Round up of the last few months; COVID-19, CARES Act, Treasury, Federal Reserve facts/figures; portfolio company news

As we move toward the end of the 3rd month since most of the largest U.S. cities went on lock down, we are seeing the market hit an 11-week high and the fear of missing out kicking in with more and more investors. While the $2.9 trillion of fiscal relief and $4 trillion of liquidity along with an expectation for more fiscal stimulus has supported the market, we must recognize that the Fed policy has drawn a line in the sand for which companies will survive and which we are okay if they do not.

The distressed sector is diverging from the rest of the credit market. Central bank policy is driving the market. According to Mike Swell, Goldman Sachs Asset Management Co-Head of Global Fixed Income Portfolio Management: “Policy is easy and the Fed is buying corporate credit for the first time. Very very significant support for the market, which gives companies the ability to be able to access markets and to be able to term out their debt and that is the most critical factor to a company’s ability to be able to survive…People are comfortable that there is a backstop from the Fed…U.S. market is the high yielding market in the globe…People have to go somewhere and they’re going to the U.S. credit markets as that safe haven. And the Fed now is looking at credit as a very very important policy tool….Global demand for yield as well as support from the Fed is a very very supportive backdrop for credit.”

Remember:

2008 amount of BBB rated bonds: ~$700 billion

2020 amount of BBB rated bonds: ~$3.4 trillion

We still do not know how everything will shake out as we do not know how the re-openings will do and no investor has ever been through a pandemic like this. What we do know is that the digital transformation of society just got accelerated these last three months.  

At East Los Capital, eastloscap.com, we are watching our thesis play out in real-time. The pandemic environment reinforces our belief that companies optimizing their businesses around technology will be the most agile and best poised for growth in all market environments. We will continue to look for opportunities consistent with this thesis and at reasonable valuations.

Below are some quick updates from my portfolio companies, commentary on the markets and other ideas, and a summary of key facts and figures from COVID-19 related government actions. And before reading on, remember George Floyd and too many others: https://newsone.com/playlist/black-men-boy-who-were-killed-by-police/.

Finix Payments

Learn about the payments layer cake from Richie Serna and the Finix team:

https://blog.finixpayments.com/payments-layer-cake-questions-answered

Passfolio

Passfolio’s mission is to democratize investment opportunities by creating a unified, global, and borderless investment market. Today people outside the United States often need hundreds of thousands of dollars to invest in the U.S. stock market. Passfolio reduces that minimum to $1 to invest in U.S. stocks such as Tesla (TSLA), Apple (APPL), and Amazon (AMZN). We are now building a unified global investment marketplace with the goal of offering investments from all over the world, to anyone in the world, through a fast, easy, and secure mobile app. See a note from Passfolio’s founder: https://www.passfolio.us/posts/o-compromisso-da-passfolio-com-voce-hoje-e-sempre

Sabio

Article from my associate, Claudia Diaz: “Rethinking the value of higher education? Go from learning to earning, Harvard or Sabio coding bootcamp”

https://blog.sabio.la/rethinking-the-value-of-higher-education-b91668346f

Sabio became 1 of about 7 total preferred training providers nationally for the VET TEC Program in the Summer of 2019. We enrolled our first students in September 2019, and graduated our first cohort in Dec 2019. Within a month, our first VET TEC Fellow secured a job in January 2020. Those are results and what is going to drive this country forward. Thank you Liliana Aide Monge and Gregorio Rojas for your leadership.

I’m excited for all my fellow veterans showing courage in taking the plunge to learn a new career. We show it through bootcamp and our military schoolhouses, we show it in combat zones and while training other countries, and we have no issue showing this economy how to move forward.

See Liliana’s informative post for U.S. Veterans, which is one of the reasons Sabio is a leader in technical training for Veterans: https://blog.sabio.la/vet-tec-status-update-all-the-details-military-veterans-need-to-know-5ee4e373f277

Harrison Tang, founder/CEO of Spokeo and our East Los Capital Advisor, on importance of attitude in crisis: https://www.starterstory.com/spokeo-people-information-search-tool

Hispanic Heritage Foundation

As Chairman of the Hispanic Heritage Foundation, I was thrilled to announce we were partnering with Northern Arizona University to promote academic cooperation and human capital development, through research and education. Thank you to Dr. Joseph Guzman and our President/CEO Antonio Tijerino for the leadership and vision.

As part of the cooperation, both orgs commit to:

  • Exchange of materials in education, research, publications, and academic info
  • Development of joint proposals to funding entities (federal, state, institutional) for projects of mutual interest
  • Joint meetings/seminars for training, education, and research
  • Technical assistance, to include strategic development and consulting
  • Student exchange and liaison
  • Conducting research on HHF programs across US including Code As a Second Language (CSL)

We are ready to put in the work with NAU, a world-class research institution, which will help us move our mission forward in ensuring Latinos and Native Americans have a stronger path to STEM. Research is critical to better programs, strategies and services in support of the underrepresented in the STEM fields, not because of talent but opportunity.

Recruiting, nurturing and graduating Hispanic and Native American students in the fields of STEM is a priority at NAU.

Got some of my own quotes in the press over the last few months:

https://www.pehub.com/capvests-curium-shelves-potential-3bn-sale-amid-downturn-bain-capital-ventures-backed-vetsource-weighs-options-great-hills-chris-gaffney-talks-downturn/

The uncertainty in the market has also exposed which portfolio companies are better positioned to operate independently, and which tend to depend on capital markets as they burn through cash, GPs told me.

This has been especially relevant for lower middle-market and VC-backed companies, Emanuel Pleitez, co-founder of East Los Capital, a Los Angeles-based investment firm, told me.

“There are some PE- and VC-backed companies that are still comfortable burning a lot of cash. GPs are now telling them they may not [have] access to capital markets in the next two years,” Pleitez said.

According to Pleitez, those kinds of companies need to create a budget that is different from the one they had before to foster a new culture.

https://www.pehub.com/how-working-from-home-will-change-the-way-private-equity-interacts-cppib-closes-1bn-plus-portfolio-sale-in-downturn-pine-island-seals-first-deal-alongside-bain/

“Yes, the uncalled capital is unused by private equity firms at the moment, but it’s not unused by the limited partners (LPs) of the private equity firms. This “dry powder,” or uncalled capital, does not mean it’s actually cash just sitting there. LPs have this uncalled capital in other “like” securities, which means it’s likely invested in the stock market. That means it’s ~20% less available than it was on Feb 19, 2020. Yes, there will be private equity firms that will benefit greatly because they specialize in investing in this environment. And even the ones that don’t specialize will benefit from lower valuations. However, the uncalled capital:

1) Is not new cash that is uninvested. As LPs will likely have to sell stocks to finance the capital calls. Some less sophisticated LPs (usually LPs of smaller funds) are actually already missing capital calls because they don’t have the capital available. The more sophisticated ones are obviously more likely to hit their capital calls, but they still likely have to sell something to get cash and wire it to the GP. So all in all this will be closer to net neutral on the impact to capital markets and the economy

2) Could be used to make investments at lower valuations into portfolio companies of other PE firms, but it is usually not meant to save a failing portfolio company. PE/VC firms do have reserves to invest more into their portfolio companies, but an LP would want any new investment to be made at an appropriate valuation. That means the PE firm needs to at least run some sort of a process, otherwise there would be a conflict. The loss of value has to occur. LPs do not want “good money chasing bad,” they want better investment opportunities, which will likely be new investments.”

https://www.mergermarket.com/info/startups-ask-investors-waive-rights-turn-debt-stay-afloat (Nothing that insightful from my end in the article, but good article for how startups are dealing with the current environment.)

“Another option for VC-backed companies facing a cash crunch may be non-bank lenders or venture debt firms that offer minimally diluted loan products, said Emanuel Pleitez, co-founder of East Los Capital, a middle market private equity fund.”

Summary of fiscal relief/stimulus and Federal Reserve liquidity facilities – could not find this anywhere else, so decided to put it together as a reference for folks

To date: $2.9 trillion in fiscal support for households, businesses, health-care providers, and state and local governments—about 14% of GDP

Including $195 billion of Treasury liquidity for $2 trillion of liquidity; ~$4 to $4.5 trillion expected

1) Coronavirus Preparedness and Response Supplemental Appropriations Act: $8.3 billion

2) Families First Coronavirus Response Act: $192 billion

3) CARES Act: $2.2 trillion (initially reported as $2.3 trillion)

4) Paycheck Protection Program and Health Care Enhancement Act AKA COVID-19 3.5 bill: $484 billion

COVID 3.5 Act: $484 billion

– $310B for PPP

– $60B for SBA disaster assistance loans

– $75B for hospitals

– $25B for testing

CARES Act:

$497 billion to large corporations, i.e. $454 to Treasury for lending

$377 billion to small businesses – i.e. $349B for PPP

$293 billion cost of $1,200 rebate

$268 billion cost for FPUC

$265 billion in tax incentives

$150 billion to state and local governments

$146 billion for public health

$31 billion for education

$150 billion for Federal departments and other discretionary

https://www.cbo.gov/publication/56334

Organizations that employ 60% (small businesses 50% and non-profits 10%) of workforce got only ~17% ($377 billion) of funds from CARES Act.

Total CARES Act: $1.7 trillion total excluding Treasury equity; $2.2 trillion total

$454 billion in Treasury equity for $4 trillion of Federal Reserve potential liquidity through various facilities

Currently: $195 Treasury equity accounts for $1.95 trillion in Fed liquidity

  • $75 billion Treasury equity levered to $600 billion in liquidity for 3 Main Street Facilities
  • $75 billion Treasury equity levered to $750 billion in liquidity for 2 Corporate Credit Facilities ($50B equity for primary, $25B equity for secondary)
  • $35 billion Treasury equity levered to $500 billion in liquidity for Municipal Liquidity Facility
  • $10 billion Treasury equity levered to $100 billion in liquidity for TALF

https://www.federalreserve.gov/newsevents/funding-credit-liquidity-and-loan-facilities.htm

$259 billion currently retained by Treasury to expand current facilities or support more Federal Reserve lending programs

Money Market Mutual Fund Liquidity Facility (MMLF): https://www.federalreserve.gov/monetarypolicy/mmlf.htm (Treasury’s Exchange Stabilization Fund will provide $10B of credit protection)

Primary Market Corporate Credit Facility (PMCCF): https://www.federalreserve.gov/monetarypolicy/pmccf.htm ($50B Treasury equity for ~$500B in liquidity)

Secondary Market Corporate Credit Facility (SMCCF): https://www.federalreserve.gov/monetarypolicy/smccf.htm ($25B Treasury equity for ~$250B in liquidity)

Term Asset-Backed Securities Loan Facility (TALF): https://www.federalreserve.gov/monetarypolicy/talf.htm ($10B Treasury equity for $100B in liquidity)

Municipal Liquidity Facility: https://www.federalreserve.gov/monetarypolicy/muni.htm ($35B Treasury equity for $500B in liquidity)

Main Street Lending Program: https://www.federalreserve.gov/monetarypolicy/mainstreetlending.htm ($75B Treasury equity for $600B in liquidity)  

Main Street New Loan Facility (MSNLF)

Main Street Priority Loan Facility (MSPLF)

Main Street Expanded Loan Facility (MSELF)

Other facilities:

Primary Dealer Credit Facility (PDCF): https://www.federalreserve.gov/monetarypolicy/pdcf.htm 

Central Bank Liquidity Swaps: https://www.federalreserve.gov/monetarypolicy/central-bank-liquidity-swaps.htm

Temporary Foreign and International Monetary Authorities (FIMA) Repo Facility: https://www.federalreserve.gov/monetarypolicy/fima-repo-facility.htm

Municipal Liquidity Facility to issue Upskilling or Future-of-Work Bonds

The Fed expanded the Municipal Liquidity Facility on April 27 by lowering the population threshold to include

– counties with at least 500,000 residents and

– cities with at least 250,000 residents.

Also, the maturity of the notes could be up to 36 months. It was 24 months when they first announced it on April 9.

https://www.federalreserve.gov/newsevents/pressreleases/monetary20200427a.htm

My idea is that municipalities and states should consider issuing something like Upskilling or Future-of-Work Bonds to provide funding for technical training. Use this crisis as an opportunity to support the transition of the workforce. As there are more unemployed folks out there, there might be more interest in career switching into more technical roles with higher longer-term potential income. Might as well use the Fed backing for good.

Animal Spirts

In case you’re wondering why more talking heads on financial news are calling on “animal spirits,” Keynes: spontaneous urge to action rather than inaction, and not as the outcome of a weighted average of quantitative benefits multiplied by quantitative probabilities. I feel like “animal spirits” has replaced “bespoke” as a more common Wall Street term.

Hertz case study

HTZ is a great case study for any aspiring investor. HTZ was a Wall Street darling in 2006 through mid 2007, then went almost straight down over a year to bottom at under ~$5.50 in Nov 2008…then you could have made a over a 19x return in less than 6yrs (take that VCs) riding it up to over $105 in 2014. However, as investors smelled competition, impact of ridesharing services, some divestitures, and balance sheet deterioration, the stock went nowhere but down.

Lots of takeaways, including the impact to the auto industry as last year, car rental companies bought ~10% of the US auto industry production (1.7 million automobiles). “Smart” investors get it wrong sometimes — Carl Icahn owns almost 40% of HTZ and was buying through at least March. HTZ was not “essential” enough to get bailed out like Boeing and the airlines. Debt takes down brand. And, even all the Fed’s programs couldn’t save it. Oh and for the consumer looking for a car, get your discounted purchase at hertzcarsales dot com 🙂

Bankruptcy (Chapter 11-type) doesn’t mean liquidation, so the brand will still survive for now, but creditors will have to eat some as equity holders are almost (should be) at zero. Equity holders still in are holding out for some leniency from the bankruptcy process and the ability for Hertz to survive.

No, $2 trillion of private equity “dry powder” will not save economy

There is anywhere between $1.5 trillion to $2 trillion of private equity “dry powder,” however, there is a misunderstanding on the potential impact of the dry powder getting finally deployed.

First, we should all get on the same page of what is private equity “dry powder.” It is simply uncalled capital by private equity firms. It is not a “cash pile” or “unspent cash” as some reporters and “experts” like to speak about it.

Second, there is a flawed assumption that private equity firms have the ability to call all their capital at once. Without getting into the mechanics and difficulty of just getting one transaction done in the private markets, we just need to consider that most private equity firms have a 5 year investment period. That means that most private equity firms expect to deploy the capital over 5 years. In fact, the private equity firm’s general partnership (GP) in charge of one fund takes pains to explain to limited partners (LPs) during the fundraising process of that fund that they will adhere to a particular investment cadence. The GP takes great care in explaining how they are really good at what they do and that they have a plan for how to deploy over the 5 year investment period. Once the fund is set up, the closest thing to a governing body of a the fund is a Limited Partner Advisory Committee (LPAC). LPACs are there to ensure the Limited Partners have the means to do something about the fund if the GP does not do what they said they would do. LPACs would not be happy if all of a sudden a private equity firm decided to call all their capital at once. So no, “dry powder” is not going to get called all at once to save the economy.

Third, while the “dry powder,” which again is simply uncalled capital, is technically “unused” by private equity funds, it is not “unused” by the LPs of the private equity funds. The capital is actually not cash just sitting there. LPs have this uncalled capital in other “like” securities, which means it’s likely invested in the stock market. That means it’s ~20% less available than it was on Feb 19, 2020. To all my reporter friends whose sources say this dry powder will benefit the economy or will prop up companies, please ask follow up questions.

Yes, there will be private equity firms that will benefit greatly because they specialize in investing in this environment. However, the uncalled capital:

A) is not new cash that is uninvested as LPs will likely have to sell stocks to finance the capital calls, so net neutral on impact to capital markets and economy, and

B) could be used to make investments at lower valuations into portfolio companies of other PE firms, but it is not meant to save a failing portfolio company (that would usually be a conflict) – an LP does not want “good money chasing bad,” they want better investment opportunities, which will likely be new investments.

In sum, “dry powder” is not new cash for the economy. And, private equity firms will likely benefit because they will be able to buy new companies at lower valuations than 45 days ago. However, that does not mean the economy will benefit. The value has already been destroyed.

Commercial eviction moratorium references — extra focus on some cities including Los Angeles, Irvine

I did this summary with references on eviction moratoriums in California due to COVID-19, with a focus on small businesses renting commercial property in the counties of Los Angeles and Orange. I specifically highlighted the cities of Los Angeles, Culver City, and Irvine as I have some portfolio companies with offices there. There is a lot of confusion out there, so hope this is helpful for others. I am happy to chat with anyone that needs help figuring this out. For full disclosure, I am not an attorney, I just read when I can and I have learned some decent online searching skills over the years. I also enjoy opportunities to marry my investing and general business background with my political and government exposure. The press has done a decent job covering all these Coronavirus-related moratoriums. However, with so many random outlets out there and pay walls popping up everywhere, it can be very difficult for small business owners without legal/regulatory teams to get the correct news relevant to them. Even for someone like me with local and Federal government experience, it was not always easy to decipher regulatory language and follow executive orders, resolutions, ordinances, and even executive orders being rescinded. Aside from the news articles, I always recommend making an attempt to get as much of the information directly from the root source.

  1. First, even if you get a loan from the CARES Act Paycheck Protection Program, you are obligated to earmark it for rent. See this article addressing this myth: https://www.bisnow.com/houston/news/economy/the-cares-act-is-a-relief-for-small-businesses-but-with-caveats-103710 
  2. Governor Newsom’s Executive Order N-28-20 on March 16, 2020 lays out a framework for local governments to follow in enacting moratoriums on evictions of commercial tenants during the COVID-19 pandemic. However, the Order does not itself implement a statewide moratorium. Governor Newsom left it up to the cities and counties to execute their own ordinances or resolutions. Some people interpreted the Order as an encouragement to cities and counties, but there is no obligation. Here is the Order:  https://www.gov.ca.gov/wp-content/uploads/2020/03/3.16.20-Executive-Order.pdf. Here is an article with an overview: https://www.jdsupra.com/legalnews/california-commercial-landlord-77556/
  3. The City of Los Angeles did enact an eviction moratorium, which includes commercial properties, through the end of the “Local Emergency Period” as declared by the Mayor. Renters can pay the rent up to 3 months after the end of the Local Emergency Period. This is an open-ended date as the Mayor has not declared an end date to the Local Emergency Period. The ordinance excludes multi-nationals and >500 employee businesses. Here is the actual ordinance passed by the Los Angeles City Council on March 27, 2020 and signed by the Mayor on March 31, 2020: http://clkrep.lacity.org/onlinedocs/2020/20-0147-S19_ORD_186585_03-31-2020.pdf. Surprisingly this City Council ordinance is not well covered in the press even though Mayor Garcetti rescinded his prior Executive Orders to make way for this ordinance. Most of the press focuses on the Mayor’s Executive Orders. I also noticed some publications cite prior drafts of the City Council ordinance, which have outdated information that was not actually passed by the City Council. Here is a decent explanation I found from a large law firm, Gibson Dunn: https://www.gibsondunn.com/state-of-california-and-city-of-los-angeles-enact-new-tenant-protections-in-response-to-covid-19-pandemic/
  4. Culver City enacted their own moratorium, which included commercial tenants, through May 31. Here is the resolution: https://www.culvercity.org/home/showdocument?id=18916. And, here is an article about it: https://urbanize.la/post/culver-city-extends-covid-19-eviction-moratorium 
  5. Los Angeles County passed an eviction moratorium,including commercial tenants, through an executive order by the Chair of the Los Angeles County Board of Supervisors. The moratorium is in place through May 31. Here is the order: https://covid19.lacounty.gov/wp-content/uploads/19032020HP_MFP_M577143825.pdf. Here’s an article covering the order: https://www.nbclosangeles.com/news/local/la-county-announces-moratorium-on-evictions/2330389/ 
  6. City of Irvine, however, did not enact a moratorium. Instead they approved a resolution to “encourage, and expect…all commercial landlords…to abide by the provisions of the Governor’s Executive Order…City has…refrained from exercising…full regulatory authority…based on its long history working together with its business community.” I am sure there was some decent lobbying by commercial real estate landlords in Irvine. Here is the actual resolution: http://legacy.cityofirvine.org/civica/filebank/blobdload.asp?BlobID=32405 and the announcement on the City’s website: https://www.cityofirvine.org/news-media/news-article/city-council-adopts-resolutions-pertaining-covid-19-landlords-evictions-and 
  7. Lastly, the California State Judicial Council on April 6, 2020 adopted a new rule to not hear eviction cases for 90 days, even if a landlord files such a case. While it is not apparently clear, this rule does apply to both residential and commercial potential tenant evictions. Here is the announcement on their website:https://newsroom.courts.ca.gov/news/judicial-council-adopts-new-rules-to-lower-jail-population-suspend-evictions-and-foreclosures. Here is a decent article explaining this new rule adoption: https://www.dailynews.com/2020/04/07/coronavirus-eviction-ban-what-tenants-need-to-know/  
  8. And for good measure, here is a good article on the commercial real estate landlords’ perspective: https://www.bisnow.com/national/news/economy/april-rent-collection-coronavirus-what-happens-now-103687. For those renting from the Irvine Company, one interesting excerpt: “The Irvine Co., which has a portfolio of more than 40 retail centers, told its retail tenants they will not be charged rent for the next 90 days starting April 1, and the deferred rent would be paid back over a 12-month period with no interest starting Jan. 1, 2021.”

I hope this is helpful to others.

East Los Capital’s Thoughts & Perspectives on Markets

From East Los Capital blog: https://eastloscap.com/2020/03/19/east-los-capitals-thoughts-perspectives-on-markets/

That we live in interesting times cannot be understated. On Monday, the VIX recorded its highest level (83.56) since the 2008 crises. The VIX is widely known as the “fear gauge” and reflects market volatility and the general cost of hedging using options. A VIX that is this elevated reflects a market that is confused and agitated but on the brighter side the VIX rarely stays this elevated for long. In 2008 the VIX peaked at a closing value of 80.86 on 11/20/08 and reentered the 40.00 level 18 trading days later.  Investors seem to be asking 2 related questions these days:

1) Can the Federal Reserve and other central banks provide a successful encore to their 2008-2009 performance in which they introduced monetary tools never used before to shorten a downturn that many believed could have lasted for years, and

2) what will be the speed and trajectory of an eventual recovery?

Many have prognosticated in recent years that should we have a severe economic downturn, the Fed would be less able to effectively address it since it had not normalized interest rates or shrunk its balance sheet in the manner that it had initially planned. Over the past week the Fed has slowly been addressing many of the same concerns that predominated in 2008 and has been rolling out some of the same “fixes” it used previously. Interest rates have been lowered to zero, commercial paper facilities have been put in place along with repo programs, primary dealer credit facilities, expanded dollar swap lines, QE 5, and talk of helicopter money, stimulus and bailouts (loan guarantees) for hard hit industries. Some of these can and have been enacted by the Federal Reserve while others require Congress. Investors’ reactions to these announcements have been uneven at best ranging from despair to euphoria while 1,000 point up/down days have become the recent norm on Wall Street. Whether these fixes will be as effective the second time around is something that we will not know for months if not years.Investors seems to be handicapping 5 different potential outcomes from these interventions:

  1. Recession: The Wall Street consensus appears to be well over 50%.
  2. L-shaped recovery: A severe recession that takes years to return to trend line growth.
  3. Stagflation: High inflation coupled with high unemployment.
  4. V-shaped recovery: Similar to December of 2018 when the Fed changed course on tightening.
  5. U-shaped recovery: Gradual with a less defined trough.

How are we looking at the world at East Los Capital:
For context, we have been cautious and skeptical of the indefatigable stock market for some time. We had experienced one of the longest economic expansions and bull markets ever and much of this seemed to be built on artificially low interest rates, multiple expansion, and what seemed like the endless appetite of CEO’s to repurchase billions of dollars of their own stock at higher and higher valuations. As recently as January, famed hedge fund manager Ray Dalio claimed that “cash is trash” and recommended that investors stay in the stock market to protect against dollar devaluation. Now, we have record dollar strength and shortages worldwide. Many companies that used their cash to repurchase stock at all-time highs would undoubtedly like to have some of that cash back. Other investors such as Warren Buffet routinely told retail investors that it was fine to buy as long as they had a long-term perspective while Berkshire Hathaway sat on billions of dollars in cash due to “unattractive valuations”. Economic data from around the world including the U.S. was uneven and in some cases downright bad and growth was unimpressive which may be why the Federal Reserve cut interest rates 3 times last year. Now given recent events, we have no doubt that Mr. Buffet is putting some of the gigantic cash hoard to work as we speak.

Something was going to derail this bull market and the coronavirus was the catalyst, but we do not attribute all of the violent selling in recent days solely due to the virus. The implication is that even once the virus issue is behind us, we will be left with many of the economic issues that were present beforehand and with an even weaker economy.

We are of the belief that we will experience a definitional recession followed by a u-shaped recovery. In our most optimistic scenario, testing kits become widely available in the near future and counterintuitively as the number of reported infections increase, and presumably most people recover in a reasonable amount of time, the uncertainty that Wall Street hates will be removed. During past health related market sell-offs the market decline has tended to bottom as infection rates peaked. In this scenario we would still likely experience at least 2 quarters of headline GDP contraction, but people and businesses would be able to return to their normal activity levels faster than expected.

How does this affect our investment philosophy and strategy:
We continue to favor asset-light companies which provide the opportunity to improve growth and efficiencies through the better use of technology (e.g., techification) via East Los Capital technical partners.

The need to be able to work remotely and have data secured and available to everyone reinforces our focus on cloud infrastructure. A renewed focus on internet security has emerged as people work from out of the office which is consistent with our bias towards cyber security.

While we do not invest in biotech or anything directly related to drug discovery, we do look at companies in the health care IT space as well as those featuring telemedicine capabilities. Both of these areas will continue to garner much investor interest in the years to come.

We have previously expressed a philosophy of using conservative capital structures with minimal to moderate levels of debt. The recent devastation of highly leveraged companies reinforces this thinking.

We have not been willing to chase valuations and now valuations have come down rapidly with the potential double whammy of multiple compression and reduced earnings in the future. We believe that it will take time for sellers, who unlike the managers of publicly traded equities, are not used to seeing their valuations marked to market on a daily basis, to come to terms with the fact that the value of their businesses may have come down meaningfully.

We believe that the dramatic decline in public market valuations may provide a new area for sourcing potential deals, especially in the lower middle market as many of the publicly traded companies in this segment arguably should not be public companies and have struggled with the cost and regulatory burdens associated with this. Now will be the opportune time to have conversations with these companies about going private should their existing capital structure allow for it.

What are we still trying to figure out:
Will the massive amount of “dry powder” that has been on sideline limit the decline in valuations as this money finally commits to transactions?

What is the real damage to supply chains and how long might this take to recover?

What is the damage to animal spirits and risk tolerance? Some Wall Street professionals have never seen a down market and this could dampen valuations for an extended period of time.

What will be impact on private market allocations after pension funds have lost so much of their recent performance. As of today, we have given back almost all of the gains from the last 3 years in the public markets.

Many of the industries that are currently seeking assistance from the federal government bought back billions of dollars of their own stock in recent years. Share buy backs were already controversial in some corners and now there is talk of eliminating or restricting this activity going forward. What would this do valuation metrics going forward?

We know from our 2008/09 experiences that a recovery in the debt markets will be a sign of a valuation bottom for equities. Investors will not be aggressive in buying the equity portion of the capital structure when higher priority debt on the same companies can be purchased at a significant discount to par.

What will be the impact of the massive interventions being implemented and discussed by governments and central banks. Personal balance sheets are important. Corporate balance sheets are important. This logic should extend to central banks and governments which will be growing deficits and possibly stoking inflation to levels that finally exceed their “2% targets” to a degree that is unhealthy.

Summary
The environment that we are currently experiencing reinforces our belief that companies optimizing their businesses around technology will be the most agile and best poised for growth in all market environments. We will continue to look for opportunities consistent with this thesis and at reasonable valuations.

Beaten down publicly traded micro-cap and small cap companies which would be better served as private companies may prove to be a new area of deal sourcing for our firm.

Research, research, research. The importance of fundamental company and market/industry research will continue to be a priority. Companies which have held up the best during the recent market downturn have been those possessing the best underlying fundamentals along with competitive moats and/or markets with strong secular tailwinds. We strive to find these companies in the lower middle market.

Quarterly results from the mega cloud providers: Not as “cloudy” as thought

From East Los Capital blog: https://eastloscap.com/2020/02/10/quarterly-results-from-the-mega-cloud-providers-not-as-cloudy-as-thought/

Over the past several quarters, Wall Street has been laser focused on signs of slowing growth amongst the hyperscale cloud providers.  In recent quarters, these tech giants represented by Amazon, Microsoft, and Google have provided just enough uncertainty in their results to rattle investors concerned about slowing growth rates.  In Q3 of 2019, Amazon stock was punished by investors after it reported AWS results that were slightly below analyst estimates and pointed to a potential slowdown in infrastructure.  These companies have been growing at truly impressive rates for years (AWS launched as a commercial service in 2006).  Despite the tremendous opportunity that is still ahead of them, it would not be unexpected to see some slowing in growth rates as the law of large numbers begins to take hold.

Intel surprises and scares

In the most recent earnings season where companies reported results for the quarter ending December, 2019, Intel once again gave investors reason to be nervous as they reported strong results with what many perceived as conflicting commentary and guidance.  Intel management reported results that beat quarterly expectations driven by strong demand in their cloud business (data centers) and remarked that there is an insatiable appetite for data driving the cloud – “they need more compute, more storage, and need to move data faster which places demand on the cloud players.”  But then management threw investors a curve ball with their CFO stating that after the first quarter the company expects “more modest capacity expansion for the remainder of the year” as cloud clients “move to a digestion phase.”  Management alluded to short term distortions in demand signals for their reluctance to be more aggressive in second half forecasts.  “The cloud providers come in big spurts, they buy a lot, they ingest it, they consume it, they suspend their buying and then they come back in big waves.”  Investors looked forward to commentary from the Big 3 cloud providers to see just how big, or small, these waves might be.

AWS rights the ship

Amazon regained investor support on the back of strong results at AWS which exceeded expectations.  Revenues of $9.9 billion during the quarter reflected 34% year over year growth, which, although a very slight deceleration from the prior quarter, was enough to satisfy skeptical investors who had begun to question the sustainability of these types of growth rates from a company that now boasts a trillion dollar market cap.  Operating margins expanded, so any argument that growth was being achieved at the expense of profitability was mollified.  Importantly, AWS long term commitments of $30.0 billion maintained over 50% growth.  AWS continues to grow revenue as a result of the company’s push into large scale enterprise customers and strong adoption of new AWS products and features.  Amazon also announced that it is extending the useful life of its servers from 3 years to 4 years which is consistent with the data center efficiency investments Amazon has discussed over the last couple of years.  While this may not be good news for the hardware players (and might explain some of the comments by Intel) we view increased efficiency at AWS as good for the overall health of the cloud space.  Efficiency drives pricing which drives adoption.

Azure continues its sizzling growth

Microsoft does not disclose actual revenue numbers for Azure but they do disclose growth rates and a reacceleration to 64% year on year growth was enough to cheer investors and put to rest any near term concerns about slowing growth.  Management boasted about “very good and healthy broad base consumption growth, especially in IaaS and PaaS.”  They specifically called out that it not only had good workload migration work and strong growth in the optimization of the workloads already running, but the fact that some of these new PaaS workloads, like Synapse and Cosmo DB, and Arc are starting to add some momentum in that part of the stack.  This bodes well for continued growth.  In Azure, revenue growth will continue to reflect a balance of strong growth from consumption based business and moderating growth in per-user businesses, given the size of the installed base.  While gross margins are expected to continue to improve, the rate of improvement will decline due to this mix shift.  Management touted new products and features across analytics, AI, the edge, hybrid computing, quantum, and their exclusive relationship with SAP.  All in all, an impressive quarter for the company.  A CNBC talking head was recently heard postulating that if the company were to change its name to Azure it would see an instant bump in valuation as images of Windows and desktops were replaced with cutting edge cloud technologies.  Management might want to take that under advisement.

Alphabet surprises with good results and increased disclosure

Google rounded out the reporting results of the cloud providers with perhaps the most interesting development in that management decided to break out cloud results separately.  There is no greater joy for analysts than to see the actual numbers that they have been guessing at forecasting for years.

Revenues from Google’s Cloud business accelerated to 53% Y/Y growth in FY19 (vs. 44% in FY18) with the business on a $10 billion run rate as of Q4’19.  Google Cloud Platform (GCP) is growing “materially higher” than overall Cloud with management noting particular strength in their Data Analytics products.

Year on year, the number of deals over $50 million more than doubled with investments in Cloud’s go-to-market expansion resulting in customer momentum.  Large customers who are making multi-year commitments resulted in a backlog which ended the year at $11.4 billion.  As evidence of the company’s commitment to being the #2 player in cloud by 2023, the majority of new hires were engineers and product managers with the most sizable headcount increases being within Google Cloud.

Google is embracing its position of “challenger” by investing aggressively with a focus on building out go-to-market capabilities and executing against a product roadmap that extends the global footprint of their infrastructure to focus on 21 markets and 6 industries.  The cloud team is on track to triple the sales force in three years, which includes bringing in a number of senior strategic hires and supplementing them with the channel partnership program.

Take Aways for investment in IT Service/MSPs/cloud integrators

The cloud is strong, healthy, and increasingly larger.  Even with growth rates that are naturally declining, the absolute dollars spent on the cloud is increasing.  Total IaaS/PaaS revenue from the Big 3 cloud providers grew from $6.9 billion in Q4’17 to approximately $16.0 billion in the quarter which just ended.  At East Los Capital, we regularly speak with cloud executives in order to have a pulse on the industry.  Most cloud executives state that the largest bottleneck to growth is partners which can assist customers in the integration of their increasingly broad and complex product offerings.  This is fertile ground and a gigantic opportunity for partners which have or can obtain the necessary engineering talent, certifications, and scale to assist businesses and the cloud providers in what will be an ongoing and lengthy transition to the cloud.  Along with the transition comes an increasing need for managed services and customized application development.  The best positioned cloud services partners will reap the rewards.

Finix is doing for fintech what AWS did for web services

From East Los Capital blog: https://eastloscap.com/2020/02/05/finix-is-doing-for-fintech-what-aws-did-for-web-services/

As one of the first investors in Finix Payments back in 2017, it’s been fun to grow alongside the Finix team and help educate the world about the payments industry.  And, it’s always nice to get some validation from other investors like Acrew Capital, Act One Ventures, Activant Capital, Argo Ventures, Aspect Ventures, Bain Capital Ventures, Class 5 Global, Homebrew, Insight Partners, Inspired Capital, Precursor Ventures, Sequoia Capital, Village Capital, and Visa.  Sequoia Capital led the Series B of $35 million, announced yesterday. 

While payments is sometimes a painful part of running a company and quite frankly a blackbox to most folks outside of the payments industry, Finix is helping companies demystify the facilitation of payments and take home more of their hard earned revenue.  Finix is doing for financial technology (fintech) what Amazon Web Services (AWS) did for web services.

Before we explain the payment stack and show you some cool visuals courtesy of the Finix team, let’s illustrate the complexity of payments by breaking down what actually happens when you pay for a rideshare service with the Visa credit card you have loaded into the rideshare app (example below and substance of the content was provided by the Finix team and can be found on the Finix blog: https://blog.finixpayments.com/).

  1. Charge customer card: The rideshare platform acts as a payment facilitator and instructs their acquiring processor, First Data, to charge the Visa-branded credit card you have on file, then
  2. Verify funds: The processor checks with your issuing bank–via the issuing processor–to see if your card is valid and has enough funds to pay for the ride, then
  3. Authorize transaction: The issuing processor authorizes your transaction in a few seconds, which serves as a guarantee that the ridesharing platform will be paid later, then
  4. Make funds available: The next day, the acquiring bank, receives the funds from the issuing bank and makes them available to the ridesharing platform, then
  5. Take fee and pay driver: The ridesharing platform takes their fee and sends the remainder to the driver

Much happened in that one transaction!  Aside from the customer or buyer and the service provider or merchant, you have:

  • payment facilitators
  • acquiring processors
  • issuing banks
  • issuing processors
  • acquiring banks
  • card networks

all involved in this one transaction.  Here are some of the key players:

Finix payment facilitation visual graphic

Source: Finix Payments

These players create the payment stack, or what could be referred to as the “payments layer cake” visualized here:

Finix payment stack visual graphic

Source: Finix Payments

Card networks influence every layer of the payment stack.  There are four major card networks, or “brands,” in the U.S. including Visa and Mastercard.  These card networks have the important task of setting the interchange fees that merchants are charged to accept credit cards.  They only bear risk if a bank becomes insolvent.

Issuing banks issue the credit cards on behalf of the card networks and hold the buyer’s deposits.  They are liable for the purchases made by the buyers and responsible for transferring funds to acquiring banks.

Issuing processors sit directly on top of issuing banks.  While most people have never heard of companies like TSYS, FIS, and, more recently, Galileo, they work with the card networks and issuing banks, to approve or decline transactions in real-time.

Acquiring banks are the merchant’s bank and are part of the “merchant acquiring” stack.  They get information from the issuing side about transactions and cardholders during authorizations and payment processing.  Subsequently, they actually receive the funds from the issuing banks after a transaction has occurred and make them available to the merchant.

Payment processors do some of the heaviest lifting in the processing of payments.While they primarily process transactions, acquiring banks have empowered them to underwrite merchants, manage disputes, and make payouts to merchants.

Payment facilitators are sometimes referred to as aggregators or master-merchants and have many of the privileges of payment processors.  The facilitator is a relatively new type of Payment Service Provider (PSP) and is part of the payments infrastructure layer that Finix deals with the most.  Given the limitations ISOs (Independent Sales Organizations) offered merchants in the 1990s and 2000s, the payment facilitation model emerged.  The payment facilitator can

  • underwrite sub-merchants,
  • process transactions,
  • manage disputes, and
  • make payouts on behalf of sub-merchants.

While small businesses relying on simple transactions can partner with a Stripe or Square, larger organizations processing millions worth of transactions can utilize Finix to become a payment facilitator themselves.  Becoming a payment facilitator allows a company to control their own payment stack by streamlining the underwriting process, insulating the sub-merchant from onerous compliance responsibilities, and simplifying the funds settlement process to reduce the effort required for reconciliation.  Ultimately, this model leads to greater monetization by retaining more basis points on every transaction.

The global payments market is $2 trillion and Finix is poised to make a large dent in it starting with the trust of customers like Clubessential, Lightspeed POS, Kabbage, and Passport.  Instead of taking a percentage cut of every transaction from customers like other payment technology companies do, Finix’s fee structure allows its customers to own their payments technology and actually grow their top line (revenue).

AWS created cloud services and developer tools to provide teams flexibility in customizing products without having to spend all of their resources maintaining infrastructure.  Finix is doing the same for the fintech community by creating “developer-friendly building blocks to provide integrated payments for your customers” as Pat Grady, Partner at Sequoia Capital, explains in the recent funding announcement.  Pat Grady will joining Finix’s board of directors.

Finix is doing for fintech what AWS did for web services.  While AWS now has Google Cloud, Azure, and other competitors, we suspect there will be others trying to do with Finix is doing.  We welcome the competition as we are only just beginning the path I had the privilege of discussing early on with Richie Serna, CEO and Co-founder of Finix Payments and one of our Advisors at East Los Capital.

If you are interested in joining the team of 60 Finixians and growing, please do not hesitate to reach out or apply on Finix’s website.  They are hiring for San Francisco (and soon Santa Clara), Cincinnati, Miami, and remote-based roles to help meet growing customer demand and expand internationally.

Learn from East Los Capital about Cloud Infrastructure and Services

My co-founding partner at East Los Capital, Anthony Valencia, and I will be leading a discussion on Cloud Infrastructure and Services at this year’s SuperReturn US West in a few weeks as part of their Hottest Sectors for VC. This sector is not just hot in VC, but in investing in general.

Anthony has been a research analyst in this space since the early 2000s and has had responsibility for top 10 and sometimes top 5 multi-billion dollar positions in companies like Amazon and Google. I have experience at my prior firm, Sunstone Partners, mapping out the cloud market and being part of the Onica investment story from when it was sleepy CorpInfo in Santa Monica to acquiring and integrating companies in other countries to becoming one of the top AWS Partners globally. Congrats to Stephen Garden and the team for joining Rackspace last month!

East Los Capital is excited to be working as an independent sponsor with a few capital providers on multiple fronts to be part of the next leg of cloud investing. Without stealing SuperReturn’s thunder and giving away the content we are delivering at our session, here’s a sneak peek or at least an intro to cloud for those who may not be as steeped in the cloud industry.

According to the U.S. National Institute of Standards and Technology (NIST), the four separate criteria for a cluster of computers to be considered a cloud are (mind you this is for government to have an actual definition):

  1. They must be able to utilize virtualization (the ability for software to perform like hardware) to pool together the computing capability of multiple processors and multiple storage devices into single, contiguous units.
  2. The workloads that run on these resource pools must not be rooted to any physical location.
  3. The resource pools that run these workloads must be capable of being provisioned through a self-service portal (usually the web)
  4. All services must be made available on a per-use basis as opposed to a one-time or renewable license

Why consumers move to the cloud:

  1. Information is available anywhere and on any device
  2. Safety and security, an always-on backup
  3. Less expensive computing resources needed
  4. Mobile friendly
  5. Low cost storage

Why corporates move to the cloud:

  1. Lower CAPX requirements as on-premise data centers go away
  2. Pay for only what you use
  3. Sophisticated big data, artificial intelligence (AI)/machine learning (ML) capabilities
  4. Businesses can quickly provision computing resources and better utilize capacity for variable workloads
  5. Reduces the administrative burden of IT departments, freeing them to work on new projects rather than spending time on general system upkeep

Cloud deployment models:

  1. Public: computing services offered by 3rd party providers over the Internet – top vendors are AWS, Azure & Google
  2. Private: a form of cloud computing that is used by only 1 organization – some computing resources may be hosted on-premise
  3. Hybrid: a mix of public and private clouds which may also be hosted by multiple vendors at the same time – the multi-cloud approach is being enabled by virtual machines and containers

More to come at SuperReturn US West or maybe another post if I feel like it to give you some more to chew on. Ultimately, we’re still early in this market’s maturation as only a small amount of all IT workloads are actually being done in the cloud.

If you are an institutional investor or capital provider open to working with independent sponsors, please feel free to reach out and we could help get you up to speed. We would not want you to miss out when we are a quick phone call or a few keystrokes away.

Private market investing adapts to the current environment, insights from the SuperReturn US West 2019 Conference

Reposted from East Los Capital website: https://eastloscap.com/2019/03/19/private-market-investing-adapts-to-the-current-environment-insights-from-the-superreturn-us-west-2019-conference/

In an effort to share knowledge, the following includes insights and my takeaways from the panels and presentations at the SuperReturn US West 2019 Conference last month.  It was an honor to present at the Fund Showcase, but it was more interesting to learn from the rest of the attendees.  Presentations which contributed to my notes and thoughts came from the following: LACERA, Coller Capital, Headlands Capital, Darc Matter, Muzinich & Co., Dr. Jerry Nickelsburg, The Port of LA, Probitas Partners, Alpha Venture Partners, Preqin, Upfront Ventures, amongst others.

The number one referral source traditional limited partners (LPs) rely on is other LPs.  Other sources include other GPs, fund formation attorneys, placement agents, and service providers.  Relationships are crucial to finding asset managers, and for asset managers, or general partnerships (GPs), relationships are crucial to be able to raise assets.  LPs do not rely much on databases like Prequin and Pitchbook as relationships matter more.  GPs must navigate the LP ecosystems to be known and consider developing their own ecosystem through thought leadership and relationships.

It’s okay for GPs to take seed capital as first-time funds are really difficult, but don’t be beholden to anyone.  Independent, or fundless, sponsors, should be open to taking seed capital.  Approximately 30% of GPs are open to anchor/seed deals.  Anchor investors, however, should probably not be involved in the investment process.  But not worry, GPs always remember their founding LPs.  GPs can also consider sharing the opportunity to seed with other LPs, not just the anchor. Some LPs prefer not to have anchor-type LPs who may be perceived as having outsized influence on the GP. Regardless of who you are and where you come from, first-time funds are difficult to raise.  GPs must prepare to fundraise for one to two years, if not a lot more, to raise a new fund.  If you’re a fundless sponsor, work on telling a legitimate story and bring a deal – an LOI on the first deal doesn’t hurt.  The good news for fundless sponsors is that 89% of investors who have more than $500M committed to private equity (PE) also have an active internal co-investment program or outsourced one, according to Probitas Partners.

New differentiated strategies in first-time funds are not as welcome in the industry as LPs prefer to see a track record in an existing strategy – oh and it doesn’t hurt for the GP to already be wealthy.  LPs generally like when wealthy partners at GPs backstop younger partners – younger partners are usually given the ability to earn out the wealthier partners’ backing.  LPs generally want 1) a cohesive team with a track record in the asset class, 2) a repeatable investment process, 3) the ability to source deals, 4) strong pedigree, 5) prior institutional investing experience, 6) portable track record, and 7) the ability to sustain themselves – essentially wealthy already.  LPs also like being asked about their own strategy – do not forget the personal side of the business.  In addition, GPs should ensure that every team member meeting with an LP has a specific role and unity is displayed.

PE fundraising continues at a strong clip, however, big buyout fundraising is slowing.  LPs realize mega funds will have a tough time with exits.  Final closes for non-buyout funds, however, continued to increase, especially for middle market and growth capital raises.  The lower middle market uses less leverage, which leads to lower loss and default rates.  In addition, there is way more private equity dry powder than private debt supply, which leads investors to believe more will be deployed to credit in the coming years.  LPs also seem more and more to like operationally-focused funds and funds focused on healthcare and technology.  LPs understand the market currently wants growth over profitability and sometimes the best PE performers are startup funds.

LPs care about returns, however, environmental, social, and governance (ESG) factors, including diversity, are starting to be recognized.  The Institutional Limited Partners Association (ILPA) is finally putting ESG at the top of mind.  Some institutional investors have begun treating ESG as part of their fiduciary duty since circa 2013 when studies began touting correlation between corporate sustainability and strong financial results.  LPs think of diversity more broadly than skin color and gender and consider factors such as what makes people think a certain way.  It is as if diversity finally came into vogue, but skin color and gender was too difficult to accomplish, so folks decide to broaden the definition.

Valuations are the number one concern for investors when considering PE return expectations.  Exits need to be planned at entry with the understanding that strategic buyers care about different things than financial buyers.  A strategic buyer looks for a product/service that it can sell to existing customers while financial buyers will buy based on financial health and opportunity for future returns.  Aside from exits, Partners Group considers the following value creation levers: accretive acquisitions, strong direction from board, cost savings, new customers and partners, end market expansion, new product launches, strategic planning, talent management.  Technology enablement was not a stand-alone value creation lever considered.  Given LP concerns and other market factors, the market is expected to see more 1) GP stakes by investors to enhance and diversify PE return streams, 2) secondaries investing in order to eliminate the beginning of the PE J-curve, and 3) take-privates potentially converging private and public equity returns. Concerns include GPs selling companies too early to show realizations for fundraising and frequent sponsor-to-sponsor deals resulting in transaction fees borne by LPs.  Despite all this, LPs believe PE-backed companies will perform better than non-PE-backed companies during the next economic downturn.  Lastly, LPs are not increasing focus on any one particular industry.

More LPs are now looking to buy and sell secondaries.  Secondaries are a three-party structure and can create win-win-win situations.  While previously viewed negatively for GPs, they are becoming more commonly accepted these days. Some VCs are still pretty secretive about their secondaries.  The current dynamic, though, is that GPs need to show exits, LPs desire liquidity, and of course secondary investors seek opportunities.  It’s a “3-ring circus” which you don’t want to get out of hand.  There is an argument for over-concentration into smaller amount of deals to be selective, but the fact is the market is growing for secondaries.  However, buyers know that well-run auctions will not allow for good pricing.  If everyone knows who is involved, buyers may not buy, so there is an interest in the seller to not allow a lot of people to know about their secondaries.  LPs are weary of single asset secondaries because of the concentrated risk.  There are $330 billion in “sunset funds,” which used to be referred to less politely as “zombie funds.”  While there may not be a lot of secondary funds raised, more and more investors say they do “GP restructuring.”  Capital is there despite the lack of dedicated secondary funds.  GP liquidity solutions tripled in the last four years according to Evercore, and now constitutes nearly a third of the secondary market.

Dispersion of VC fund IRRs is narrowing as lower quartile VCs are performing better than their historical performance and top quartile VCs continue performing on par with their historical performance according to Preqin.  This could potentially be that good deals are becoming more available outside of Silicon Valley or outside the top firms in Silicon Valley.  In addition, it is interesting to note that first-time VC funds are outperforming non-first time VC funds.  The hunger to ensure strong performance is found more in first-time funds.  Pre-seed (<$1M) deals have cooled off, decreasing year-over-year for the last 3 years, versus growing over 6x from 2006 to 2014.  Seed ($1-5M) deals similarly have cooled off as they’ve also decreased year-over-year during the last 3 years vs growing over 3x from 2006 to 2014.  Fewer micro funds are being raised over the last 3 years as “early stage” funds are bigger now.  Companies are staying in the seed phase longer as time to Series A has lengthened from less than 1yr in 2011 to 1.6yrs in 2018.  And yes, valuation creep is happening.  One reason is that VCs try to invest pro rata on their deals to keep the same ownership.  VCs have increasingly set up “companion funds” to defend their ownership.  VCs hope their late stage pro-rata investing will allow them to reap rewards, but the IPO window/liquidity has been pushed out 5yrs on average as dollars have shifted from public to private markets.  This shift leads to more mega rounds and less IPOs.  54 new unicorns were created in 2018 vs the previous high of 43 in 2015, according to Pitchbook.  While tech/internet use continues to broaden globally, VC returns are still on paper.  Larger sized exits are deceiving as the number of exits is actually dwindling to 2010 levels.

Technology needs to be understood by all investors.  While traditionally VCs are at the forefront of technology, investors expect more non-VCs to also understand technology investing and the use of technology in general.  Even real asset investors need to understand the technology used on the asset, whether land or other property, so as to understand the real value that can be created with the asset.  In addition, the most sophisticated investment firms, regardless of size, also have a tough time capturing and analyzing data across their portfolio companies.  This difficulty leaves tons of room for opportunity to improve.  And, do not expect much AI on data analytics or sourcing.  LPs are interested in GPs that have actual differentiated technology.

Talent management includes focusing on culture and ensuring that all employees feel accountable.  GPs should work on having an employee handbook.  Founders need to expound on vision, values, and goals of firm.  Do not ignore team building events and be ready for more questions on diversity.  Lastly, non-competes are difficult to enforce in California.

Vietnam is increasing its share of imports and exports according to LA Port data.  Vietnam is the fastest growing importer for furniture, toys, clothing, footwear, and leather, while Indonesia leads the growth for footwear and Thailand for plastics and auto parts.  Exports to China are decreasing while Vietnam is taking share.  The top imports are 1) furniture, 2) auto parts, 3) apparel, 4) electronics, 5) footwear.  The top exports are 1) wastepaper, 2) animal feeds, 3) scrap metal, 4) fabrics, 5) soybeans.

Capital is not enough

Reposted from East Los Capital website: https://eastloscap.com/2018/12/07/capital-is-not-enough/

You, the CEO, have many choices when deciding to receive investment capital. Our firm aims to be your best choice. As we assembled our team, one thought stood out: capital is not enough. Private equity firms need to bring more than capital to the companies in which they invest. With hundreds of billions of dollars in private equity dry powder, private equity firms face increasing competition for deals. They must differentiate themselves. Whether venture, lower middle market, middle market, or large buyout, private equity firms must adapt. Unfortunately, industry pressures, norms, biases, do not provide much incentive to change.

We choose to be different from the beginning. We will always push ourselves to understand our industries better through strong research to make sure we help you become an industry leader. We will leverage our relationships and technology to scour the market to ensure we find the best paths to exit for you or find future acquisitions that will make you stronger. While most private equity firms tout some of the points above, we will truly distinguish ourselves in our roll-up-the-sleeves approach through technical operations.

We want to make sure you have access to 1) the best technology and 2) people who can build that technology. Technology is impacting every industry and we will do everything we can to provide the best tools available in order to lead your industry.

Aside from capital, we bring a hands-on team with individuals who have worked at and built best in class technology companies in Silicon Valley and beyond. Our team has:

  1. facilitated international growth of companies to over 40 countries,
  2. grown a company from zero to $70 million of annual consumer subscription revenue without venture funding,
  3. trained hundreds of software engineers,
  4. founded a data science platform used by 40 U.S. hospitals,
  5. acquired a cloud solutions business in one country and integrated it into another in a different country,
  6. built a consumer styling business into $20 million of annualized recurring revenue without institutional funding,
  7. pioneered the technology-enablement of a chemical manufacturer utilizing software best practices,
  8. scaled an edtech company to $12 million in revenue without external funding,
  9. built software products used by 1 million small to large enterprises.

Aside from technical operations inside of fast-growing technology startups and middle market companies, our team has learned from seeing the insides of companies such as Accenture, Amazon, Disney, Evercore, GoDaddy, Goldman Sachs, Google, IBM, Intel, KKR, McKinsey & Company, Microsoft, Sequoia Capital, Symantec, TCW, Vista Equity Partners, VMware, and the U.S. Treasury. We’ve also invested in dozens of companies in consumer, healthcare, internet, media, services, and software. Lastly, we’ve done deep industry research covering public companies such as Amgen, Comcast, Facebook, Home Depot, Johnson & Johnson, Netflix, Procter & Gamble, Expedia, LinkedIn, Marriott, Pepsico, Walmart, and Yahoo. We want you to have access to all this in your next leg of growth.

East Los Capital is not your typical lower middle market private equity firm. We’re here to join forces with you to maximize your potential.

Motivation repost: Full Circle of Leadership

This article serves as motivation to continue my work from my day job advancing in a tough industry to my nights and weekends volunteering my time to help others to spending time with my family and raising wonderful kids – second on the way :-)!

Thank you to Antonio Tijerino, the Hispanic Heritage Foundation (parent of LOFT) staff, my wife, Rebecca (now a tech startup founder herself), my mom (who raised my sister and me by herself throughout South Central and the Eastside of L.A.), and all those who have worked with me, trained me, and pushed me along the way.  Much more work to do.  Eternally optimistic despite the circumstances, let’s not stop creating a better world.

Full Circle of Leadership

by Antonio Tijerino

Full Circle Of Leadership: By Antonio Tijerino, HHF CEO

As Emanuel Pleitez navigated his way to the podium through the traffic of college students during the Hispanic Heritage Foundation’s (HHF) Coder Summit in Palo Alto, CA, I heard one of the students in our network murmuring to another, “he’s one of us.”

Indeed, he is.

From the moment Emanuel Pleitez received our Los Angeles Regional Youth Award and then the National Youth Award as a high school senior from el barrio, he has always been a part of our mission.  An embodiment of our mission actually – we strive to identify, prepare and position a Latino leader to impact hundreds or thousands of others in various “tracks” or fields through our award-winning LOFT (Latinos On Fast Track) program – Emanuel’s impact has been felt as a student, as a professional and now as the Chairman of HHF’s Board of Directors.  He’s always been focused on shining a light on various paths for young Latinos and even an old Latino like me.

As a college student at Stanford, Emanuel worked tirelessly to organize the Latino student body in various areas including community service, voter registration and leadership.  He also mentored, connected and mobilized thousands of fellow HHF Youth Awardees to create a support system for each other and younger Latinos.  Another area of focus was finance after getting an internship with Goldman Sachs through various support systems including LOFT’s Workforce Initiative.  By leveraging LOFT’s infrastructure, he developed Finance Boot Camps at Stanford and other universities in an effort to expose, connect and prepare Latinos to the financial services industry. Upon graduation from Stanford, he worked for Goldman Sachs in San Francisco and then joined US Department of the Treasury for the Obama administration in Washington, DC.  During this time, he exposed thousands of young Latinos to public policy careers in addition to financial services. Some of the efforts he created during this time continue today such as the Bay Area Latinos in Finance and the Latino Legacy Weekend which takes annually during Memorial Day weekend.

Emanuel then went on to work at McKinsey & Co. followed by stints at a couple of start-ups as Chief Strategy Officer and now he’s an investor at Sunstone Partners while serving as only the 4th Chair of the Hispanic Heritage Foundation and his shared vision with the team has moved us into interesting directions.  But always moving …

Whether he was a teenager, young professional or more seasoned influencer, he has always challenged me, our staff and the entire Latino community to be more innovative.  For instance, several years ago he called me randomly and said, “hey, we really need to think about getting our kids into coding, job opportunities are projected to be a million by 2020 and there’s a shortage.”  Pow!  Next moment there’s a brainstorming with HHF Advisor Eliana Murillo and Code as a Second Language (CSL) was born in East LA.  CSL is now in over 20 regions across the United States led by Emanuel’s protégé Alberto Avalos, also from East Los.  But it doesn’t stop there, when Emanuel was visiting my home, I asked him to watch my then 5-year-old son for a few minutes.  When I returned, Emanuel was teaching him how to code while my son thought he was playing a video game.  He doesn’t know how to stop.  And neither do I.

Which is why as HHF’s leadership, we have to deal with the concern/criticism that we “try to do too much.”  We do.  Yes it’s a problem in terms of communicating our brand.  But it’s also an interesting concept in a world of linear thinkers and doers.

We are scattered, but so it our impact.  When one is constantly creating, challenging, taking risks, impetuously executing, yes it’s maddening but our philosophy is that every issue should be approached with a simple concept, “this is possible.” The rest is a bundle of details.  But the concept has to be simple and focused on what’s possible.  That’s Emanuel.  That’s me.  That’s HHF.

That’s the philosophy that makes not only CSL go from idea to action but also LAtinas, Investor’s Forum, Charlas, LOFT Lab, Video Gaming Innovation Summit, Tech Entrepreneur exchange with Israel,  LOFT Network, and so many other initiatives that are influencing tens of thousands of young Latinos across the country.

As a hush settles over the hundreds of Latino programmers and developers attending the Coder Summit, the HHF Chair at his Alma Mater at Stanford, the energy in the room focused was on Emanuel Pleitez who was at the podium.

His words resonated with the audience in a way the other influential speakers that afternoon including Members of Congress, Fortune 100 leadership and entrepreneurs did not.  “I was where you are not too long ago and took my role as an innovative Latino leader very seriously.  We hope to not only give you a voice but the infrastructure for your ideas to become a reality.  The time is now to change how we think, how we do, how we want the world to look.  So let’s get to work.”

Yes, Emanuel, let’s get to work.

Article link: http://hispanicheritage.org/16296-2/

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