Following on from our recent post, Ben Hensman, Portfolio Manager of Square Peg’s Global Tech Fund (GTF) recently sat down with Jethro Cohen (Senior Associate, Venture) to unpack the GTF strategy and why it adds to Square Peg overall as an investing organisation.

GTF brings Square Peg's venture DNA - a deep understanding of the importance of founder-led teams, disruptive technology, and durable moats - to public markets. We focus on businesses that are early in their listed journey and are capable of sustained high growth over the long term.

Jethro: Ben, let’s start with a bit about you, when did you realise you had a passion for investing, and what was your first investment in a technology business?

Ben: I was introduced to investing in my teens, but the passion for it was really ignited through the GFC and the desire to properly understand why markets were so turbulent beyond the general economic downturn.

Coming out of that I learned, practiced and eventually built a process. My first tech investment was REA Group, an Australian real estate advertising marketplace with very strong network effects. Among my first investing lessons was selling that business too early when it had many years of compounding ahead of it - a story for another day.

I then spent three years working under incredible mentors at Fidelity like Paul Taylor, Kate Howitt and John Lo. They helped me build a framework around types of business models, return profiles and capital allocation, the cycles of markets and their often psychological drivers. I was really lucky to have this apprenticeship in investing so early in my career.

Another stroke of luck was covering tech companies, in addition to media and telco companies. I learned about the shift to the cloud and the power of SaaS business models, with their low capital requirements and high incremental margins. Safe to say that I was hooked! This ultimately led me to Square Peg to pursue these two passions in the early stages of venture investing, and now again in listed markets with GTF.

Jethro: Having spent a number of years on the venture capital side of Square Peg, how should investors think about the long-term role that GTF plays in a portfolio?

Ben: Over the past 10-15 years, tech companies have been one of the key drivers of returns for investors in the public markets and are now the largest in the world (such as Amazon, Microsoft, Meta, and NVIDIA). We think that will only accelerate in the decades ahead as a new generation of winners come through. For that reason, we think investors should be looking to own the best of this next generation. There is a big gap between the capital deployed in some of the amazing outcomes that we’ve seen in venture and where most investor capital is deployed, which is at the mega cap end.

Filling that gap and selecting which businesses might join that mega cap group over time isn’t getting any easier though. The pace of change is accelerating, and that will increase dispersion in performance and company returns. That dispersion in performance really compounds over time and makes great stock selection very important for investors.

Our foundations in venture allow us to bring a differentiated insight to this process of picking the winners. Our exposure to so much change at the early stages helps us identify which companies can build defensibility and maintain high-growth over a number of years, while monitoring really closely why that might not happen.

We also approach investing differently to many in the public markets. We bring a focus on what can go right over the long-term with an ability to abstract ourselves from the noise of short term volatility - that approach comes directly from our venture DNA. Compounding of capital also takes time, and having patience in addition to depth of insight is super important.

Jethro: Let’s chat a bit about what you look for and then what matters over time with an investment. What traits do you look for in the companies you invest in from the GTF? Then further along, what are the signs for identifying when a GTF company might be maturing from its higher growth stage?

Ben: The core elements of the GTF process can generally be grouped into four buckets - theme, team, moat and model. To tackle each of those:

• Firstly, theme: We look for businesses that are driving tailwinds in markets that are very large and are not just passive beneficiaries. We also focus most of our energy on the areas where Square Peg has the greatest depth of knowledge and investing reach in VC, which are fintech, SaaS and AI.
• Secondly, the team: We focus on founder-led businesses that exhibit a clear mindset and DNA that is really similar to what we look for in Square Peg’s earlier stage investments. We are looking for founders who are working towards compelling visions, that are attracting the highest calibre talent and aligning those people to drive pace over time.
• Third is the moat: A critical element of growth investing is competitive advantage or moat. Even more so is the trajectory of that moat. High growth persistence over the long-term is only possible from a position of improving defensibility and the right to continue solving problems for the customer. This ideally allows the unlocking of new areas of monetisation over time.
• Finally, the business model: We look for businesses that are scaling efficiently on top of attractive unit economics. An important element of this is having multiple levers of growth and being able to expand on these over time, ideally at high incremental margins that allow operating leverage and attractive cash flow generation.

These factors all have to come together on the quantitative side, providing us with a clear path to 5-10x the revenue scale and at a valuation where we can deliver our 15% annual net return target with a margin of safety.

‍Jethro: And what about that graduation to a more mature phase?

Ben: Equally important to finding businesses that can compound at high rates of growth is locking in the gains of that compounding at the right time for our investors. That time is before growth matures and not as it matures. This is when markets often react most sharply.

We see three key areas to focus on, all of which have leading indicators; they are (1) fading growth levers, (2) negative moat trajectory or competition position, and (3) slowing of the organisation and cultural decline.

• Firstly, fading growth levers: Most of our businesses have multiple levers of growth across product, geography, price, customer personas and others - companies like Monday.com and Procore are clear examples of that now. Growth can be attractive for long periods of time when these levers work together. Signs of over-reliance on any one lever, especially where that falls out of alignment with the customer, is an important signal to us that we may need to reduce our position or exit.
• Second, seeing a negative moat trajectory: Declining competitive position, even in a small way, can snowball into a fairly rapid deterioration for a business. An example might be erosion of a technical advantage or commoditisation of a service. This is where our proximity to early stage investing is most critical and can help us understand these shifts early.
• Third, the slowing of the organisation and its culture declining: Teams and their ability to deliver outcomes at pace and at scale are a critical component of high growth businesses. For example, a cornerstone of Datadog’s market position and its ability to grow with customers is its breakneck pace of product development, with its focus on rapid customer feedback and understanding of willingness to pay. Seeing this deteriorate would require reassessment for us.

Jethro: What are some examples of the lessons learned from the VC business that have informed or added value to the GTF's investment decisions? And where has GTF added value to the VC team’s decision-making?

Ben: The first lesson would be to focus on what can go right. There is huge amount of ambiguity in the early years of a business as founders go after product-market fit. To gain conviction in those stages, we focus on how founders and their teams solve problems and what their framework is for execution. Duolingo is a great example in the GTF portfolio of where there was a lot of ambiguity in exactly how their products and growth drivers would unfold over time. This led us to focus on learning how the team actually goes about their process and how that complements the business model.

A second lesson would be the ambition that founders are uniquely capable of realising. We saw this through leaders like Micha Kaufman, co-founder of Fiverr, who showed how long-term alignment around their mission was a superpower in driving the business forward at pace. Founders can act as talent magnets to achieve that mission and help maintain a deep connection to the customer. We think this has equal potency at scale and in seeking to build a large and important company in the public markets, where maintaining a focus on the long-term is essential to success.

A third lesson would be that the pace of change is increasing - you have to be close to the coal face to understand how that change is going to impact later stage businesses. For example, much of the innovation in payments is being led by private companies like Airwallex, Zeller, XFlow, Stripe and others. We’ve been able to take the learnings from these portfolio companies and apply them directly to investments in GTF, such as Adyen, Block and DLocal.

Jethro: Can you tell us a bit about how you split the short-term and long-term. For example, how do you determine when to exit a position if a company with a lot of the right traits might be underperforming for a few quarters?

Ben: I would say that sometimes shorter term changes are structural and sometimes they are transient. It’s highly unlikely that over a successful 5-10 year period, a company we hold will have a perfectly linear path of growth and scaling. Every quarter of fundamental results needs to be put in its proper context. We do need to act quickly to preserve capital if the facts change, but otherwise we keep our focus on the long-term.

As the late Charlie Munger said, “The first rule of compounding: never interrupt it unnecessarily!”. Teams need time to execute and compound value, and we can be a capital and thought partner for them through that journey.

We regularly debate a list of potential issues that could undermine our conviction and think about different paths a company might take. This discussion begins with our initial investment process in companies and is continuously refreshed. This brings accountability and forces us to explore those issues on an ongoing basis.

Jethro: I’m keen to understand how the strategy flows on from our venture funds, particularly for the companies that end up going public. Is there the potential for the GTF to hold Square Peg venture portfolio companies as they begin to look to IPO events over the coming years?

‍Ben: Yes. We do focus the majority of our time and effort on the public markets. But GTF has the ability to hold up to 20% of the fund (at cost) in private companies where there is clear line of sight to an IPO within 12-24 months.We think this is a really attractive element of the fund over time, where we can move ahead of public markets in the right circumstances.We need to meet our bar on conviction, quality and returns. This is most likely to be true with Square Peg venture portfolio companies, where we have a deep relationship, direct access and differentiated insight to other public investors.Square Peg’s later stage VC portfolio is absolutely part of our funnel of opportunities and we regularly benchmark our public opportunity set against them and vice versa.

If you’re interested in learning more about investing in GTF, please reach out to our team. Investors can contact us here.

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