With Harry Gruner, Co-Founder, JMI Equity
1. JMI Equity, a growth capital firm that backs software and business services companies, just closed its sixth fund at $600 million. What do you like best about your niche?
The first dynamic we like is it’s a market driven by change. We look for under-automated business processes that should be automated. Think about all the inefficiencies in health care, the inefficiencies in banking and insurance. Think about how transactions move. Wherever there’s a lot of paper, there’s higher error risk and higher cost inefficiencies. We also like the growth characteristics. These businesses generate tons of cash. They also have sticky, long-term relationships with customers.
2. For this fund, nearly 100 of your limited partners re-upped, and 15 new LPs committed, helping you double the size of your previous fund. LPs must have come to you with at least a few concerns. What were they and what did you tell them to allay them?
The overheated market and high valuations are concerns that were universally held in the LP community and universally voiced to us. It’s fundamentally a concern we share. But with 20 years working with software companies we have a good sense of the intrinsic value of these companies. I also think we know who the top companies are and are able to get conviction around paying fair value for top companies.
3. Finding software companies to back isn’t easy: There are a lot of them and the market evolves at light speed. What’s the strangest, most interesting way you ever found a deal?
We found our portfolio company Jobing.com in the lobby of one of our companies. Our company NetPro Computing is based in Phoenix, and is in the same building as Jobing. We noticed their name in the directory. We went back later and did some research and found out it was an interesting business doing quite well. We kept calling them for two years and later made an investment. Another deal came out of reading Jack Welch’s book, Straight from the Gut. It turns out General Electric in some of its markets makes most of its revenue and profits in aftermarket service and support. We really found that marketplace under-automated, so we invested in service companies ServiceBench and Axeda to address those issues.
4. In the future, will JMI do more partnering on deals, as it did with Hellman & Friedman on DoubleClick? On what percent of deals will you partner?
We’ll continue to partner with Hellman & Friedman. We also just partnered with Bain Capital Ventures on two deals. We partner on a third to half of our deals, oftentimes because there are larger opportunities that need more equity. Since this fund is a little bigger, we may do more deals by ourselves.
5. You started out in Baltimore and later opened a second office in San Diego. Neither city is well known as a hub for private equity. How did you end up there?
Baltimore happened to be where we lived and it has a remarkably thriving venture capital and private equity community, with eight or 10 terrific funds with varying strategies based there, including those run by alumni of T. Rowe Price, Legg Mason and Alex. Brown. As for San Diego, we wanted to have an office on each coast, and in our view the San Francisco bay area is well serviced. We didn’t have a sense that the community needed another firm, so we chose San Diego.