Silicon Valley is just realizing that profitable companies are wise investments, but Austin-based Next Coast Ventures has a $130 million head-start in its second fund
- On Thursday, Austin-based Next Coast Ventures announced its second fund totaling $130 million, up from its first $85 million fund.
- The early-stage firm will lead Series A and Series B investments in startups outside of San Francisco and New York, filling a gap in mid-stage funding where many startups outside coastal markets struggle to gain traction.
- Next Coast cofounder and managing director Michael Smerklo told Business Insider that his Silicon Valley counterparts are only now realizing that growth at all costs isn't a sustainable business model after the collapse of WeWork and other disappointing exits like Uber.
- The increase in fund size aligns with the increase overall in early- and mid-stage investing, Smerklo said. Even outside of coastal markets, Series A and Series B rounds have grown substantially, and Next Coast wanted to participate without overcommitting a smaller fund.
- Starting a firm outside of Silicon Valley has forced Smerklo and cofounder Tom Ball to be scrappy and only focus on highly efficient investments, something that sets the firm up well in the case of an economic downturn.
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Times are changing, and Silicon Valley's venture capitalists are struggling to adjust. But outside firms that have always had to get scrappy are poised to cash in where Silicon Valley stalls.
Austin-based Next Coast Ventures is a prime example. The early-stage venture firm was founded by a reformed Silicon Valley VC and an Austin VC lifer in Tom Ball, and is one of the top firms investing in markets outside the coasts. The team stretched its firms $85 million fund across 30 seed and Series A investments over almost 4 years. That's the kind of efficiency some Silicon Valley firms can only dream of.
And on Thursday, Next Coast announced a fresh batch of ammunition. The firm announced its second fund totalling $130 million. Although the new funds will let the firm write larger checks, cofounder and managing director Michael Smerklo told Business Insider that he is just as committed to the same strategy that was so successful in the first fund.
"In Next Coast markets, there is a higher degree of focus on long-term efficiency," Smerklo said. "We don't back companies with high burn rates. We leave that to our peers in Silicon Valley. They're just better at that. That's not us."
Next Coast's sweet spot is in a $5 million to $10 million Series A or Series B, Smerklo said. Those investments are enough to lead the round and have meaningful ownership, but also not such a large check that it puts pressure on a company or entrepreneur to grow faster than is realistic.
It's a philosophy that may seem curious to investors and entrepreneurs on the coasts, where growth is paramount and capital abounds.
All that cheap money is also driving up costs of living, and some entrepreneurs are heading for the Texas hills to enjoy a more favorable business and recruiting environment. Add to that the chaotic flameouts of high-profile coastal startups like WeWork and disappointing exits from startups like Uber, and it's not a stretch to see why some people are questioning the Silicon Valley model.
"I think it's called business for a reason," Smerklo said. "I used to always say gross margins don't lie. Selling a nickel for 10 cents is an interesting business model. Giving away the product and hoping one day scale will make up for it, maybe Walmart and Amazon have done it, but not many others have worked over time. Maybe I'm old-fashioned, but we look at the unit economics. It's a strategic decision."
Uncertainty abounds in 2020
The next 12 months will see many more mature companies looking to break onto the national stage, Merklo said, and he thinks Next Coast is now prepared to make that happen. The Austin ecosystem has flourished in the earliest stages, and it's ready to hit its growth spurt.
"There's so much noise and clutter in the early stage that it takes more capital in later stage to really make a difference, and that's the zone we are playing in," Smerklo said. "It's exciting for entrepreneurs in Next Coast markets looking to do Series A to B, and that's the harder one, that's the gap we want to fill."
Next Coast also has investments in Utah, Montana, and Minnesota, according to Smerklo. In fact, 30% of its last fund went to markets outside its Austin homebase, and Smerklo intends to increase that ratio to 40% with the second fund. Many of these markets have lagged behind Silicon Valley in dollars invested and VCs themselves, but they are more robust in terms of weathering economic uncertainty, Smerklo said.
"We are supposed to be long-term investors, but it's hard not to look at short term indicators," Smerklo said. "We test any investment we make and ask how would this stand up in a different economic market. We are near the end of a bull market. There are a lot of companies that won't make it, but those aren't the investments we are making anyways."
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