Bessemer Venture Partners - Building a VC Firm that Lasts Centuries - [Invest Like the Best, EP.327]

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0:25 Operate smarter and stay ahead of the curve. See what Ridgeline can unlock for your firm. Schedule a demo at ridgeline.ai. Hello and welcome, everyone. I'm Patrick O'Shaughnessy, and this is Invest Like the Best. This show is an open ended exploration of markets, ideas, stories, and strategies that will help you better invest both your time and your money. Invest Like the Best is part of the Colossus family of podcasts, and you can access all our podcasts, including edited transcripts, show notes, and other resources to keep learning at joincolosis.com.

1:00 Patrick O'Shaughnessy is the CEO and founding partner of Positive Sum and the CEO of O'Shaughnessy Asset Management. All opinions expressed by Patrick and podcast guests are solely their own opinions and do not reflect the opinion of Positive Sum or O'Shaughnessy Asset Management. This podcast is for informational purposes only and should not be relied upon as a basis for investment decisions. Clients of Positive Sum or O'Shaughnessy Asset Management may maintain positions in the securities in this podcast. My guests this week are Jeremy Levine, Kent Bennett, and Brian Feinstein.

1:36 They are partners at one of the oldest and most storied venture firms in the world, Bessemer Venture Partners. Our conversation is split into two parts. First, we explore Bessemer itself. It's over 100 years old and has a unique operating model with lessons for every investment firm in the market. We then discussed Jeremy, Kent, and Brian's investing styles and outlook. What they look for in businesses, their thoughts on various sectors like vertical market software. And we close with a discussion about AI and defence ability.

2:02 Please enjoy this great conversation. The first voice you'll hear is Jeremy, then Kent, then Brian. And Jeremy Brian. Thank you so much for doing this together with me. I don't think I've ever done three people from the same firm at the same time. So this is kind of a fun experiment. And when we talked last time, we figured We'll give this a whirl and see how it goes.

2:21 And I think in this case it's gonna be really fun because Bessemer is such a storied It has such a long history. It also seems to be among the firms the one that it's most willing to evolve with the times.

2:33 change its investing style, change It's stripes change. how it thinks about presenting itself to the world. really easily through time. And so I'd love to spend the beginning chunk of our conversation.

2:44 on the firm itself. It's history, it's unique history. And why that allows you to do interesting things. as a partnership. Jeremy, maybe since you've been there so long, you could give the brief overview of Bessemer, maybe up to the point that you joined, and then we can all talk about the period since. The truth is

3:03 bit like an oral history, I suppose, because none of us was around or even born. When what became Best More Venture Partners started But as it's been told to me and therefore probably been massaged and edited over the years like all good oral histories, and therefore maybe ten percent of it is still truly true. When Andrew Carnegie

3:21 Henry Phipps and Henry Frick started Carnegie Steel together. They were three Scottish immigrants. And they commercialized The Bessemer process, which was invented by another Scottish individual

3:34 Then if you Well grade school in the United States, you probably studied the best more process in eighth grade US history. Which was essentially a way of making steel in high volumes really cost effectively. And these three entrepreneurs figure out how to actually build it.

3:48 And it works really well. And then eventually, I think by nineteen oh seven As Carnegie Steel was humming really well. JP Morgan got the bright idea to buy up all the steel companies, aggregate them into a single company called US Steel. And essentially create a monopoly.

4:01 Which of course led to the Sherman Antitrust Act, but that's a story for another show. And I think Carnegie ended up making four hundred million dollars in nineteen oh seven, which is an ungodly sum of money. even in today's terms, but a hundred and sixteen years ago, it was unfathomable. And Phipps Frick both did really well as well. Phipps is essentially the patriarch of the firm that we all were for today.

4:24 He took some of that money and put it in a special trust for his descendants with the goal of creating a really long term A family office. And he was a private individual. In great contrast with Carnegie, who put his name on everything he touched, Phipps even named his own family company.

4:40 Bessemer in a nod to the brilliant inventor who created the process that generated all of his wealth. And Phipps was a pretty good investor, too. And he ended up investing in what he called high risk, high growth opportunities in the early 1900s. And some of the first ones were companies like Ingersoll Rand. International Paper and W R Grace. And eventually over literally sixty years.

5:03 the companies migrated from Industrial. companies to technology companies as the IT industry was born in the seventies. And so what was essentially The

5:13 high risk, high growth department of a family office became best more venture partners formally in the nineteen seventies or maybe even early nineteen eighties, but there were basically a group of people, none of whom were family members, who are working for this family office, trying to generate Really good. long term compounded returns, investing in technology projects with enormous patience. And the family.

5:34 Who's a very close partner of ours today. Invest it in. Or with a really long time horizon, which suited them really well. And ended up driving fantastic performance because not many people have that sort of patience to be investing in five, ten, and twenty year projects. Regularly.

5:49 And it created this firm, which we're all part of today, with a very long term time horizon and a really stable Capital base. Because the family understood that yes. Performance goes up and down. through the years and through decades, but in the long run, and they now have a hundred and sixteen years of performance history to understand it.

6:07 really well if your patient doesn't invest her. So that's the short background. Today We are about two hundred people. We are about twenty investment partners. Who continue to work in the same way that our predecessors did for many decades for this one family. Although we have many causes that we support. They are essentially our LPs.

6:27 Other family offices, foundations, charities, hospitals, universities. The usual suspects. And we work in a highly disaggregated, empowered manner where each partner or team of folks can go make investment decisions as long as they're putting up a meaningful amount of their own capital and their LP's capital at the same time. to hopefully invest in the next great

6:48 Technological invention. Or trend or business. So that's sort of Bessemer in a nutshell, but maybe Cancer Brian can supplement that with more interesting tidbits. What I might

6:58 Chip in So Your starting question is There is a ton of historical irreverence.

7:04 While we really benefit from that. history in this strong capital base. We're also feel constantly free to rethink the entire model because nobody here owns it. There's no founder.

7:16 who we look at and think, Well, you don't want to offend so and so in the corner office. By questioning the way we did that thing. our sort of historian in chief when I joined was a partner named Phil DeHardyman. And he was actually a professor at the business school at Harvard. And he's just a hoot. And he was

7:32 the first to make fun of the traditions that we had and just constantly question everything. So I think there's A long tradition. This is how we've done it for years and years. It's probably somewhat wrong. Let's rethink it all the time. And

7:44 In the fifteen years I've been here our operating has changed in several major ways. We spend a lot of time studying the I guess I'll call them like the heritage brands, the Hermesas and the Rolexes of the World. And I've always been interested by

7:58 The degree to which time cannot be accelerated. Like you need a certain amount of history and time to really build these incredible brands. Maybe someone can do it faster, but for the most part, these brands are extremely old. I wonder if there's something like that. And whether or not you think there's something like that at play Here with Bessemer.

8:16 Venture as an industry isn't that old. And there just really aren't that many investment firms that are as old as this one. How does that heritage Impact. The organizational structure

8:27 The partnership. how things work, who's attracted to come work there. Doesn't have a big Day to day year to year impact or Had it been started twenty years ago, it'd be in roughly the same place.

8:38 I think the important Part. Is that there's no owner here. Who was the founder? I don't think people sign up to work here because Bessemer is 116 years old. In some ways that can be like a bit of a marketing challenge because

8:52 Cool young entrepreneurs don't necessarily Want to emulate what was done in the steel industry days. hundred years ago. But I think the much more important thing is that we have an operating system here that's just set up to sort of endure past any one individual.

9:05 And that leads to lots of healthy characteristics of how we recruit people, how we develop them over time, how we promote them. And all of that, I think's really stabilizing stuff. That makes the machine work. We just feel incredibly fortunate.

9:19 to have been given this platform by the prior generation. When someone hands something over to you you're the beneficiary of it and you're able to build a great career and do incredible things. You just feel enormous responsibility to hand it over to the next generation. And I think that's how the longevity comes into play.

9:36 Do you describe literally how the firm works then like I'm curious about Without a founder. really even in the visible history of the business, a leader, right, that started the thing. How does then a group of twenty partners organize themselves?

9:50 And get things done. You read about like valve software or something like there's interesting examples of different organizational structures and how they work. What's Bessemer's equivalent? I'll start.

10:01 I think can't Point set. No one owns it. is matched in importance by the fact that no one runs it. And by it, I mean something really specific, which is

10:10 the investment decision making process. And so we essentially split everything into one of two buckets. The core of investing? actually making investment decisions and everything else. The everything else part. Looks much more like

10:23 a what I'll call traditional company. We call it our infrastructure team. It's run by a person. Her name is Sandy Grippo. She's fantastic. And it has the functions of a more typical company. There's a finance function and a marketing function and so forth.

10:37 On the investing side, it's pretty unique. And that nobody is in charge. And so one of the things I like to mentioned to entrepreneurs When I talk about this is that in the twenty two years I've been at Bestamer Venture Partners.

10:50 I've seen one investment. One. Actually get shot down. We have this investment committee. And by the way, every partner is a member of the investment committee and every partner has an equal vote. The way we vote on things is actually on a scale of one to ten.

11:04 Where as long as your vote Average vote is five point five or higher. You have approval. So we're not really asking anyone for permission to do something. We're asking each other for feedback on what we

11:16 individually want to go do. So we feel the responsibility and the authority To make the decision. And we want to tell each other. Like G Brian or G Jeremy.

11:28 That doesn't look like a very good decision you're making. I might vote that a six or a five. I'm not trying to tell you you can't do it. I could. I could try to vote at a zero, but frankly, even with a zero vote from one partner, the average can still be well above Five point five, so there's formal approval. But I want to tell you honestly, I wouldn't do it if I were you. And so

11:48 We want the person who's closest to the decision who has the most information. to make the actual decision and then we just hold each other to account. we write down who made the decision. Sometimes we'll collaborate in pairs or more. Will share the responsibility. And the credit and the blame.

12:03 But we write down at the time. Who made the decision, who gets the credit and the blame? And as a young person growing up here, that's wildly exciting and empowering because You don't have to sort of work for the man or the woman in charge forever. you're essentially establishing your own

12:18 track record and reputation. And at the same time, when it comes to working with entrepreneurs And the decisions related to their company. You're empowered to help them too. You'd have to run back to home base. And ask the boss.

12:30 Hey boss. What should we do in this situation? Like you decide because you're responsible. We've been able to maintain that idea. of individual responsibility with collective support for a really long period of time.

12:42 It's one of my favorite parts of my week is When you meet with an entrepreneur and they say you have a great conversation It's the beginning of potentially a long relationship. And they say, Okay, so what is your process from here? And what they mean is I understand. I'm gonna have to go jump through some series of fifty eight hoops and go shake a bunch of hands.

12:59 And we get to say like there is no process. This is the process. We're gonna meet. I'm gonna decide if we want to invest and Say yes or no and we'll go from there. They feel very relaxed at that point.

13:10 And then when you're sitting on a board of a company And the company is facing a tough decision. And co investors around the table say things like I have to go ask my partners. What I can do here.

13:21 It's just like an insane statement. It's like, well, you're in the room. You know the situation. It's really empowering a customer to be able to say, Okay, here's the right thing to do and make sure we can do it. What about on the incentive side? So I understand that the decision making process and the individual autonomy and the power that that brings and the sort of partner that might attract. What about the reward on the back end. So if I'm the one that brings

13:43 Shopify in the door or something, or Twilio, or one of these great investments that Bessemer's made over the years. How are the rewards shared amongst the partners and what have you learned about tuning that incentive structure. the right way over time.

13:58 It has evolved quite a bit over time. And honestly, none of us is privy to like what happened eighty five years ago. But the core principle is the following. Almost everybody at Bestemer has grown up at Bestemer. That's not entirely true, but I'd say Three quarters of the partners. And that means we started like Brian did as an analyst when he was maybe twenty two years old. Or I think I started in my mid twenties, I suspect.

14:20 Kent was in the same zone and we grew up with the firm. And so we generally give people The authority, the checkbook. After we've known them for Five, seven. Nine years.

14:30 So there's a high level of trust and confidence in people's individual investment judgment by the time they're actually writing a check. And then what we essentially say implicitly is There's this great platform that has been created by generations of people who've come before you

14:45 And you're now standing on it with the ability to screw it up. Or make it better. Hopefully make it better. What we're gonna do is We're gonna reward you largely Based on

14:55 The performance of your investments. for the first number of years in your career? And there's some shared common ownership if you will of the whole enchilada as well. But your thinking is gonna be dominated by your own investments.

15:07 And we think that's really clarifying for a young investor because they can focus. Proving they can do it, if you will. And then as they perform If those investments turn out to be the next say Shopify. They'll do really well financially.

15:19 But the firm will also do really well. And they'll have essentially earned their share, if you will. to a co equal ownership, which is what everyone can get to over time. Once you've done that and you've demonstrated really meaningful

15:32 Individual success. You become a true owner of something. Not like a fake owner where there's really someone else who's still in charge, who's still You work for but a true co equal owner. And that's what I think keeps people at Bessmer.

15:44 for a really long time because you're not thinking like, Oh, I can keep working for so and so who started this place. Who got here before I did. Or I can leave and start my own firm. That doesn't happen very often because there's not much incentive to do it when you feel like you can be a true co equal owner. That's the system. And that's essentially how we both try to balance

16:02 giving people autonomy and responsibility. But not necessarily saying Here, you've been heir to the earth on day one. There's a little bit of go prove yourself. And those who are up for proving themselves tend to love it. How far does the autonomy go on the style of the investment itself? Because

16:18 One of the things that seems true about Bessemer is that The sorts of investments that it will make. and has made has evolved a lot over time. It could constantly change If I came as a new partner and I brought late stage buyout type deal or something that really clearly wasn't like a

16:33 venture style investment or something like that. What reaction would that be met with? How much are you pushing people to really pursue? their own unique individual investment strategy versus conform to what the charity that is an L P of Bessemer thinks that you guys do.

16:50 I'm always interested in style drift and how much of that is good versus bad and how much the firm encourages versus doesn't. So how does Bessemer manage that sort of thing? Patrick, I would say. We encourage more autonomy than almost any other

17:04 Venture firm. Both. With respect to Decision making and style. That could be

17:11 A speculative seed investment. In uh team. Back of a napkin. All the way through A late stage.

17:19 Growth buyout. in a mature business that's generating profit. Across every area of high technology. I mean the breadth. is truly extraordinary.

17:29 A lot of folks associate us with software. That's the bulk of the portfolio. That's the bread and butter. But we have investments in life sciences and fintech. In frontier tech. Runs the gamut.

17:41 The autonomy is important because conventional wisdom says you can't scale venture capital. And that's true. in a small partnership with a consensus driven decision making. model because if you try to scale that and try to arrive at consensus

17:56 You either end up with mediocre decisions. Or the decision making process breaks down'cause not everyone can meet the company. We like to think we can crack the code on how to scale venture capital. By enabling each individual partner To have that autonomy.

18:09 to pursue whatever investment areas they want to pursue. And make the best decisions they possibly can. There's an important part of the operating system we haven't talked about yet, which we call the roadmap internally. So It would be very odd behavior if I showed up to a partnership meeting. And said, Hey everyone, I'm investing in a biotech company.

18:27 Because the group knows I don't know. A thing about biotech. And they would think I'd lost my mind. The behavior we have here is roadmap based, which means every partner We'll pick up over time a number of

18:39 Essentially themes they're interested in. We call them roadmaps. And we go off and do a bunch of homework on those themes typically before we make our first investment, and we start talking to each other about them. at our off sites and other periodic meetings. We'll present a roadmap. outside of the context of any investment, we'll say, gosh, I'm interested in vertical software. Here's what I'm seeing there.

18:58 Et cetera. And then when you bring in a company that's squarely in that roadmap, your partners know that you're within a lane that you've thought a lot about. Certainly somebody could branch into like a new

19:09 style of investing. So let's say you wanted to do a ton of seed stage investing. With like a very High frequency. But you would typically present that to the partnership as a strategy first and have a fierce discussion on that and that strategy, and then begin to execute on it.

19:25 So it's not as if you're just showing up and saying, trust me, I'm doing something you've never seen before, it's gonna work out. There's a little bit of preconditioning. What's shared in common amongst the best roadmaps that you've seen presented? Across your collective histories at Bessemer like

19:40 What is it about the roadmaps that are really effective? I thought a lot about this because we did a retro analysis of all of our best road maps, where they came from and what worked about them. Typically I would say the best, but not all the best roadmaps, but most of them Or

19:55 position around some big change in the technology landscape. So cloud investing being probably most productive roadmap starting twenty years ago. They start with the tech change as opposed to starting with a problem space. So if you start with aging as a problem and you say, Gosh, aging's really bad and Mortality, that's bummer.

20:14 I'm gonna go look for technologies to solve that problem. It's like, well, that problem's been around for a long time. Nothing has really changed to make that better. Whereas if you start with, Large language models and Gosh, what could they do to make Baby boomers lives better right now. you're starting with a tech change and bringing that solution and pointing it at a problem, that's really successful.

20:33 The other characteristic of successful roadmaps Tends to be that we didn't come up with the idea without any real world exposure. And so our best roadmaps It's a little bit of a dirty secret here, but Have come from an investment we made.

20:47 Where it started going like much better than we expected. And we sit back and say like I thought this was gonna work. But not this well. This is going amazing. Why?

20:56 And it tends to point us to Some go to market strategy that's part of that investment that's like driving this sort of outsize success. So a lot of our roadmaps. we get inspiration from the portfolio where we accidentally stumble into some new tech trend that we didn't maybe even see up front. As part of that, there's often a core insight that's a little bit contrarian. when Jeremy first started investing in

21:17 User generate content. He had this insight. That content Yeah. Generate traffic.

21:23 Which will in turn generate more content. And create this. viral loop. that you could ultimately monetize through advertising. And that led to his investments and Pinterest and Yelp and LinkedIn and all these

21:35 great user generated content companies. When we start investing in vertical software. We have this Small core insight. Yes, the markets are small.

21:44 But you can often trade market size for market share. And build these industry defining companies that end up capturing forty, fifty, sixty percent of their markets and ultimately become really valuable. when our partners Byron and Ethan and David start investing in developer platforms Conventional wisdom said, Wait a second.

22:03 There's no screen, there are no buttons, it's just an API. You can't build a business this way. And so there's often a bit of a contrarian point of view or a little insight. that we exploit and mine And pursue And that

22:16 drives the roadmap activity. One other really interesting thing. Which comes back to some of the firm. governance and structure that is connected to what Brian just said. None of us own

22:28 Any of the intellectual property or ideas Not the stages, not the geographies, not the road maps. We share them with each other to get feedback. And then when someone says wow. This is working.

22:39 And a great example. I think Brian was an analyst at Bessmer when he discovered Mind Body and I was a partner at the time. And we end up investing in the company. And we then realized, Wait a minute. Mind body started to offer payments As a product.

22:52 This is an unlock that will drive really significant revenue growth. Let's go find every other company that might do something similar in another category. Mind body is software for yoga studios and and fitness clubs and the like. Shortly thereafter, I think Nine different partners at Bessemer were like, That's a good idea. And we end up investing in Procore.

23:12 Toasts. Next time. Clio. I think literally we have Seventy vertical software companies?

23:19 invest in by nine different partners. If one partner owned it, was able to call it off limits. We would have been maybe ten percent as productive. But because it's an organized free for all is maybe the best way to put it, we tend to end up Helping each other by sharing the ideas.

23:33 And then benefiting from each other's execution against the best ideas. The challenge is that sometimes I think we're all relatively smart. We get attracted to the single best ideas, which may end up With slightly more concentration of the portfolio in one spot. But honestly, I think we'd rather have that.

23:49 And be forced. Into these. Categories or groups. Trying to find the best investment in crappy area. is a much less fun and less productive endeavor than shifting the resources of the firm automagically, if you will.

24:02 to the most promising opportunities. If there ever is major conflict then. inside the partnership. What is the nature of that?

24:10 conflict under this incentive structure. Is there any? We certainly have had conflict. How can you not? If you have more than one human in a room. For decades, you're gonna have conflicts.

24:21 What we actually do to help resolve that is One, having no one in charge and having each of us able to talk to one another to kinda get through problems is productive. But we've also had in most of our internal and significant meetings for years. more or less since I've been a bass merchant so at least twenty years.

24:38 We've had an independent psychologist or coach In the meetings. This individuals just change over time, but they tend to have some longevity. So they understand us, they get to know us, they have no ownership in the firm whatsoever, they have nothing at stake. They're just there as an independent to help

24:52 referee any time there is some issue or tension. And sometimes having an outsider who knows you call you out on something is really effective. It's one of many things we've adapted or adopted over the years. In order to deal with

25:05 An occasional strife. We're not perfect. Like any family we have around dysfunction. The other thing I'd point to and hopefully this doesn't sound too uh kumbaya, but we did a values exercise. Several years ago. The number one value, like if you pulled everybody at Bessmer and said, What's the top value at Bessmer?

25:22 Everyone's number one essentially was intellectual honesty. It was like the first thing they said. And it's something you notice very quickly if you join Bessmer is that people just say what they are thinking. There's zero politics, there's zero salesmanship. And that as a core part of the operating system is critical for really avoiding conflict because if you're just saying what you think. You're not advocating for your own portfolio, your deals, et cetera. Like The conversations just get direct to the issue.

25:47 And the resolution. with much less friction than some of these organizations we hear about that are much more political, where people have favorites and we just don't have any of that, which is Such a massive relief. For all of us. And I think makes life much more pleasant.

26:01 I'm loving these answers because The ideas are so generalizable. to any kind of investment partnership and firm. Like it doesn't need to be early stage. So I have a few more. I'm interested in the same sort of question that I asked on roadmaps. for the concept of the sort of apprentice model.

26:15 I remember talking to Sarah Taville about this when I first met her many years ago. And kinda learning about the way that Bessemer, like you said, you've all started there in your twenties. tends to get talented people very young and groom them for a long period of time before even giving them the checkbook. In that five to Nine year period.

26:32 What works? What have you found to be the most effective way to run this program? That you think maybe others could borrow Or steel. It's just a lot of time in the same room together. I sat next to Jeremy on two boards before I was a partner. I sat next to

26:48 Bob Goodman, one of our senior partners. for two hundred hours of board meetings and other conversations. And then Felder Hardeman, my first mentor I spent several years in the same room with him just listening to him talk to companies and occasionally chipping in at first and over time building confidence. So I think that's the Core part. There's no shortcut to that, but

27:08 Boy, you learn a ton over time and you just take for granted how much you've picked up along the way. I think there's a second element to it. And I'll tell you an anecdote I got from At the time A young associate.

27:19 And she had just joined the firm. And I was doing like a half an hour Welcome to Bessemer. I hope you found where the bathroom is located. Introductory. Session. I asked him like is there anything different

27:30 Relative to what you expected now that you've been here like a month. And she said to me the thing that shocked me, and I've told this story many times. And she said to me Yeah, there is. I can't believe how honest. The investment memos are a pessimer.

27:44 And I was like, what do you mean, honest? And she had been at another investment firm before she joined us. And I asked him, like, did they lie in the investment memo as a old firm? She goes, No, no, it's just that She realised within just a few weeks. this I think really critical insight, which is that When we write these memos

27:59 We're not trying to convince somebody. What to do. our old firm there's really like two people who kind of ran the investment committee and the goal was to convince them to give you permission to make the investment. So like yeah, you talk about some weaknesses or risks in your memos. But it was kinda like answering that silly interview question that you might get when you're interviewing for a job and someone says, Tell me about your weaknesses. You're like, Oh, I work too hard. It's like a sort of a bullshit weakness that you're saying because you have to have some

28:22 Weakness is a risk, but it's not real. And in contrast, she said at Desmer, it was very clear to her People were writing in the map what they really think. Because they're not asking someone else to make the decision for them. They're explaining their decision.

28:34 And the teams that work on investments at Bessemer Or typically. A partner and an associate. And sometimes an analyst. So it's two or three people. So it's not like there's nine people that you can hide behind. It's a really small group of people who's saying, like, this is what we think the right answer is. And you feel this responsibility.

28:50 Again, you're not trying to convince someone and so You end up learning much better. When you think you're making the decision for yourself. than when you're trying to convince someone else to do something, but it's really their decision. Cause you feel this responsibility It's empowering, but it's also scary.

29:04 And most people when they feel responsible end up doing better work and end up learning faster. We should also say that everybody's then all the investors are invited into our Monday meeting. And so they all join that meeting, they all read those memos. And then because we're not selling your potential investments at that meeting, you're just discussing them.

29:21 I feel much more open to tell Jeremy like, Hey, I read your memo and I think you totally missed something. This is how I would have thought about it. And that's not really threatening or offensive to him because he knows he can still do whatever he wants. And so we can have this open intellectual conversation and everyone is there to hear it, participate in it, tell me I'm wrong. There's just a ton of that open dialogue and that. couple hours we spend every Monday together, and that's massive learning for all of us, even those of us who've been here for a long time. The irony is

29:48 Our three most successful vertical software investments. Shopify, Toast, and Procor. We're all relatively Unpopular. investments when first discussed in the partnership meeting.

30:00 And or autonomous decision making model made those possible. And when you're a young investor, you see that dynamic. you put yourself in a different head space. It's not about doing what's popular. It's not about

30:14 chasing momentum. It's not about pursuing the consensus opportunities. It's about developing A thesis And pursuing something that may be a little off the being path.

30:24 I'm sure that during this apprentice period where someone's effectively with a partner all the time. That there's this development of taste that happens. Some of which I'm sure is borrowed from time spent with the partner.

30:36 But some of which in a perfect world becomes their own. I'd love for each of you to describe your taste in companies. What that term. brings to mind and maybe even a little bit about how that taste was developed. It's funny,'cause I think we have three different tastes. If I had to project on the two of you, I'll start

30:54 Over time. Patrick, mainly As I've made some Good but some bad investments. All of my learnings have come from my mistakes.

31:03 And as I think about them, I've slowly honed in on When I've gone wrong, it's that I haven't started with Just very clear. radical product advantages. So the investments that worked

31:16 Have had such clear better products than the existing alternatives at the time of our investment. Almost all the ones that have failed. That was more of a question mark. Either the product wasn't fully formulated yet or

31:30 It was out there, but it wasn't just a slam dunk. In the minds of The people buying it or the consumers using it. I'm just

31:36 honed in tighter and tighter and tighter on how can I get to the truth of is this product radically advantaged? On day one and try to eliminate a lot of other noise. So You can talk yourself out of any early stage investment. It's like really easy to get scared about something. You can find something to be scared about. But if the business has this strong fundamental product value. On day one.

31:57 try to like screen for the other noise and not scare myself because the market size or there's some regulatory concern that could come up that some of those noisy things that I think have historically talked us out of some potentially great investments. So that's My taste. I think Jeremy and Brian are very different. You guys fill it in for yourself. I'm gonna hear Jeremy's answer. I've never asked him this question. Okay, I'll go next.

32:18 The thing that I typically fall for hardest is Wild capital efficiency. I love investing in companies that don't really need my money. I think that's the dirty secret of all investing. And that was really true for a lot of the companies in which I invested, although ironically, I think the most successful investment I've been a part of. From a pennies returned.

32:38 His Pinterest. And interests. We invest in the series A. which was maybe like an eight or nine million dollar investment, ended up raising a billion dollars of equity cap went public, which is the opposite of highly capital efficient. And so Even sometimes

32:51 You get led away from your original taste. And I think if you're not willing to have a bit of a flexible mind. You're gonna miss a lot in this business, even with flexible bonds. I think we still miss a lot. As evidenced by the empty portfolio we've always on our website. I fall hard and fast typically for capital efficiency. It just solves for so many potential errors down the road.

33:10 From a business perspective, I think I over index on path to market leadership. I cover vertical software and in these vertical markets. There are these virtuous cycles. You're the market leader, you're the number one, number two player.

33:23 You get all the treasure. And so There's no prototypical path to get there. I want to have a conversation with the team and understand how they see their path to market leadership.

33:33 As it relates to the founders I think I index away from like prototypical twenty something year old tech genius who dropped out of Harvard or MIT. Most of the founders I've worked with

33:45 look a lot like Tui, the founder and CO Pro Core. older. Came from industry. Built his business in Santa Barbara, not Silicon Valley. Just deep.

33:56 Empathy. For the domain. And deep caring for the customers. I think particularly in vertical software, that translates to long term success. Kent, when you're evaluating a product.

34:08 given your preference for like obvious product leadership or 10X better product or whatever. What have you gotten really good at? to be able to do that effectively, especially if it's not a product that you personally would be a user

34:21 Of I really don't overthink it. I think that's what I've gotten better at, which is Recently Invested in a company that's serving the construction industry. And I am not a contractor. I can barely replace a light bulb. So I immediately got on the phone talked to 10 contractors and said, Hey, here's a product. I'm gonna describe it to you.

34:39 It was a very simple product to describe, which was it runs your payroll. But it also provides for you a delightful piece of software on top of your payroll that runs all the compliance and the union reporting and all these things. And that is free. And so I pitched this to ten contractors and six of them were like, Where is it? Can I sign up for it? I need it. And so that signal

34:59 So clear. I understood the economics of the product, what the lifetime value or the annual value could be. And I understood that I had basically just generated a pipeline with an afternoon. There was gonna be an excess month of the Value. So That's the clear signal. I don't overthink it and I recognize that

35:16 If I engage In twenty deep discussions, I'm only gonna get that level of signal one or two times, and that's when I should invest. And And if the signal is fuzzy or I can't understand it because I can't empathize and I can't find customers to tell me they love it, then it's just not for me. Jeremy, when you're assessing capital efficiency

35:34 Especially as you get earlier in the spectrum and there's less historical financials, there's Less to go on overall. Maybe there's not even like a mature product in pricing yet. How do you think through that? Problem.

35:46 At the earliest stages, capital efficiency shows up in just a scrappiness. A willingness to do things that are The opposite of gold plated. A slightly related anecdote. So within our partnership As we've told you, we've got twenty

36:01 Fish partners and we all have different views. There's been a great debate. over the years as to whether our offices should look like that of your typical dentist. Or if they should look like that. Of your typical fancy investment bank.

36:13 I've always been a fan of the dentist office. Low key, unordained. Because when you work with scrappy entrepreneurs and they see you working in a scrappy environment, they're like, Oh, okay, I get it. Of course, the counter is You want really fancy offices to show people how successful you've been so they'll want to work with you.

36:29 But for me, I'm all about the scrappiness. And at the early stages, you can see that in just the environment. The people that the team hires, they're typically Less experienced And riskier and cheaper hires. But if you get really talented people who are less experienced and risky early in their career, they end up growing into

36:45 The next Toby Lutke, C of Shopify. And I think too many entrepreneurs Misunderstand the objective. Which is like how do you build something really great? Without.

36:55 burning lots and lots of money to do so, because burning lots of money means you gotta spend more time raising money. And you end up owning less of it in the end,'cause you had to sell more of it off. to get access to the capital. And I'll tell you one other related anecdote, which is when Shopify was preparing to go public. Yeah, we're doing like a non deal road show, which is basically when you go talk to a bunch of investors privately.

37:14 Not for the purpose of raising money in an IPO, but to try to get your story out well ahead of an IPO. the then CFO Russ Jones. was showing me the deck he helped prepare. And he was

37:24 Focusing on the fact that Shopify had raised a hundred million dollars. And I'm like, Russ, that's not something to advertise. In fact You're missing the point, which is that Shopify actually only burned Two million dollars in its entire lifetime because of the hundred million it had raised.

37:39 I think something like twenty five. was for secondary selling. of existing shareholders. And the other seventy five Of that other seventy five, seventy three was still on the balance sheet.

37:50 That's what you should tell investors. You built this incredible business while burning two million dollars. That's an accomplishment. Unfortunately, the media headlines are often about how much the company raises. But in fact, the the true headline that you want to understand is like, well, how big are you relative to how much you've raised? Or how profitable are you relative to how much you've raised? But of course, those stories rarely get told. Brian, on the go to market side of VMS businesses. talked about path to market dominance or market leadership.

38:15 What have you seen the best In the world. that accomplishing that do consistently well. Every story has its own Idiosyncrasies. I think in general

38:25 it's much easier to build a great business quickly if you're going after a greenfield opportunity. Shopify catering to online retailers who are coming online in a way that we've never seen before Procore catering to construction companies that suddenly had Internet on the job site and mobile devices for Workers to interact.

38:44 being able to deliver software to an industry that's never had it before. Із the ideal setup. for market leadership. Now there are exceptions.

38:54 And I give Kent a lot of credit. For the toast investment. Because Toast. With

38:59 Attacking a market. That was fully banded. At the time you had N C R you had micros, you had countless restaurant point of sale systems. So they did not have a greenfield opportunity. And in those situations, what we've observed is

39:13 The path to market leadership requires A dramatically better product. Ten X better? were dramatically cheaper, ten X cheaper, in order to cut through the noise and drive that replacement cycle. And it's not easy to do.

39:25 Ken can tell you the toe story, but My understanding is they did both. They showed up with An incredible tablet based product in an industry. Dominated by

39:34 incumbent crap. And they were able to sell it much cheaper because they were the first to bundle the software. So they can underprice on software and make money off the payments. So they're both better and cheaper. That's a way to cut through the incumbents. But otherwise I would recommend trying to find greenfield opportunities. Absolutely not enough to just show up and say hey

39:54 This product's in the cloud. Nobody cares. You're running a restaurant? You don't care what the cloud is. It's not doing anything for you. But

40:02 If you show up with a tablet that is ten times cheaper because it's built on the Android platform than the twenty thousand dollar legacy thing they had to buy and it's more functional. And you're told that you can change your menu when you're in bed that morning and you don't have to drive in. And it bundles in the payments. Which you didn't necessarily even know the name of your payments provider historically. And by bundling in payments, all of a sudden you can look up that receipt from three weeks ago instantly in the POS.

40:27 All that comes together and it's just a complete no brainer. And that's when you get path to market dominance and market that may have some incumbents. Again, it comes back to product led for me, but it's funny to think that, Brian, your path to market dominance. Taste. I think could have gotten you there with toast. I mean, I think all these things converge. Honestly, they're it's three sides of the same coin. Because when you have that incredible product, it leads to efficiency. Like I think all of Jeremy's efficiency stories are also stories of incredible product that made the sales payback unbelievable. Even Pinterest, yes, it was inefficient, but they drove hundreds of millions of users without spending a dime on the User demand. It was like incredibly efficient growth of the consumer engagement.

41:04 Yeah, put it another way. If you've got an incredible product going after a greenfield market. you're gonna check Kent's box'cause you're gonna talk to customers and it's gonna fly off the shelves. You're gonna Check Jeremy's box'cause you're gonna be picking up the phone and taking orders.

41:18 And you're gonna check my box because you'll be able to articulate a path to market leadership. In this period now, we're spring of two thousand twenty three. And the period of furious, outrageous quick deal cycles and huge funding amounts. is a bit behind us. We have a bit more perspective on the sort of madness that was

41:37 the twenty twenty one market. With benefit of having gone through that, but also investing for a long time. Do you think that our industry has the right tools specifically like a preferred equity

41:49 style of investment. A preferenced stack. Do you think that that continues to be the right primary instrument for investing in these kinds of companies given that

42:00 I have to imagine some part of the run up in valuations was due to this preference being in place. I'm just curious if you think that we're properly equipped for the next twenty years of funding these kinds of companies with the traditional toolkit that we've had. I'll offer an opinion, Jeremy correct me, but I don't think the high valuations were necessarily driven by preferred stock in many cases. I think for some of the

42:23 pre-IPO rounds where you had a structure that would be repriced in an IPO effectively. Maybe some of the later stage investors were doing that math, but For many of us. I think we've come to realize over the years that value of our preferred stock to protect us in a downside scenario is actually not all that material to our fund returns. And so actually we're thinking about the returns. Most of the return profile is driven by

42:45 The share price, not necessarily that it's preferred stock. Problem if we were to Investing in other vehicles. There's a collective action problem. If All of our peers are just investing in preferred stock and we

42:57 buy common stock and then we're buried under a mountain of preferred. That doesn't feel good for us to somehow pioneer to what end. And so I think there's a little bit of a just perpetuat cycle that's the standard. But there were other factors at play certainly that led to the valuations beside that structure. I agree with your conclusion. I think there's two other comments to make. One is I think investors

43:17 On average. paid truly stupid prices most of the time in twenty twenty and twenty twenty one. And that they used any excuse they could come up with to justify those prices. And maybe the existence of preferred stock was one of them. But it certainly didn't help. I think the other comment I'd make is that

43:33 Versock really makes sense in the early days of a company. Because you have this company which might be an idea on a napkin. And you're investing, say, three million dollars for a twenty percent stake, and therefore declaring that the company's worth fifteen million dollars. It can't be worth fifteen million dollars. It's an idea on a napkin and a couple of people. So the construct of preferred stock, I think was invented by somebody cleverly to say

43:55 Look, entrepreneur, if you go and sell the company tomorrow for two million dollars. You gotta give us our money back. You can't just give us twenty percent of two million dollars because all you did then was eviscerate a million dollars of value by turning three into two, and now you made money? It makes no sense. So the preferred stock construct makes sense to ensure interest alignment in the early stages of company. And then at some point

44:16 It becomes irrelevant. But precedent is set from that early investment and how almost every future round of investment will look like. So people tend to just take the last structure. that was used to make the last equity investment in a company.

44:29 Copy it. change a few of the numbers around. And then hit print. And so I think the reason why we have it at all Bases.

44:36 is because it makes sense early. It's almost necessary for alignment and then it just sticks. One of the best predictors of future return in public equities. is just some sort of normalized prevailing valuation. There's lots of measures you can do it with. price to sales or book or normalized earnings or something.

44:52 Pretty predictive of what forward returns are going to be. And I'm curious what you think the forward perspective returns are for this style of early stage investing today versus the fifteen to twenty years that you've all been doing this. In the past. I read that Mind Body memo in preparation for today.

45:09 And one of the things that pops pretty quickly off the page is that Two and a half or three times ARR multiple. That was paid for that. equity back at the time and it was twelve million bucks of revenue or something like that. It was real established business that now that would have commanded a

45:23 multi hundred million dollar valuation. couple of years ago. So Valuations matter for returns, even though sometimes the worst mistake you can make in this style of investing is not being willing to pay. a rich price, but there's too rich of a price that can ruin any investment. And I'm curious how you all think about the prospective return opportunity.

45:41 in this style of investing over the next 10 or twenty years. It's lower. That I can say with confidence. 'Cause as you said, when the entry prices are higher the returns have to be lower. There's a bear and a bull argument.

45:52 On today's prices. I think we're generally in the Bull camp, so I'll tell you the bear argument first. The bare argument is Gee, when you're paying higher prices.

46:02 Which is by the way driven by the fact that there's much more capital out there, more venture funds, more growth equity funds. more firms who are at scale or scaling up. They have to compete. to invest in the best companies and therefore you're paying higher prices, therefore the returns have to be down.

46:17 And that's the bear case. And I think there's real credence to that. In fact, I think that's true. The question is whether it offsets entirely or only just partially. The ball case. In the bull cases may be best exemplified. by the following anecdote, which is when I joined

46:31 Bessemer in two thousand one. I started thinking all the time about Tech investing. And I looked at What are the successful

46:40 software and internet companies I think there were maybe A handful of software companies in the world that had a billion in revenue. In revenue. Microsoft, Oracle

46:50 H P, SAP, but it wasn't a long list. Maybe parametric technology had a billion back then. And maybe I'm undercounting by a bit, but not by many. And internet companies, the most valuable ones were eBay and Yahoo, and I don't think either one of them had a fifty billion dollar market capitalization. And if you fast forward to today

47:09 I can't even count on all my fingers and toes the number of companies that had a billion dollars in revenue, maybe even just on the Bessemer portfolio alone. And so the outcomes are so much bigger and when it comes to internet. There are many internet companies with fifty billion dollar market caps, including a few with trillion dollar market caps. Or maybe five hundred million dollar plus market caps. The bull case is the market sizes and the potential outcomes for these companies is so much bigger.

47:33 that well sure, you'd always rather as an investor pay less than more. The outcomes allow you to afford Stretching more on price. And of course, if you take anything to the extreme. You get into trouble pretty quickly. And

47:44 one exercise I go through all the time on an investment is If I take this deal and I pay ten percent more, is it still okay? And the answer is always yes, it's still okay. The problem is if you then take that number and you say, Well, what if I pay ten percent more than that? Is that still okay?

47:58 If you do it enough times, you've gotten so far away. from your initial investment that it becomes nonsensical. You could literally pay a hundred times more. But each individual question the answer always has to be yes,'cause we just don't have enough Confidence or precision to know what a ten percent difference is.

48:13 The conundrum, if you will, of investing, particularly at the early stages. In practice, the way that this manifests across the software portfolio is we have different flavors of ice cream. We've got Growth at a reasonable price. where your entry multiple matters your exit multiple matters the model matters

48:29 And then we've got investments where we're paying a hundred times revenue and swing for the fences. On the aggregate. It tends to work out. You've got this concept of Vesmer of the Centaur.

48:40 Like a better unicorn'cause it's based on an actual fundamental metric, which is companies that have achieved that hundred million dollar Milestone. Why is that milestone significant and interesting to you all? What does having coined that term and written about it and thought about it due to the way the partnership thinks and operates.

48:57 I'm curious why it's useful. So a year ago As we were Reeling from What we've labeled the Sassa curve, all the multiples are way down.

49:05 We sort of took a step back. We'd remain I'd say reasonable layers through the two frothiest years, not to say that we didn't do some unreasonable things as well. But we took a step back and it was kinda like, What the heck just happened to this entire industry?

49:19 Where did we go wrong? And it was pretty obvious we had all fallen into the valuation trap of unicorn counting. And having press headlines tell us how great our industry was doing. But what hadn't changed was that these businesses, especially these cloud businesses with recurring revenue. They remained incredible businesses. I think the greatest business model I've ever seen.

49:40 So the Basic thing, which is like what's an indicator of the overall health of this market, regardless of valuations. Let's count how many businesses are doing a hundred million of revenue. The reason we picked that number, nice round number, also we couldn't tell you about a hundred million

49:55 recurring revenue software company that had gone out of business in our recent career lifetimes. So it felt like a measure of immortality. And so taking that count of centaurs First of all, we're like kinda heartened that The number last year was on track to be the highest number we'd ever seen. So despite massive collapse in valuations in unicorns.

50:14 Wow, this indicator of the health of this economy. Still looks pretty good. And we just knew going forward it's something we could count to ground ourselves in the reality of. Are new great future great software businesses still being born at a pace? Is that pace speeding up? Is it falling off? Truthfully, we counted it again.

50:31 this year after inventing it last year and it was slightly down this year. Versus the year before, but it's still the second highest count number. in the recorded history. So we still think The pace of Fundamental creation of

50:43 future great software companies is still about as high as it's ever been, checks with our experience that we're seeing incredible companies founded every day, even in like a gloomy macro environment. The grounding is important because I think the biggest sin that was committed by our industry or asset class. During the boom. With convincing ourselves that

51:04 The value of the business. was equivalent to the valuation of the last round. and the performance of a venture fund was based on Marks said at the last round price.

51:15 We all know the last round price is not the value of the business. It's one Investor, one bidder. Buying an option. You can't sell the unicorn for a billion dollars in many cases.

51:25 And so The central concept was a way to re ground ourselves in what matters. Which is the financial performance of the business. When I think about investment firms that do a good job on

51:37 I guess I'll call it the content side. I think of Bessemer in first round as being really interesting firms and having created a lot of concepts like the Centaur, like the cloud index. that Bessemer has created.

51:48 That's cited all over the place in in the industry. You've done a ton of stuff like this. Like if you go on the website, there's just and embarrassment of riches of old memos to read and frameworks to read through and roadmaps and ways and thinking about different kinds of businesses. There's obviously a ton of effort that's gone into all this stuff. How does that help you like why are you doing all that?

52:07 Does it manifest as better deal flow? Is it a brand building exercise for Bessemer? It seems like everyone sort of feels like they need to do this now. Bessmer's been doing it a long time. So can you give us a report on like whether or not it's

52:20 Worth it. First of all, it just stems from the work we do to hopefully sharpen our investment judgment, and that's probably the biggest benefit. And often we will have an idea that we will circulate internally. And we won't tell the world for a while because Oh gosh, we're paying attention to payments being bundled in vertical software. Like why would we announce that the first couple of years?

52:40 Then the moment tips often where it becomes a little more obvious. And we make the decision to launch that content externally where We can earn some thought leadership.

52:50 It may drive some incremental deal flow when we do that. I mean we're not Celebrities. We're all pretty nerdy. Not particularly good at self promotion.

53:00 I think the most valuable thing it does once we launch that content is that when we meet entrepreneurs. or doing something that we're going to like. They often see this welcome, Matt, as they're coming in the door that is a white paper that speaks to their business in a way that they're like really nodding their head. The number of times I've had a first conversation where there's just a mutual sense of, okay, you understand what I'm talking about and you get this. That's hugely valuable.

53:24 Leads to some self selection of the business models that are like Jeremy's gonna understand my user generated content. Business model. And I think maybe

53:32 have them select us versus another investor who may not have already had that thought or at least Put it out there. The only thing on our website that we created just for the purpose of marketing. Is our anti portfolio. I'm trying to be funny.

53:46 The rest of it is really repurposed. And sometimes we'll modify it or polish it or as Kent and delay it before we put it out to the public, but we're creating it internally anyway. And so it's sort of a free opportunity to show people more about who we are. And it actually does lead to people Reaching out to us. Because we published something relative to them.

54:03 Like, Oh, I didn't even know you invested in that area. I want to talk to someone at Bessemer. Speaking of which, the reason that four of us originally got connected was because of Vertical market software, that topic. My firm was doing a big deep dive into it and

54:16 That's where came up over and over and over again. Like if you're interested in this topic, you need to talk to these guys. immediately having made a lot of these investments like you mentioned in Procore and Toast and many others. How mature do you think that whole style of business building is because If I do some quick Googling between your site and Tidemark site and a few others, you can get these like incredibly rich.

54:39 Incredibly detailed. playbooks for how to build a VMS business. It feels to me from the outside. quite mature in terms of our understanding of how to build one of them.

54:49 But I'm also curious how mature you think it is in terms of how many markets there are that have yet to be addressed by a VMS solution. For a given industry. Obviously you've made hay here.

55:00 it would be hard to say that there's no more opportunity, but Where do you think it is in its life cycle? I have twelve vertical market software investments. Actually counted before we hopped on the call. I was surprised at that number. Five of them I made in the last twelve months.

55:14 So But I would say that there have been some cycles of this model and what it looks like from mind body, which Started as well. Pure SAS initially. Bundled in payments and then may have

55:27 By doing that inspired and kicked off. The next wave of vertical software where embedded financials were a big part of the business model. And we saw some derivations of that with business to business transactions being part of certain platforms. And that's another sort of embedded financial wave.

55:42 Payroll. as we've had API driven payroll. Opportunities another wave that is powering some more. And then along the way we've seen The percent of total

55:51 transaction revenue going through these markets. that the core platform that provides not only the software, but maybe some of the embedded financial products can command over time and as that ticks up from half a percent to one percent to one and a half percent to two percent. It just continues to open up other markets.

56:09 That Ten years ago we might have thought. were too small and now look like absolutely opportunities for billion dollar plus outcomes. I would agree with you that clock is

56:19 Getting late. Yeah. I'm sort of betting it's Seven at night? And we're not sort of at eleven. Yeah.

56:27 And then I look at this wave of language model driven AI. We had a conference last week where we had Dozen plus. Vertical software leaders in the same room. And they were all excitedly and furiously scribbling down notes of what their peers were doing.

56:41 To innovate on their products. And certainly for the embedded vertical software leaders, I think there's a huge moment of adoption of these language models, which I think power obvious things across that. suite of technology, but it's also gonna open the window for many Verticals that previously didn't have A reason to adopt software strong enough to have a real leader.

57:01 And then for some of the in verticals with a sleepy incumbent. Watch out. We could see another wave. One other thing to note, which is that if today Cloud software. gets the most attention with investment. And obviously other areas, biotech and healthcare and consumer and deep tech and space tech, they all get attention also.

57:18 But the biggest and most important category. over the past let's say ten years has certainly been cloud software. And as you point out, we're constantly worrying about When is the end? And not that these companies are gonna go away or there'll be less innovation, it'll just be harder for it to remain the most important category.

57:34 When I joined in O one That was shortly after by far the most important category of investing for Bessemer. have been telecommunications equipment. I'd say more than half the firm's returns from nineteen ninety six to nineteen ninety nine came from telecommunications equipment. I can't remember the last time we made a telecommunications equipment investment.

57:51 And so to your point, Patrick, I think the most important thing to do Is get off the train. Before it runs into a brick wall at the end. And we think about that a lot. I agree with Kent. I don't think we're at the last stop yet. But we can sense it coming.

58:04 Much more now than we could even just a few years ago. Is your sense that the markers of that. Might still be software just something totally different. L's usher in some whole new

58:14 type of software, right? It's hard to even imagine. what that might mean. But is that the sort of thing that you're watching for? a change in platform or enabling technology. that might just render the past generation of style of company less relevant and

58:28 Or just create a new green field that's way more exciting than the Telecom of nineteen ninety six, nineteen ninety nine. It's hard to imagine. The thing that's not software that is Innovation these

58:40 I think it's gonna be another wave of software, but it may look radically different than it does today. And I think what we will look at is we've got Close to two hundred portfolio companies who are reporting back every day what they're seeing in the field, what competition they're seeing out there. So that gives us a real edge when comes to looking at a next wave of type of companies. I think more likely

59:00 What we'll see is this Just as we saw with huge innovations in the last twenty years in the cloud software is the software will just continue to evolve itself. People building these companies are paying very close attention to the language model technology and what that can do for them. And in many cases

59:14 It doesn't disrupt them. It just feeds right into their product. My bet is it's not gonna completely flip their businesses upside down if they're awake to it. Yeah, Patrick, I Coming back to your question, where are we in the evolution of vertical software? I kinda segment the opportunity into three buckets.

59:30 One is the greenfield. play that we talked about. And I think you're right. I think there are fewer greenfield opportunities today than there were five, ten years ago. What's different today is, as Ken points out, You can go after a smaller greenfield market opportunity and build a much bigger business.

59:47 'Cause you can capture more take rate. than you've been able to in the past. By layering on Multiple layers of software.

59:54 And then providing financial services and value add services on top of that software. So I think the greenfield opportunity is still there, less obvious. But Someone with domain expertise can find it. then there's a replacement cycle opportunity. And the way I think about that is if you look across

1:00:09 All the private equity firms All the aggregators like Constellation. All the publicly traded legacy software businesses There's tens of billions of dollars of ARR. That's locked up.

1:00:22 in incumbent vertical software. That is ripe for the picking. Now you gotta be ten X better, ten X cheaper. You have to take advantage of platform shifts. But it's there for the taking. And so that's the second bucket of opportunity.

1:00:35 And then the third is what you alluded to, this New type of model. That likely leverages AI. And the way I think about that is

1:00:44 Within these verticals, there are software businesses. And then there's billions of dollars being spent on services. And a lot of that service is dollar. Is gonna be digitized and automated. Using

1:00:56 L technology. As an example In the legal vertical, there's a company called Even Up. And even up is taking the process of generating demand letters. Which are

1:01:06 These hundred page book reports. that lawyers sent to insurance companies to help their clients get paid. That historically has been done by human beings with weeks of Labor compiling these book reports. You can now use

1:01:19 L's to generate it in in a heartbeat. those types of services offerings will be digitized and become software. It's crazy to think about all the shifts that we might see in the next five years because of this new layer of technology. When companies come to you, let's say you're on the board.

1:01:35 of some software company. When they come to you, they're not naturally a you know an AI company, they're just a software company. And they ask you what are you seeing? Like how should I think about this. How should I prepare my company to be ready for this new technology? What are you telling them?

1:01:51 I have to plug Patrick last week we put out our annual state of the cloud report. And we spent sixty five percent of our time answering the question you just asked. So we talked a lot about the current language model moment. And practical tips for application software leaders. We did that, not just Simer whiteboarding and coming up with our idea'cause the three of us couldn't operate a New York City, Delhi.

1:02:14 But we talked to a couple dozen of our software leaders who are doing things about this already. Yeah, so we got some practical tips and the general answer is You don't need to wait till you have a language model PHD on staff to do something immediately. There are tons of companies who have pulled aside like a twenty year old hacker and said, Hey, why don't you spend this weekend playing around with this stuff and see what you can do? And they've come up with real applications and we've got dozens of examples of product features that are already rolling out. the advice to companies that haven't yet started is to find that willing

1:02:46 hacker advocate for this technology and empower them and say, look, you're the green team captain of the language model tech. Go figure out what we can do here. A second version of that is to host an internal hackathon. Hundred dollar bonus for anyone who can come up with a cool project idea in this hackathon that leverages this language model technology, both for Our internal efficiency.

1:03:08 All the things we could do. to be twice as productive with the people we have, as well as for product roadmap. I guarantee you any application software leader who does this will come up with ten Actionable, great ideas like this weekend. The only thing that's a little unsettling is this technology

1:03:24 Is changing every single week. The best in class idea you come up with this week, a month from now, you could come up with a set of better ideas because just the speed of Enablement of that platform is changing a lot. So it's probably a hackathon you need to start having every month for at least the next several months as this technology continues to stabilize. Anything about this scare you? Bad L L Ms. Yeah, absolutely. So leaving aside the existential

1:03:49 questions. I haven't seen anyone point to a direct Existential. path to risk. But obviously there's we're all paying attention to that conversation. But I think to Bring it to

1:04:00 Where our pay grade level is applicable. Yeah, this is gonna shift the ground for all of these categories of software and for all these businesses. Any of them who are asleep at the wheel, I think, should be very scared. And us as

1:04:15 She'd be very nervous that somebody could come in with just a much better, more efficient mouse trap. If we're not careful. So I think there's like a healthy actionable paranoia.

1:04:25 for these companies just as software leaders that they need to be on top of this. German, does this feel to you like Other platform ships that you've seen since being a pest member starting back in two thousand one.

1:04:36 That was right in the heart of the big One in the internet. How does this feel relative to cloud and internet and mobile and some of these other big shifts. It certainly feels like it could.

1:04:48 But you mentioned cloud, internet, mobile, and with the benefit of a little hindsight, it's quite clear how big and important those were. But When they were first emerging I'm not sure they felt all that different then. VR

1:05:01 And blockchain And so these things all feel incredibly exciting at the beginning. And some of them make it and some of them don't. And oftentimes Even the ones that don't, sometimes there's a company or two

1:05:14 to kinda make hay out of it. So we gotta look for it. And so Yes, it s certainly feels like the potential's there, but I think it's way too soon to declare victory. And I guess ten years in Well though for sure.

1:05:25 And five years in, we'll have some confidence. And now that we're maybe nine months in to the true arrival of these LMs on the scene. I think it's very fuzzy, but we're certainly enthusiastic. We think there's much more likely than not to be a huge impact. Whatever Jeremy's enthusiasm is, I'm taking the strong over. just in classic Bessemer spirit, we would argue about this internally openly, but the speed at which we've seen our portfolio companies build things with this is way different than what we saw in terms of mobile. technology adoption. Mobile came out when the iPhone

1:05:57 Came out, we saw new companies show up within the year, certainly. But it took a while for our portfolio to see what they could do with it and have it change. I'm trying to think of the first portfolio company it impacted in a huge way versus a new company. Whereas again, I can point to a couple dozen of our companies who have features in development right now that they can describe to you. That are obviously

1:06:18 Jaw dropping. Wow. That would be incredible if you could roll that up. A very simple one. is the potential for Any SaaS company that has an operating system. To empower

1:06:29 Their customers to use natural language to query their database. Because most customers can't write SQL queries. But LLMs can. And so with some guardrails on this, you can turn

1:06:41 any SaaS app into having its own natural language driven reporting. That's wild. a nerdy actionable example. There's a company in my portfolio that Built that. Last week.

1:06:52 It's a good example and it's a measure how quickly existing companies adapt. Or adopt these new technologies. I was thinking back to Pinterest. The iPhone was two thousand seven. We invested in Pinterest in two thousand eleven. Pinterest didn't have an iPhone app. Until two thousand twelve.

1:07:06 A full five years after the iPhone. And so On that measure Kent is absolutely right, but I wouldn't overweight that one. It brings to mind the question of defensibility. I'm always curious about how investors like you all think about this concept.

1:07:20 Especially'cause it's kinda hard to squint and see it early on in the business's life cycle. But how do you think about defensibility in light of a technology change. Like this because I personally just

1:07:31 One guy have seen I don't know. twenty companies that effectively say they're gonna be this service you just described can like a BI analyst almost like in a box in a chat. interface or something like that.

1:07:42 And I'm sure there an amazing one or ten will get created, but it makes you wonder like how the hell are these businesses gonna make money over time? If there's so many options. So how do you think about what something like this does to existing companies defensibility and New companies, how they might build that over time. You could have asked the same question about cloud technology as

1:08:01 I think this is Largely gonna be a completely ubiquitous commoditized offering that will be equal opportunity for all these software companies. I don't think with maybe a few exceptions, you'll hear people discuss if you have a proprietary set of data, maybe you could build some Custom language model that

1:08:19 Works only on your proprietary site of data where you don't let it out. I've heard very smart people say, like, no, as these models get bigger and bigger, like they don't really need access to the proprietary data to be really, really effective. So I think it's like everything, it's just another golden hammer in the tool belt of incredible software and you just need to use it to build the best possible product. and own your market that way with the best possible product. Um and the long term defensibility comes there. And

1:08:45 occasionally we'll have a company that will be lucky enough to have a true network effect. I don't think this AI is more likely than other technologies to lead to a network effect. I do think When The

1:08:54 Companies that leverage this tech to make a jaw dropping product, roll their product out. it will be adopted even faster because it will be a holy crap moment, like, oh my God, that product's incredible. And like the word of mouth that's a key feature in the spreading of a lot of great companies will be even more accelerated with this. The ability to onboard customers leveraging this technology will be accelerated. efficiency of these companies will be accelerated because they'll be more productive per person. So As you can tell I'm a little bit of the bull in this group on this tech, but I think the long term defensibility is just

1:09:25 Classic software long term defensibility, speed to market, own that market, build a great team that provides the best product and service in the market, that's the real defensibility. This change brings to mind another question as we wind down here about building a great investment firm, which when it comes to the partnership. the partnership is the firm at any given point in time making these investment decisions. And I understand how you recruit and train

1:09:48 through the apprentice model, great investors over time. What's the other side of that? Like how do you get people that just aren't working out as partners out of the organization, whether that's a young person that started and just isn't a fit, or someone that's been there forever. and is towards the end of their useful life as a partner at Bessmer for whatever reason and needs to be a new young partner that is more specialized in AI or something like that.

1:10:13 How do you think about I guess I'll call it pruning. and tending to the partnership. Especially as it relates to having people leave when they're not right for it any longer or in the first place.

1:10:23 Well, like anything. Practice makes perfect. In the twenty so years I've been here, I've probably seen Fifty to seventy professionals leave Bessemer. And

1:10:36 Virtually all of them? Have gone on to do something really successful in many instances. in the V C industry. So one of my favorite games to play is just talk about the people who are partners at other firms.

1:10:48 We spent an important year or two or three at Bessemer. Sarah at benchmark. Christina and Chris at Andrews and Horowitz. Philippe at Excel. Mitchell and Brian at lead edge.

1:11:00 Larry at Volition. Lisa at Nor West. Anna at CRV. The list goes on and on and on. I think Bassemer to this day has exported.

1:11:10 More professionals to the rest of the venture capital industry. than the rest of the industry combined. And so The good news is You can find it's not the right fit for you at Bessemer and still be really successful in venture, let alone in other places. We have people who are

1:11:25 writers and comedians and in politics and so forth. But the better news it's still hard. And it's awkward. And so I think the important thing is what we realize And it's sort of obvious when you say it.

1:11:36 In order to attract the best people They need to feel confident and comfortable. Going to a firm. And when the firm can show that you have a really good chance of succeeding at that firm Over a long period of time.

1:11:48 Yeah. succeeding outside that firm It's a no risk proposition. The scary thing is when you join a firm it's either you're successful here

1:11:56 Where we're gonna publicly humiliate you. If you're not successful here, and good luck with the rest of your career, that's a much tougher proposition. We want to get the best people, even those who might be a little bit nervous. But what the future holds. So we're really careful. to do that pruning or the trimming as you describe it, in an extremely discrete

1:12:13 Way. So nobody really knows. Other than the person. And by the way It's often not about Keeping someone's weaknesses a secret. It's often about just it's the wrong fit. Like we have a particular model.

1:12:24 The model works really well for us. There are many people who want to do it in a different way. The most sharp contrast I might offer is the Hold hands, say cumb baya together and make an investment together. That's not what we do. We support each other, but as we mentioned earlier. In this conversation, we do it in a way where we're individually empowered to make decisions.

1:12:42 That's not for everybody. And so in many cases The folks who don't stay at Best More for the long haul. Are really talented. They just are gonna thrive better in a different system.

1:12:51 Jeremy spoke to the up and comers. You asked about The veteran investors. One of the healthiest aspects of our partnership is There's no tenure. Every year.

1:13:01 We evaluate each other's performance. Doesn't really matter what you did ten years ago. If you're not performing today, we have a very graceful and elegant model for transitioning folks out. And making room for the next generation. I go back to the intellectual honesty where

1:13:17 We're having open conversations with each other all the time. So it's not like there's a surprise moment. Like, hey Jeremy, you You lost a billion dollars and you haven't performed in ten years. That's not true for Jeremy. It's a constant open conversation, so it's not political, it's not personal, it's as low friction as it can be. I've loved learning about Bessmer from you three. I think it's such a unique

1:13:38 firm. I love collecting these different models. There's lots of ways to do this, but Really like the interesting advantages that your model has conferred on the partnership and obviously the results have spoken for themselves. My traditional closing question for everybody is to ask what the kindest thing that anyone's ever done for them is. Kent, maybe we'll start with you. Oh boy.

1:13:56 I mean so many people and I go back to Felda Hardyman. Professionally, my first mentor at Bessmer. Who did sit next to me in a room for hundreds of hours.

1:14:08 To no benefit. for himself of just telling me like here's why I did that thing that way. Half the time I just sat there were like, Why are you wasting your time? Telling me these things. He was just a natural teacher and professor and he certainly did not have to do it. He could have been

1:14:23 having a lot more hobbies and free time if he hadn't bothered educating me. So that was professionally the kindest thing that anyone did for me. Brian, you want to go next? Yeah, I was born in the Soviet Union. And when I was four years old, I got on a plane with a box of Legos, came to America. And my parents uprooted their lives and came to a country where they didn't speak the language and had no money.

1:14:45 and build a better life for me. So I'm grateful for that. Mm. Jeremy? That's a hard one to compete with. You can't be successful in this industry or a little in any industry with enormous amount of luck, and luck typically comes

1:15:03 With the extension of help from somebody else. And I don't think any of us would be here without it. I'll pick on one specific professional situation and it was actually Sarah Tap, who's now at Benchmark, who was working at Bessemer at the time, she was the first person who I ever managed in my life, in my career.

1:15:18 We were a couple of years into working together. And she wrote. Public blog post about me, which she didn't run by me first, where she mostly just said thank you. And it made me feel so good.

1:15:30 that I basically resolved at that point to say like I wanna do this Ten more times in my lifetime, find someone who's younger than I am, less experienced than I am. And help them. Had she not done that, I don't know if I would Have taken to it in quite the same way, but I'm really grateful for that.

1:15:44 Wonderful story. Love that point of connection. I'm very thankful to ET for your time and for being willing to share a lot of how the business runs and what you've learned in the past. Thank you. It was a pleasure. Thanks, Patrick. If you enjoyed this episode, check out JoinColossus.com.

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