Yesterday we had the chance to catch up with Fabrice Grinda, a serial entrepreneur who co-founded the free classifieds site OLX – now owned by Prosus – and who has built his business over the past few years, FJ Labs. He often likens the outfit to an angel investor “on scale,” saying that, like many angel investors, “we don’t lead, we don’t price, we don’t take board seats. We decide after two one-hour meetings in the over the course of a week whether we invest or not.”
The outfit, which Grinda co-founded with entrepreneur Jose Marin, has certainly been busy. Although the debut fund was relatively small, it raised $50 million from a single limited partner in 2016 – Grinda says FJ Labs is now backed by a wide range of investors and has invested in 900 companies around the world by writing them checks of between $250,000 and $500,000 for a stake of typically 1% to 3 % in any.
In fact, the data provider PitchBook recently ranked FJ Labs as the most active venture outfit worldwide, just before the international outfit SOSV. (You can see Pitchbook’s rankings at the bottom of the page.)
Yesterday, Grinda suggested that the company could become even more active in 2023, as the market has cooled and founders are more interested in FJ Lab’s biggest promise to them – that it will bring them follow-up funding through its connections. of Grinda and its partners. While that promise may have been less compelling in a capital-flooded world, it’s likely become more attractive as investors pull out and founders face fewer options. Following excerpts from our extensive chat with Grinda, slightly edited for length.
TC: You make so many bets in exchange for a very small bet. In the meantime you have bet on companies like Flexport that have raised a lot of money. Don’t you get swept away by these deals as they raise round after round from other investors?
FC: It’s true that sometimes you go from 2% to 1% to 0.5%. But as long as a company gets out at 100 times that value, let’s say we put in $250,000 and it becomes $20 million, that’s fine. It doesn’t bother me if we get watered down on the way up.
When placing as many bets as FJ Labs, conflicts of interest seem inevitable. What is your policy on financing companies that may compete with each other?
We avoid investing in competitors. Sometimes we bet on the right horse or the wrong horse and that’s okay. We’ve made our bet. The only case where it happens is if we invest in two companies that are not competitive and do different things, but one flips in the other’s market. But otherwise we have a very Chinese wall policy. We do not share data from one company with another, even in an abstract way.
We shall invest in the same idea in different regions, but we will approve it by the founder first, because as you say, there are many companies that attract the same markets. We may even not take a call if a company is in the pre-seed or seed stage, or even A-stage if there are seven companies doing the same. We’re like, ‘You know what? We don’t feel comfortable making the bet because if we bet now, that’s our horse in the race forever.”
You said you didn’t have or wanted any board seats. Why is this your policy given what we see with FTX and other startups that don’t seem to have enough experienced VCs?
First of all, I think most people are well-intentioned and trustworthy, so I don’t focus on protecting the downside. The downside is that a company will go to zero and the upside is that it will go to 100 or 1,000 and will pay the losses. Are there cases where fraud has been committed in the preparation of the figures? Yes, but would I have identified it if I was on the board? I think the answer is no because VCs depend on numbers the founder gave them and what if someone gives you numbers that are wrong? It’s not like the board members of these companies would identify it.
My choice not to sit on boards is actually also a reflection of my personal history. When I led board meetings as a founder, I found them to be a useful reporting feature, but I didn’t find them to be the most interesting strategic conversations. Many of the most interesting conversations took place with other VCs or founders who had nothing to do with my company. So our approach is that if you as a founder want advice or feedback, we are here for you, although you should get in touch. I find that leads to more interesting and honest conversations than sitting in a formal board meeting, which feels suffocated.
The market has changed, many late stage investments have dried up. How active would you say some of those same investors are in previous deals?
They write some checks, but not a lot. Anyway, it’s not competitive with [FJ Labs] because these guys are writing a $7 million or $10 million series A check. The middle seed [round] we see is $3 million at a pre-money valuation of $9 million and $12 million post [money valuation], and we’re writing $250,000 checks as part of that. If you have a $1 billion or $2 billion fund, you’re not going to play in that pool. It’s too many deals you would have to close to deploy that capital.
Are you finally seeing an impact on the size and valuations of the early stage as a result of the broader downturn? Obviously it hit the later stage companies much faster.
We’re seeing a lot of companies that would have loved to raise another round — who have the traction that would have easily warranted another outer round a year or two or three years ago — instead have to raise a flat, internal round as an extension of their last round. We just invested in a company’s A3 round – so three extensions for the same price. Sometimes we give these companies a 10% or 15% or 20% raise to show they’ve grown. But these startups have grown 3x, 4x, 5x since their last round and they’re still rising flat, so there’s been massive multiples compression.
What about the death rates? So many companies raised money last year and the year before at too rich valuations. What do you see in your own portfolio?
Historically, we’ve made money on about 50% of the deals we’ve invested in, which equates to 300 exits, and we’ve made money because we’ve been price sensitive. But the number of deaths is increasing. We see a lot of acqui-hires and companies may be selling for less money than they raised. But many of the companies still have money until next year, so I suspect the real wave of fatalities will arrive by the middle of next year. The activity we’re seeing right now is consolidation, and it’s the weaker players in our portfolio that are being acquired. I saw one this morning where we got 88% back, another that returned 68% and another where we got between 1 and 1.5x of our money back. So that wave is coming, but it’s still six to nine months away.
What do you think about debt? I sometimes worry that founders are getting in over their heads because they think it’s relatively safe money.
Usually startups don’t [secure] debt to their A and B rounds, so the problem is usually not corporate debt. The problem is more the lines of credit, which depending on the business you are in, you should be using in full. For example, if you are a lender and you do factoring, you are not borrowing off the balance sheet. That is not scalable. As you grow your loan portfolio, you will need infinite equity, which will take you to zero. What usually happens when you’re a lender is you initially lend money off the balance sheet, then you get some family offices, some hedge funds, and finally a bank loan, and it gets cheaper and more scalable.
The problem arises in an environment of rising interest rates and an environment where the underlying credit scores – the models you use – may not be as high and not as successful as you might think. Those lines are drawn and your business could be at risk [as a result]. So I think a lot of the fintech companies that rely on these lines of credit are at existential risk because of that. It’s not because they went into more debt; it’s because the lines of credit they used could be withdrawn.
Meanwhile stock based companies [could also be in trouble]. With a direct-to-consumer business, you again don’t want to use equity to buy inventory, so you use credit, which makes sense. As long as you have a viable business model, people will put you in debt to fund your inventory. Then again, the cost of that debt goes up because interest rates rise. And as the insurers become more cautious, they may lower your line, in which case your ability to grow is actually diminished. So companies that depend on that to grow quickly will find themselves extremely limited and will have a hard time moving forward.
Image Credits: PitchBook
