If you ask investors to name the biggest challenge facing venture capital today, you’ll likely get a near-unanimous answer: lack of liquidity.
Despite investments in startups or VC funds that have grown in value, due to the lack of IPOs, these bets don’t generate much, if any, cash for their backers. This is the disadvantage of private investment over the public market. Company shares in private companies like startups cannot be sold at will. Companies must authorize their existing investors to sell their shares to approved others, known as secondary sales.
Cash-hungry venture capitalists, whether the VCs themselves or their limited partners, are increasingly trying to sell their illiquid positions to secondary buyers.
Now, add that many early-stage startups were overvalued during the fundraising frenzy that peaked in 2021, and those stocks may now be worth less. This presents a new and unique opportunity to buy stakes in early-stage VC funds, as well as equity in startups, in related opportunities.
Today, Cendana Capitala fund of funds that invests in dozens early stage venture companies, and partner Kline Hill Partners, a firm focused on buying previously owned small private assets, announces a new $105 million fund Kline Hill Cendana Partners, which is well above the $75 million target they originally hoped to raise.
“Over the last couple of years, we’ve been hearing from our portfolio funds, ‘We have a family office that wants to sell their commitment for $2 million. Would you be interested in buying it?’ said Michael Kim, founder and CEO of Cendana Capital.
Kim felt the opportunity to increase his company’s ownership in venture capital and promising startups at a significant discount was too good to pass up. But since investing in secondary assets requires expertise that none of Cendana’s investors had, he decided to join forces with Kline Hill.
Raising money for this fund was easy, Kim said. Cendana’s limited partners were asking Kim to take advantage of this buyer’s purchase.
“We just tipped the hat to our existing Kline Hill and Cendana LPs,” Kim said.
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Michael Kim, founder and CEO of Cendana Capital; Image Credits: Michael Kim
What sets Kline Hill/Cendana’s investment vehicle apart is that it buys secondary interests in early-stage companies and individual companies from seed funds. Most existing secondary players are too old to take that opportunity, according to Kim.
It’s hard not to see the symbiosis between the two companies. Cendana’s relationships with its portfolio funds, including Lerer Hippeau, Forerunner Ventures and Bowery Capital, help it take the lead in sourcing secondary deals. It then passes these opportunities on to Kline Hill, which appraises, underwrites and negotiates the transaction price.
While Kline Hill has been investing in secondary VCs since the firm was founded in 2015, Chris Bull, the firm’s managing director, said working with Cendana brings the kind of insights that are extremely valuable to the investment process.
“What’s most exciting for us is that we’re able to trade where I think any of us individually would have difficulty crossing the line.” said Bull.
The current plan is to invest the entire $105 million fund by the end of 2024. The two companies are making an effort at this joint venture, and if it goes well, they will raise a successor fund next year.
The two companies aren’t the only ones seeing a big opportunity to acquire stakes in previously owned businesses. Traditional secondary investors, such as Lexington Partners and Black stone, recently raised their largest secondary funds. While these vehicles target all types of private assets, investors say a portion of that capital is bound to go into business. Furthermore, Industry Ventures has raised a nearly $1.5 billion fund dedicated to second-hand VCs.
But billion-dollar funds like these “typically focus on much, much larger, more multi-layered companies,” Kim said. Applying such great early stage financial tactics is much less common.
Kline Hill/Cendana is doing something. With VC-backed companies tending to stay private longer than their investors’ 10-year capital cycles, the need for liquidity will likely continue to grow.
