October 18-20 | Tucson, AZ

The Research Institution GAP Fund and Accelerator Program Summit

Venture Capitalist David Schwab on industry focused micro-investing and mining tech from the University of California system

Get our GAP Insights Newsletter

Join Upcoming Events

October 18-20, 2023 / Tucson, AZ
The annual summit for research institution gap fund and accelerator programs, including proof of concept programs, startup accelerators, and university venture funds

The Story

David Schwab, who launched Vertical Venture Partners a couple of years ago after 20 years at Sierra Ventures, says he did that so he could pare down his investment focus.

Micro-funds are the place to be, he believes, and it’s better to go deep into relieving specific industry “pain points” than to try to sell across multiple vertical markets.

The firm also spends a lot of time at various University of California campuses, looking for research it can turn into startups it can fund.

Schwab elaborated on his strategy at Vertical in a conversation, which is excerpted in the following Q&A. It has been edited for length and clarity.

Why did you start Vertical Venture Partners and what is its focus?
There’s really three fundamental tenets of the fund and they all come from 20 years of experience in the school of hard knocks.

The first important thing is that smaller is better than bigger when it comes to venture. This point is actually embodied in the data. If you follow the field of venture and you plot returns, smaller funds do better than bigger funds. That’s not disputed. So the first idea here is to get back to basics in venture and do smaller rather than larger funds.

The second fundamental tenet of this fund, and it’s embodied in the name itself, is that vertical is better than horizontal. Companies that sell into specific vertical industries like retail or financial services or insurance are better companies and better investments than the companies that try to sell to everyone. It’s a bit counterintuitive because vertical markets are obviously smaller than horizontal markets. But you get this huge benefit of domain expertise in that particular vertical. For a whole bunch of reasons, it’s a better place to be. So the fund is called Vertical Venture Partners.

The third fundamental tenet of the fund is that intellectual property is critical. I think the venture industry has lost a little discipline on IP. So I do a lot with the university systems, and in particular, the University of California system and a lot with U.C. San Diego. I’m very involved in technologies that are brewing in the university system and I match them with vertical markets. As a result, I get a good company that’s got substantial IP because it’s had a lot of money spent in its university incubation period and patents that have been filed and awarded. That’s a good starting point, for a company to have that IP position.

When you work with colleges in the U.C. system, what’s your focus? Are you working mostly with students, professors or researchers at these universities?
Mostly researchers. My focus is on IP. I don’t mean this in a critical way, but I’m not interested in some students who might have a new app. I’m interested in a researcher who’s been there for 15 years and has $15 million of grant money on his technology that could be a commercial breakthrough.

What’s unique in our approach there is that most venture firms are large enough where it’s hard for them to think in terms of investing $500,000. And $500,000 is just what the doctor ordered for some of these opportunities to pull them out of the school, license the IP, get the product finished, and get a half-a-dozen customers. That could be done for $500,000 dollars.

When you have a large venture fund, it’s just hard to think at that scale. That’s one of the reasons that micro-VC is interesting. It forces a fund like ours to mine these opportunities in the U.C. system, where a large fund wouldn’t.

Are you looking at the same verticals in the university system as you are you know, with other startup pitches that you hear? Is that still the same?
Yes, I am. I’ll give you an example. We made an investment in a company called Manta Instruments. This was founded by researchers at the Scripps Institute of Oceanography, which is a U.C. San Diego school. They developed technology to better measure nanoparticles. They applied it to their research, which is obviously in the field of seawater, which is a less-interesting investment premise.

But we took that technology to the pharmaceutical industry, where I’ve got substantial contacts. And the people I know in the pharmaceutical industry said better measurement of nanoparticles is one of the top three breakthroughs they need in their industry. They said that if these guys have developed what you’re saying they’ve developed, this is really important to us.

So that’s an example of finding some substantial technology, backed up by patents, hiding at Scripps Institute of Oceanography that no one would ever see. But when you apply it to a vertical market, i.e. pharmaceuticals, a solid light bulb of the investing premise goes off. And that company’s done quite well in the year that we’ve been involved.

You have offices here and down in San Diego. What is the geographical split in your portfolio?
About a fourth of the companies in the portfolio today have come from our university sourcing effort in and around U.C. San Diego. The other three-fourths would be classic vertical deals. I’m somewhat geography agnostic. My background is sales, and when you’re in sales, you’re used to getting on planes and going places. There are quality companies everywhere. In fact, right now I’m in New York, where I’m calling you on my way to the airport in my Uber car. One of my companies is here in Brooklyn.

How many do you have in your portfolio from the Bay Area?
About 50 percent are probably in the Bay Area, including PowWow Mobile which we just announced.

Tell me more about PowWow and how that fits into your investment thesis.
If you’ve been in the field of enterprise selling, Cromwell, which is what I have done for the last 20 years, you are in search of pain. What I mean by that is if you find a chief information officer that’s under serious pain, they will spend money, even with a small startup, to solve that pain.

PowWow is in an environment where CIOs have substantial pain. In enterprise mobility, the number of applications that the businesses want the CIO to mobilize and the actual applications that are being mobilized is a gap that’s getting bigger and bigger and bigger. It’s become the No.1 or No. 2 pain point for most CIOs in enterprises today. One place to start with for me is a very serious top-of-the-level pain point in the C-suite offices of the corporation. PowWow has that.

The way I understand it is that they help take existing software applications and make them mobile, right?
Yes, that’s right. What they’ve done is actually quite unique and quite crafty. They allow you to keep all of the existing business logic, all of the integrations that have been done over the course of a decade into various back-office systems and all of the security infrastructure, including deal-level security. All of that stays.

What they do is they create a new native mobile user experience. So from the user’s perspective, they think they’ve got a brand new native mobile application. But what they’ve done is crate a new native user experience, leveraging decades worth of work that’s already been done on the business logic and the integrations. This it allows the company to move quickly to mobile, with a lower cost and lower time to get there. Something like PowWow is going to be needed to close this ever-widening gap of apps that need to be mobilized and apps that are getting mobilized.

Was this a typical size for a deal, around $4 million or so?
Yeah. In the venture business, you either get paid to take the risk — which means be early — or don’t take the risk — which means be late. Where you don’t want to be is stuck in the middle, where you think there’s no risk, but there really is. I like the part of the equation where I know it’s risky, but I’m getting paid for it. So my fund is very focused on early stage. So a $4 million deal like this seed deal at PowWow is pretty typical.

Which of your investments so far is getting the most traction?
The one with the most revenue traction is a company called Zipari, which is a Brooklyn company. It sells CRM software in the insurance industry, got out of the blocks quickly and is well into revenue. They’ll have a good revenue year this year and a good revenue year next year. So in terms of revenue generation, Safari would probably be leading the pack.

How much do you have under management?
It’s a $50 million fund. This is smack-dab in the middle of the trend of getting back to smaller funds and what the industry is calling micro-VC.

So when you started this 18 months or so ago, it was at a time that round sizes were taking off. How did that affect you? Have you noticed a change?
It depends a little bit if you’re enterprise-focused or consumer-focused. It also depends a little bit if you’re early stage or later stage. I would say with our focus on early stage enterprise, I have not seen a slowdown.

I have more yield flow than I had even a year ago. Enterprises have got substantial pain points, especially the vertical markets that I’m concentrating on, like retail and insurance, for instance. They will spend money, even on startups, to solve those pain problems. So the slowdown is a little bit more evident in the later stage consumer space. But in early stage enterprise, it would not be true.

There’s been an explosion of companies at the stage that you’re focused on with far more seed-stage companies now than there were five or ten years ago seeking funding in the seed and Series A stages. How has that affected what you do?
It requires you to be really disciplined on your strategy. You’ve got to have some real bars that the companies need to climb over to be considered for an investment. So, for instance, one of those bars, for me, is I need to see that the company can finish their product and get into conversations with customers on my investment. That’s an important parameter for me. A lot of companies would fall out on that one.

One of the places where my fund can help, because we’ve got a lot of talent in the enterprise-selling arena, is in scaling of sales. But I need to know the company is at a point where they’re able to begin to scale sales. You just have to have some very tight filters to take hundreds of opportunities and whittle it down to the few that you’re going to invest in.

What’s the most interesting or important thing that you’re seeing in the spaces that you’re watching right now for investment?
I was co-founder of a company called Scopus, which was one of the first companies in the field of CRM or customer-relationship management. We were really fortunate to be in the right place at the right time with that company. It was quite successful. And CRM software is going vertical.

What I mean by that is customers want CRM that solves all of their business problems. Given that my fund is vertical and given my background is CRM, one of the very interesting trends that’s exciting for me is vertical CRM.

If you’re in a strategy meeting in a large Fortune 500 company where you’re talking about CRM, and I have seen this happen, they will start their discussion by putting up all of their business processes that they call CRM on the white board. They’ll end up with 37 circles up there. But in the insurance industry, the circles would be labeled different things than in the retail industry. But there’s 37 circles on the white board. Then they ask the CIO to color the ones that they get from their CRM vendor, and they color three. So 34 of the 37 business processes that this company believes is CRM, they don’t get from their CRM vendor. That means there’s a huge business opportunity to do those other 34. That’s what I mean by vertical CRM and that’s a real giant wave in the CRM industry today.

Source: Venture Capitalist David Schwab on industry focused micro-investing and mining tech from the University of California system – Silicon Valley Business Journal

Get the Report

More GAP News