We interviewed Charley Polachi, Founder and Managing Partner of Polachi & Company a Sherborn, MA-based executive search firm focused on the venture capital, private equity and technology markets. Read on to find out why Charley says that for the venture firms that hire him, “there is a list of schools, in some cases several graduate and undergraduate, and if you didn’t go to both of those, you probably don’t need to apply.” And why GPs often ask him in the eleventh hour of hiring a new Partner: “Well what do you think Greylock will think if we hire this guy?”
Rose & Nivi: A lot of people would argue that the notion of outsourcing partner level searches for a VC firm is fundamentally counterintuitive. For one, personal chemistry, trust, and accountability are all fundamental ingredients in a partnership. Moreover, VCs by nature are networked individuals. What is it, then, that you provide for VC firms that they can’t do on their own?
Charley Polachi: Prospects and focus. Venture guys do deals, but they don’t do staff. They are inherently networked and they do much of the staffing for their portfolio companies, but the fact remains that the glory of the business is not about having great partners or a great CEO; it’s about doing a fabulous deal. We can put structure around the recruiting process. Recruiting a general partner for an existing partnership is like finding one spouse for seven or eight people. Imagine trying to get eight people to agree on whom they want to live with for the rest of their life. Second, we can handle all the approaching and rejecting, and both parties can hold up their heads and be dignified regardless of the outcome. We also track the industry more than the industry tracks itself.
Given that personal chemistry and fit is such a requirement, how do you go about evaluating the chemistry between a partnership and a potential GP?
I can tell you that you can probably hire two CEOs for portfolio companies faster than you can hire a general partner for a VC firm. Depending on the size of the partnership, it can take many, many months to get somebody hired. What happens is that everybody wants the rock star that they don’t know. By definition, if you are a rock star in this industry, everybody knows you. Anyone you can get you don’t want, and anybody you can’t get you want. So, they want us to go find us someone terrific whom they don’t know about.
Generally, there are five key criteria VCs use when they go to hire: pedigree, fit, experience, peer review, and familiarity.
Pedigree is very specific firm by firm. There is a list of schools, in some cases several graduate and undergraduate, and if you didn’t go to both of those, you probably don’t need to apply.
Why do venture firms care so much about pedigree? Doesn’t that seem kind of myopic?
Yes. But regardless, there are five data points that we have discovered and pedigree seems to be one of them. You don’t see too many guys from state colleges in the venture business. It goes back to the legacy of how VCs got hired themselves, when they were picked out of Harvard Business School.
Fit is the intangible dynamic of five meetings, three dinners, and a few bottles of wine. We may get a phone call the next morning saying, “This guy is absolutely awesome. He fits.” And I will ask, “Well, tell me more.” And the partners can’t. They just say he fits. But if he doesn’t fit, they can take half an hour trashing him for the wrong socks. They can go on and on about non-fit, but when I ask what constitutes fit, they can’t articulate it.
With respect to experience, the assessment is made on the least amount of information available as to whether or not you have been successful. You’re a hero or a zero based on guilt or glory by association. I can put 50 names on a whiteboard and sit down with four partners and I’m lucky if I have five names left, because everybody has an opinion and they can shred everyone based on what they know from the public domain.
Peer review is confronting this question in the eleventh hour of the search when you’re about to make an offer. The managing general partner leans over and says, “Well what do you think Greylock will think if we hire this guy?” It’s very similar to evaluating a deal that you really like. If, in the process, you find out that Highland, Matrix and Greylock all passed on it, you think to yourself, “They are smarter than I am, maybe I will pass.” Same thing happens in the hiring process. Their question is: “Is this guy going to help us to be perceived as a top-tier fund, or is hiring him going to push us down to a second-tier fund?”
The fifth point is familiarity. Many times, one of the general partners throws a name on the table at the eleventh hour and it turns out to be the name of a roommate from business school. Often, they wanted to hire this guy all along but couldn’t do it because it would be hard to sell to the partnership. So instead they propose the guy at the end of an exhaustive search, after evaluating 15 or 20 others, and settle on him because they know him. They are trying to minimize the risks. They will opt for someone who has lived with them; they will opt for someone they have backed twice.
When you mentioned guilt by association, that implies that folks who might have had an instrumental role in building a company or developing a novel product lose points on experience if the company ultimately went sour?
That’s right. Or they could have been in the room when the Akamai deal was inked, and they’re suddenly invincible. As I said, you are deemed to be a hero or a zero based upon the least amount of information available.
Can you give a rough estimate of how many GPs are out there in the Boston area looking for new gigs and how many slots there are available?
Nobody’s actively looking so I can’t gauge that for you, but I would guess right now there are probably five or six ongoing searches. We placed six partners in the last 12 months, which is unprecedented. Typically, I will place one per year and two in a great year. Clearly, there’s something interesting going on in the market right now.
Salary and carry got a bit out of hand in the late ‘90s. What changes have you witnessed over the past couple of years in terms of what new GPs are willing to accept in terms of compensation in joining a partnership?
It depends upon whether you are talking about someone who is coming into the industry with no prior investing experience, typically an operating partner, versus somebody who’s been doing this for 12 years, has been in three funds and has a very significant track record.
On the low end, we are seeing salaries anywhere from $250,000 to $400,000. On the high end, salaries range anywhere from $500,000 to $800,000. It’s certainly also a function of the size of the fund. If you’ve got a small $70 million fund, there is no way the partnership can afford to bring somebody in at an $800,000 salary. On the other hand, there are guys in this marketplace who are taking in a million or two in management fees alone.
The worst example of excess I have witnessed was when I interviewed a 31-year-old venture professional in San Francisco. When we got to talking about compensation, he told me he made one million a year, $250,000 in base salary and an excess management fee of $750,000. I asked, “Why are you taking an excess management fee in distribution?” “Well,” he answered, “it’s in the contract. I’m allowed to do that.” And I responded, “But you guys didn’t invest anything last year and you are not likely to return a dollar to any of your LPs in the near future. Aren’t you worried about clawbacks and people looking at this when you go to raise your next fund?” His attitude was, we will deal with that when we get there.
This sounds very similar to what we saw in the late ‘90s and before. Is it accurate to say, then, that the terms really aren’t changing and that venture firms are just deferring inevitable changes until the proverbial shit hits the fan?
Yes. As a friend of mine said, “VCs are waiting until the food fight is over.” The difference is the carry is being distributed on a $300 million fund versus a $1 billion fund. Twenty points of carry on a $300 million fund is substantially different than twenty points on a billion-dollar fund.
How do you think VCs that you’ve worked with fare in terms of putting teams together for the companies they back? Do they consider all the relevant important factors in recruiting management teams?
It’s all over the map in terms of success. I have seen A teams get a B plan, and hit home runs and C teams get A plans and screw them up. Some of it is about luck and timing. Don’t get me wrong; these guys work hard. It’s a tough industry when times are good, and it’s really tough when times are bad. It’s more of a young person’s industry every year I look at it.
Speaking of which, who, in your opinion, is doing succession planning well?
I think certainly Highland Capital. It seems to be something that these guys have been thinking about for a while. I think Summit Partners did an excellent job in transitioning to the next generation. I think Venrock, historically, has done a good job. It’s a firm that has been around for a long time. I’m sure there are other funds that have done it, but in a quiet fashion.
In your opinion, is now a good time to start a new fund?
It’s actually a great time to start a new fund if you have a great track record. What better time to be investing? Valuations are way down, and entrepreneurs are much more reasonable in terms of their expectations and compensation. There are a lot of foot soldiers available, here and off-shore. And real estate is almost free. I think 2003 and 2004 is going to be a time when great investments are made; and in five years you are going to see phenomenal returns.
For some of those funds in the midst of succession planning, do you see a risk of them losing their young stars who are bringing in deal flow, but who may not be seeing enough of the carry? Do you see a trend toward folks leaving and starting their own spin outs in the current economy?
Yes, and that is a problem for this industry, whether times are good or bad. I certainly know from my conversations that there are a number of folks who feel like they are carrying the fund and not getting compensated adequately. On the flip side, the older guys are saying, “Sure, but I built the platform. You wouldn’t have had a chance to make these investments if I had not been doing this for last 10 to 20 years.” That is an age-old conflict that you are going to find in any professional services firm. Nobody has figured that out. If I had a solution, I would probably go out and sell it. It will always be a problem unless a firm becomes institutionalized like Bain or McKinsey, where the economics are good but not outrageous.
Do you anticipate ever seeing that sort of institutionalization in the venture industry?
No, the venture industry is too local. There will be some large multi-office firms, but the small office operations investing within an hour of headquarters will remain the norm.
