Silicon Valley startup valuations are so out of control, these 2 investors moved to New York City to avoid the ‘bidding wars’ for big deals
- After graduating from Stanford University — right in the beating heart of Silicon Valley — classmates Hendrick Lee and Seamon Chan could have made careers as tech investors putting money into local companies.
- They decided to venture beyond the valley. Based in New York, Palm Drive Capital bets on startups from Hong Kong to Hoboken, New Jersey. Some of its investments build software for customers in overlooked markets.
- Lee and Chan say they’ve avoided the “bidding wars” for access to the hottest startups in the Bay Area. Their strategy hinges on finding young companies who are raising capital at reasonable valuations.
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The founders of Palm Drive Capital had every reason to stay in Silicon Valley.
The two friends from Stanford University had first cultivated their network in classrooms. Hendrick Lee, the firm’s cofounder and managing partner, joked they wouldn’t have to look far beyond their graduating class to find investment opportunities.
Seamon Chan, the other cofounder and managing partner, said they left the Bay Area for New York to “get out of the bubble.” Their strategy hinges on reaching out to young companies, mostly outside the valley, who are raising capital at reasonable valuations. Many of them provide software to customers in markets that are overlooked by some startups.
Their approach seems to be working. Palm Drive Capital has more than 80 investments on six continents, including six startup unicorns whose valuations passed $1 billion since the firm put money in. The biggest exit to date for Palm Drive Capital was Jet.com’s sale to Walmart for $3.2 billion in 2016. They invested in the New Jersey startup just the year before.
They found people building great startups can come from anywhere
Lee and Chan met in a computational mathematical engineering class at Stanford. Lee had his sights set on starting a company out of school, while Chan had began putting his earnings from a summer internship into startups. He saw his first exit before he was 30. Lee’s first startup, a small design firm, helped companies make their products easier to use.
The two friends found their way to private equity firms in New York, where Chan grew up. They noticed that while investors in the San Francisco Bay Area tended to put their money to work closer to their offices, many of the venture capitalists in New York looked outward. Those investors seemed to believe people building great companies could come from anywhere, they observed.
There was also less competition for deals outside of the confines of northern California. Investors could get a piece of these companies at lower valuations — avoiding the “bidding wars” taking place in the Bay Area, Chan said.
Investors there measured a startup’s revenue and spending habits against a comparable company in the public markets in order to determine a fair valuation, rather than base the deal on hype and unproven potential.Lee and Chan admired their financial discipline.
In 2014, Lee and Chan decided to raise a fund together. Palm Drive Capital was named for the mile-long, palm tree-lined entrance to Stanford’s campus. The landmark is so well known among people in the valley, Lee joked that they might as well have called it the Stanford Alumni Fund. He worried about how the firm would match its namesake’s reputation for producing very successful startups.
Moving to Manhattan
Their first office was the lobby of a Cornell clubhouse that they had access to because of their Stanford alumni status. Talking on the phone was prohibited, so the pair would take calls in the emergency stairwell and meet founders all over Manhattan. Chan once had three dinners in a night.
The founders described themselves as “software generalists,” which is reflected in their portfolio. It spans financial services, e-commerce, enterprise software, and healthcare technology.
The firm’s investments include Catalyte, a Baltimore company whose service trains and employs software developers from unlikely backgrounds, and DataCubes, a startup from a Chicago suburb that uses data science to automate some of the work for commercial insurance underwriters.
DataCubes has the upper hand on its competitors in other states because of its proximity to many medium-sized insurance companies in Illinois, Lee said.
“There’s a Fortune 500 company in every state in the US. It’s weird to think about that but it’s true,” Lee said.
“All of them will need some kind of software to upgrade their workforce. So entrepreneurs who are not based in New York or the Bay Area have an opportunity to build something great to serve the geography around them,” he continued. “You might not be a company town for software in Schaumburg, Illinois, but you can be a company town for medium-sized insurance companies.”
‘Your gut can be trained’
This year, the two partners said they met 5,000 companies from around the world. Each startup gets logged into a database that tracks the company’s revenue, spending habits, financing, and other metrics, with the goal of timing when the startup is going to raise its next round.
“Your gut can be trained,” Lee said.
It’s increasingly important for boutique firms to work smarter because of the competition for deals. Tech investors everywhere are raising bigger and bigger funds to access the most sought-after startups. The rise of big fundraising events known as “mega-rounds” created more startup unicorns in New York in 2019 than any previous year, according to a recent report by White Star Capital.
The firm had its first close of $44 million on a third fund, which it aims to grow to $150 million. A small portion of the funds will be used for hiring more staff to build its database of investment opportunities.