so, you know, as I was a founder asking how, what it's like to work with us, I would ask like, what's our communication structure, how easy it is to get a hold of you?

41:36Who are the people in the organization that I'm going to be working with? Is it one person? Is it multiple people? Are you going to switch board numbers on me halfway through the investment period? Things like that. As you know, Startup CPG has the largest Slack community in the industry with now over 30 ,000 members. I'd love to pull a question directly from our channel and have you answer it as a case study for any founders that may have a similar question. The recent question was, when you're an earlier stage startup, how do you bridge the gap between launch and being able to show traction in fundraising.

42:06Essentially, how can you get a deal done when you're pre-revenue? Yeah, you know, it's a good question. And like everything, it's a bit of a nuanced answer. As a traditional, let's choose food and beverage product. It's hard. It's unquestionably hard to raise money as a pre-revenue business because you're funding off of an idea. I think it comes back to some of these fundamentals, right? There are certain categories within consumer that merit venture capital backing more than others. And some of that has to do with keggers and growth within those specific categories. Some of that has to do with the size of the category.

42:44We think energy drinks is a$20 billion category in this country. This is like an astronomical number. That building a business in that category is extremely competitive. It's extremely expensive. And there's a huge potential outcome. That's why you see so many launches in that category and frankly, so much success for some of these newer businesses. The idea of having a billion dollar outcome in that category makes a lot more sense than having a, you know, a venture capital type of outcome in a whipped honey business where you might be have an incredible product. If you don't know how many times I've gone to Expo West in my life and thought to myself, I am a consumer of this product, but it should not be raising venture capital money just from the size of the category.

43:30So I think you need to think of yourself and be able to explain, are you starting a business in a category that merits a venture capitalist getting excited about being involved? and that's the growth of the category or the size of the category or you're building something novel enough that you're creating a new category and that requires venture capital money because you need to do something that's technically really never been done before you're building a category or it requires significant money to build ip from a product or manufacturing standpoint or you know you're you're doing something so novel that it's going to take a little bit of money and a little bit of time for the market to catch up.

44:13And, you know, some of those times, those are ideas that folks like us get really excited about, but it's also a little bit nebulous and harder to define. You know, I think a good example is, you know, when we funded Olipop, you know, the business had barely any revenue, but the founders had created OB before, which was cold chain distribution in glass. And they had a clear understanding of what they wanted to do a second time because that first business didn't work. When we did our modeling and our investment thesis, you know, we had a thesis around fiber, and it was in a more interesting way than Metamucil to get young people to drink and have more fiber in their life.

44:51We didn't necessarily view it as a replacement for soda, and it ended up being a much larger opportunity really than any of us thought it was, and they created an entire category around it that's, you know, now over a billion at retail. And so building in categories or being able to tell a story of what this is now versus what it could become, I think is really interesting. You know, there are so many examples within consumer where there were deals that, you know, frankly, we missed, which happens a lot, because we didn't understand the vision of what the founder saw. And, you know, so much kudos to some of these folks.

45:31You know, I think Simple Mills comes to mind for us when we saw that it was a baking mix company pancakes. waffles. And we didn't understand her broader vision of what it could turn into and the behemoth that it became. And being able to tell that story really early and authentic and not kind of pie in the sky away can be, you know, a real difference maker when you're a founder that has no hard metrics or historical financials to go and raise against. I think those are great examples. And I love the anecdotes. I think to your earlier point of the importance of betting on strong founders, I think many businesses, whether they're VC funded or not, change and adapt as they grow and as the market receives them and as they get learnings and feedback.

46:15And, you know, you want to make sure that you're rolling with someone who is going to be able to capitalize on that or pivot if needed or, you know, move and groove as they need to. And maybe the vision does change a little bit, but you're kind of betting on that person being able to drive the vision accordingly. So, yeah, I think that's really interesting. Yeah, I mean, that's so interesting. You think of what's become clear about doing this for 11 years is that I really have no idea a lot of the times what's going to end up working. And, you know, some of these concepts that I really didn't see working just out of pure execution and willpower have been able to work incredibly well, whether it's completely novel concepts or concepts that frankly aren't that novel, that you were able to just find your niche customer and build an incredible brand with really strong economics and just build from there.

47:10There's so many examples across consumer of things that work that I didn't necessarily think would work. So I guess that's another piece of advice is just because you get a no from someone like us does not mean you don't have a good idea. I think that's a great reminder. You know, investors, I hope people realize through these podcasts too, investors are humans. There's human error in everything. And there could be a lot of external factors why something isn't necessarily the right time, right place, right fit. it's just because the first date didn't go well doesn't mean that person doesn't deserve to be in a relationship so it just isn't always um yeah the right fit or it wasn't always your best day as a founder before we wrap up i know we're coming up on time i want to take a second to make sure our audience can have an actionable next step to apply all this amazing knowledge to for founders that want to get in touch with you where can they find you or what is the best way for them to get in contact and then for operators or others looking to transition that might be interested in a role working directly with you all or investing in general, what advice would you have for them?

48:09Yeah, I mean, I guess starting with the first question, we have an email alias that all of my deal team reads. It's dealteam at bfgpartners.com. We review every deal that comes in through there. So always feel free to that. I'm on LinkedIn. Just search my name, Tyler Morgan. Always look at my LinkedIn DM. So those are definitely the two easiest way to get a hold of us for someone that wants to transition into investing. You know, it's I get that question a lot. Recent grads, iBankers reaching out. It is the venture teams are inherently small. You know, we're a team of seven that's up from a team of four, 10 years ago, right?

48:45So it's not like our team is doubling every year. Typically, when we go to raise a new fund, we might hire one or two more people. And that's generally the cycle that most of these funds worked on. So inherently, Apparently, hiring cycles are tough within venture. I'd say that as a kind of setting the stage. Others, you know, outside of just kind of reaching out and say, hey, I'd love to learn more about what you do and kind of how this process works. I think having an opinion and informed thesis around things will get you a lot more attention from folks. And again, these processes can take years.

49:18You know, I'm in touch with several folks that maybe came out of college or came out of a marketing role at a business and say, instead of saying, hey, I'd love to catch up. I say, hey, you know, I've been watching these three companies. Here's why I like them. I'd love to continue just to stay in touch. And I'm happy to kind of, you know, provide more updates as I either get in touch with the founders if you want an intro or, you know, I think providing value in some way goes a long way in kind of an industry like this. great pieces of advice I could talk to you all day Tyler I feel like you have a ton of knowledge to share and a lot of interesting thoughtful takes on things but I really appreciate you joining us today I'm sure our audience has really enjoyed the conversation as well and just want to say thank you so much for hopping on the podcast thanks so much for tuning in everyone if you like this episode show us some love with a five-star review at ratethispodcast.com startup cpg I'm Hannah Dittman podcast host and correspondent here at Startup CPG.

50:13I hope you'll join me again as we dig into more juicy topics like ops, finance, and all the real talk founders actually need. Come say hi on LinkedIn or ping me on Slack. I'm always eager to hear your questions or brainstorm future episode ideas. If you're a potential sponsor and want to get in on the fun and appear on the podcast, shoot us an email at partnerships at startupcpg.com. And last but not least, if you haven't already, don't miss out on our free Slack community for emerging brands and CPG lovers alike. Join us at StartupCPG.com. We'd love to have you. See you next time.