As part of our DarcMatter Manager Series, we took the opportunity to interview Jules Miller, Partner at LunaCap Ventures, about the background of the firm and their strategy. For more information, visit LunaCap Ventures Fund Profile here on DarcMatter.
What is the history and background of your company, principals and funds?
LunaCap Ventures started out as the family office of Managing Partner Paul Capon. Paul was born in Guadalajara, Mexico as Moises Luna (LUNA + CAPon = our fund name), then was adopted by two university professors in New York where he was lucky to grow up with access to additional resources and networks that would not have otherwise been available to him. He went on to matriculate at the Air Force Academy, serve in the Air Force including two tours in Afghanistan, receive an MBA from both Columbia Business School and London Business School, work in distressed debt and venture capital, and become the CEO of an education company before founding LunaCap Ventures.
Our thesis follows from Paul’s experience: increasing access to capital, resources and networks to high-performing, underrepresented founders can lead to successful, scalable companies. The asset class of venture debt (hybrid debt + equity) provides the best alignment for this thesis by providing lower risk and higher liquidity to LPs than traditional VC with similar venture upsides.This has an obvious social impact but, more importantly, is a lucrative investment opportunity for investors. We tested this thesis successfully with Fund I (25% IRR), and are scaling it with Fund II.
Investing in underrepresented founders is a core ethos of our entire team. All 3 principals and 100% of our supporting team represent the demographics in which we invest. We understand the opportunities and the challenges faced by diverse entrepreneurs personally.
Partner Jules Miller came on board after founding three companies, including first-hand experience successfully raising VC funding as one of less than 7% of VC-backed companies with a female founder. Of the three, she’s had one failure, one strategic corporate transaction and one acquisition. During the course of building and scaling her companies she regularly used debt financing to grow the businesses with less dilution and more flexibility, and joined LunaCap Ventures as a result of her strong affinity for this asset class. Previously she was an “intrapreneur,” starting and growing new business units around environmental and social responsibility at Salesforce, Tiffany & Co. and Ernst & Young (EY). At EY she started in the Venture Capital group and performed diligence and market analysis for many of the top tier Silicon Valley VC firms, and was actively involved in the Entrepreneur of the Year program. She is a Kauffman Fellow and active mentor and advisor to multiple organizations in the LA, SF and NYC entrepreneurial communities.
Jonathan Fung, our chief investment officer, is Hong Kongese and has spent the last 15 years working in private equity distressed debt and family offices. He’s completed more than $1.1 billion in private transactions and another $600 million of public investments including mezzanine debt, LBOs, M&A and direct investments at firms including Macquarie, Shamrock Capital (Roy E. Disney family office), Circle Peak Capital and St. Cloud Capital.
Paul assembled this all-star team while deploying capital from the first fund, which did not originally focus on any particular founder demographics at first. As we made investments we found that best deals with the strongest returns for our model were underrepresented founders, who built companies with revenue from the outset because they did not expect to raise VC funding out of the gate, and also did not want to hugely dilute themselves in the early stages after proving they can build a real, scalable business. As a result, the debt model is extremely aligned and attractive for these founders, who were also eager to work with us because we understood their challenges personally and knew how to help them grow their businesses. We formalized this “impact-light” thesis with Fund II because it is our “unfair” competitive advantage and we are the emerging leader in this $250 billion market opportunity.
How is your fund differentiated from other alternative strategies?
LunaCap Ventures is a double bottom line fund, using venture debt – a hybrid of debt and equity financing – to align with our target demographics while providing superior returns.
First and foremost we look for companies that will provide strong returns. As opposed to other venture debt funds who only invest alongside top tier VC’s, LunaCap Ventures takes a fundamentals approach to investing. We look for US based companies that have at least $1M in annual recurring revenue (ARR) and have adequate collateral to cover the value of our debt. These companies are capable of meeting our repayment requirements, and with a capital infusion to demonstrate scalability they can continue to grow, raise follow on funding and achieve venture upsides on our equity ownership. We also have the ability to double down on winners by participating in follow on equity financings for our best-performing portfolio companies.
The impact component of our thesis focuses on investing in the best military veteran, women and minority (MWM) founders and executives. This is our focus area for two key reasons:
- First, there is an enormous wealth of data identifying the discrepancy in funding for companies with diverse founders. Additionally, there is a wealth of data demonstrating an overall better performance of companies with military veteran, women and minority founders. Especially in the early stages, valuations for companies with diverse founders tend to be lower and access to capital is more of a challenge. We provide capital at the critical point, enable scalability, then help them raise competitive follow on financing. We call this “impact arbitrage.”
- Second, this is our “unfair” competitive advantage. 100% of our team – 3 partners and 5 team members – represent the diversity in which we invest. Our networks for dealflow in this demographic are extremely strong and authentic. As a result of this strategy, we are able to achieve above-market returns – Fund I has a 25% IRR – by investing in diverse founders.
Please explain the investment process for the strategy.
In the past 12 months we’ve significantly improved and streamlined our investment process to reduce the time it takes from initial meeting to LOI from 2 months down to 2 weeks, with better consistency and data analytics. This timeline is often a relief to busy entrepreneurs and lets them get back to growing their business faster, and we win competitive deals regularly for this reason. We’ve incorporated automation with external technology platforms that will continue to improve our process and provide us with valuable data and analytics at scale.
An overview of the LunaCap investment process:
Phase 1: First meeting
- Initial phone screening
- Complete version one of our proprietary quantitative checklist
- Complete version two of our proprietary intuitive checklist
Phase 2: Pre-LOI
- Comprehensive founder, company and market research
- Pitch to sponsoring partner
- Analysis of founder deliverables from DD1 request, including financials, product, market, cap table and team
- Analysis of key metrics
- Deep dive into supply chain, especially risks and redundancies
- Risk assessment, including UCC check
- Customer, founder/executive and investor reference checks, including back channel references
Phase 3: Finalize Decision
- Finalize quantitative and intuitive checklist and analysis
- Create investment memo
- Pitch to full partnership team
- IRR and valuation analysis
Phase 4: Post LOI
- Legal diligence
- Background check
- Confirm payment schedule
Phase 5: Finalizing the Deal
- Legal docs generated through proprietary automation tool
- Negotiation to achieve final terms
- Signatures + payment processing
- Onboarding + ongoing engagement plan
How does your fund complement an investment portfolio?
Venture Debt is a great addition to any investment portfolio. As primarily a debt instrument, we have a significantly lower risk profile paired with higher liquidity than traditional VC or PE, but the equity component (warrants + follow on investment rights) allow for the potential of outsized venture upsides. With a 46% Net IRR from LunaCap Ventures Fund I, our performance speaks for itself.
For investors who are active LPs in venture funds, LunaCap Ventures provide a way to diversify the risk profile of a portfolio. For investors who are interested in VC but have not taken the jump, we are a good way to dip your toe in the water of the venture world with less risk and higher liquidity. For all investors, our thesis presents an opportunity to do both good and well.
Are you looking at any particularly attractive opportunities right now?
We are sector agnostic and constantly evaluate a wide variety of deals. Some of the industries that particularly excite us and fit well with the venture debt model are:
- Supply chain and logistics
- Education technology
- Blockchain applications to the professional services
- Legal tech and insurance tech
- Cleantech and ag tech
How do you view the overarching investment environment for the remainder of 2017?
We see the venture capital industry heading towards a market correction, starting by the end of 2017. Many companies have been funded by traditional equity capital at enormous valuations despite unproven financial performance, due in part to a surplus of dry powder in the VC markets (currently more than $120 billion) from many new and unsophisticated investors. Many were seeking higher returns due to the lower interest rate environment which lead to riskier, overvalued investments. We believe that interest rates are going to rise, and as they do, that capital source will dry up leaving many venture-backed companies turning to down rounds and less-than-optimal acquisitions. To hedge against this trend, the LunaCap venture debt model is well positioned to protect against a market correction. The debt component ensures a healthy return on our investment given we invest in companies that focus on financial stability and are capable of servicing the debt without follow on financing, and the equity component allows us to achieve the outsized venture returns in our winning companies.