James 0:10

This is Obris by Crown Private, a membership based global investor syndicate. My name is James Evenson. I am one of the partners of Crown Private, joined with me today is Marvin Yee, also one of the partners of Crown Private. We're about three things: people, places and deals. In this particular podcast. We are going to focus on deals. Marvin Yee, in addition to being a partner in Crown Private, is the managing partner of Crown Financial Services. I want to interview you today because you have a very keen mind for putting together investment deals. And I'd like to share with our listeners and those who are watching us, a bit of what goes on in your mind and your practice of how you construct deals. So Marvin, my first question is, how do you find your deals?

Marvin 1:12

Well, firstly, there's an understanding that the market for money is largely inelastic. So there are always deals around. The key element is getting the right types of deals and the kind of the types of deals that are good for our investors. And to that end we rely a great deal on referrals—not just from people in the industry, but also people that worked with in the past. Now this could be other co-investors or it could also be companies that we have invested in in the past and through their networks they have in turn referred other opportunities to us.

James 1:59

We're based in New Zealand. Are your referrals or your connections the people you know specifically in this region, or are they throughout the world?

Marvin 2:13

Well, the world's a big place, but this region would be a major part of that, but not just in Australia or New Zealand, which are really quite similar in terms of economy and also legislation, but also, from the United States, Asia and increasingly we're getting quite a few new opportunities in Europe. We have investors from a wide range of areas, not just obviously in Australia and New Zealand, and Crown is not just based in New Zealand; we are also in Sydney, in Singapore and Kuala Lumpur.

James 2:51

So really around the world are our friends and our connections and our network is pretty, pretty wide. What kind of results do your deals, the deals that you craft, produce?

Marvin 3:07

Well, ideally we would like to create above market results. So certainly that's the first area that we look to, to concentrate on. But to that end it's also understanding the cyclical nature of certain markets and also the structural nature of that. And ideally you want to combine the two elements and that's really how you get into an opportunity that can provide you an above market return. And that's not, say, a general offer to the public whereby the returns may not be that exponential. So as an example, a lot of companies are good at doing certain things, whether it's making widgets or whatever service, but they may not understand their industry so much. So having that understanding allows us to understand whether or not this industry is undervalued or it's about to go through a new cycle of change, and the structural element of that allows us to take advantage.

James 4:18

Okay. And are these deals for anyone?

Marvin 4:22

Well, the deals are targeted to wholesale with eligible investors. So, legislatively that's basically the target. Of course that also covers private equity firms. It covers corporate investors, effectively companies that are in the financial markets.

James 4:46

Gotcha. I'm thinking about the components of a deal that you put together. And so my context is having traveled extensively with in the world and having had meetings that have started off with the introductions to a company and then watching as time goes on, the process that you follow to actually craft a bespoke deal that is agreed upon by the company that we're investing in. Can you tell us what are some of the components, what are the key components for you in crafting of a bespoke deal?

Marvin 5:29

Well, firstly we have to understand what need are we trying to address. And that's normally not just money. Money is needed to do something. So it's not just a matter of providing money to a company. It's a lot better for us to understand what they're trying to achieve with it. This is the difference between raising say $1 million to raising $1 billion because at the end of the day there are very few constraints to people's hopes and dreams and of course the concept that it takes money to make money is not a unique one. The whole idea is how do we make lots of money from as little investment as possible? So from that point of view, understanding what the company's trying to achieve as a big part of it and understanding how we can assist in that manner allows us to be a strategic investor and also play a role, post fundraise. So we are typically not passive investors in this context. Otherwise, you know, you might as well put your money into a mutual fund.

James 6:37

The opposite of passive would be an active investor. What does that mean to you?

Marvin 6:44

Well to me it means that we have a degree of control of the company. Now on the base level, we would typically look to, depending obviously the size of capital that we bring on, we would typically look for board representation. We would certainly, ideally we would like to be a director of that company, and I may not always want to be a director of that company—there are circumstances where being a director of a company puts us at odds with the interests of investors. So it really comes down to what we are trying to achieve. So if we are looking to be in for a short amount of time, and then look to exit quite quickly, then we probably don't want to be a director of the company. But, if we are looking at something more strategic than we probably ought to be there and be able to steer the ship in the direction in which we would have no doubt stated to them in the early offer documents to what we are wanting to accomplish. So there will be a key component of that and depending on the levels of, of of investment, occasionally the condition of the investment may be that we end up doing the accounts with the company. We may end up taking on that roll. We would have double signatories in terms of certain investments that we, in terms of signing rights on the accounts. So, obviously it comes down to the stick that we have in the company. That's probably something we will ask then if we are 50% or close to 50% of the company and probably not something that we would ask if we were 5% of the company. But either way, the intention is to ensure that we can exact some strategic value either through the networks that we have, or through the operations of Crown itself, you know, be it in transactions and banking and so forth. All right. Can I ask more about the type of companies that appeal to you? What are the characteristics that are most common that are check marks for you? Well, an appreciation of other people's capital is very important. So consequently the degree of maturity from the founders or the directors—the people who are running the company. It's easier to probably explain what is a bad deal: a bad company we wouldn't necessarily want to invest in is a company where the key people have very little stake, and perhaps we're in the second phase of the company where the primary shareholders have already exited out and effectively we have a management which has very little stake in it. The problem is in companies like that. In effect it is that a weird bureaucracy to basically create itself. It's not a lot dissimilar from government really. The idea is to ensure that we have the right type of people that understand the kind of landscape that they are creating. And more often than not because we are looking for companies that have exponential growth, we need to look at people that are doers rather than planners. Planning is important. If you fail to plan you plan to fail. Having said that, it is important that they have the operational expertise to be able to do it themselves too—they roll up their sleeves and do it themselves, which may not necessarily occur in certain companies where the management is detached from shareholders. And there's a tendency in—and I've seen a number of occasions—that shareholders or investors are a particular source of money. And of course we know that from experience that it is a finite commodity. At some point the music is going to stop playing and there won't be enough chairs.

James 10:55

James: Well I can't count the number of boards that you have been on for public as well as private companies. So I'm thinking about your past experience of some 20 or so years in this business. Do you have a checklist in mind when you're choosing, when you're thinking about companies? Or are they all just different? Tell me how you approach this.

Marvin 11:20

Marvin: We'll look into thing firstly as I mentioned earlier, the exponentiality of the opportunity. So why invest in this company? Understand the risk premium. So if the company's trying to achieve a certain thing, you know, when we are investing, what state is the company at and how strategic can capital be employed? So that's probably the first area to look at, to see whether we can strategically turn this company into what it's meant to be. Because at the end of the day it is one thing to have confidence and another having people being able to achieve results. And I'm not suggesting we take over the companies, but if we understand what they're trying to achieve, then we know that that's something that we can assist in. So for example if the company requires to be licensed in a particular area, that's [probably] an area we know we have some expertise in. I would say at least 99% certainty that we can accomplish it. And then that means that it has a great evaluation, and that is going to be a good thing for investors. So this is different from just relying on somebody else wanting to achieve those results. That's one element of it. Having said that, having a company with passion for what they're doing is very important. Looking at employees that are not solely motivated by money because at the end of the day most of the companies that we're backing to achieve this exponential return are effectively companies who are trying to disrupt the industry or for the most part. I think that would be a good good example. If you're the underdog, you're not the the dominant player. So consequently, if you have employees that are only there looking for the for high innovation, you're never going to be able to compete on that because there'll always be a larger company. So strategically you need to balance, you need to balance those out. You need to ensure that the people, the staff and the management are particularly and adequately motivated to ensure that the goals of the shareholders and investors are two and the same really and are going to be confident in what the management is trying to achieve.

James 13:56

James: Those really are fundamental to private equity investing. Absolutely. Something I've watched with great enjoyment is how you can start with the company in terms of what they're looking for when they approach us or when we approached them. And oftentimes I will know your starting point and you consistently reach agreeable terms that are not where the company started. How do you actually achieve this?

Marvin 14:31

Marvin: Well, I'll go back to my earlier point: understanding strategically what they want. Companies will come to you with a plan, typically, that requires you as the investor to have a passive stay in the business. They will many companies who want a strategic investor, but many companies don't necessarily understand what that means. And we have to decipher that language because, especially early stage companies, you can conversely ask, well, would you like an unstrategic investor? So it's almost like saying I want a good person on the board as well, as opposed to what? A bad person? So understanding of what they're trying to achieve. So most companies, what they really mean is that they just want the cash. They want the cash, they have the vision to execute in a particular way. It's usually a BHAG (big hairy audacious goal) and we want to support that because you don't get exponential returns by not going after BHAGS. So in order to do so by understanding how we can, how we can strategically assist in that area, that's really where we provide them a solution that goes along with the funding. So we say, well you may be asking for this given example 100,000 for 10%, however we know that with our involvement we can basically achieve what you want to achieve in say a third of the time. And for that we will basically only invest at a valuation of say 500,000 and 20% as an example. And we also want a board seat because in order for us to assist you to reach these goals, we need to have a degree of influence. So that's an example where the where, because we are actively involved and I guess from a rationalization standpoint, we are involved in the creation of that. Wealth companies typically come to you reasonably fully priced. They come to you with the potential and you're investing in that potential. In this initial circumstance we are actually part of their potential. We are part of creating that potential. That's why we can have a much higher, a much larger negotiating position.

James 17:03

James: Thank you very much. Next thought in my mind is, Crown Private has a fairly diverse portfolio ranging from startups to more established deals. You just described the conditions of the types of what you consider a good company. And I'd like to understand how startups fit into that. How do you choose startups? Because there are a lot more variables, vagaries in an early stage company than in an established company with a mature and established structure. So how would you find decent startups or a good startup?

Marvin 17:47

Marvin: Well, the first thing to look for is to ensure that there is an opportunity there. Now with a startup the exponential forecast is probably not that relevant because you're starting from zero. You know, anything is going to be better than that and arguably ever result is going to be exponential. So I will look at the risk premium firstly to see whether it could work. Clearly you need to create a distinction between an investment strategy, and that of a gambling strategy. So the concept of spray and pray is not one that I subscribe to. I use the, in many respects, an analogy of that table. I'm not really a gambler, but I understand the mechanics of how it works and it really comes down to a matter of say, well, for this type of risk am I going to get more returns than I wouldn't necessarily get on the table? So on the roulette table, you've got a 36 to one pay out. That's my understanding. I could be wrong, but that's my understanding. You know, barring a few hours, probably a bit less than 36 with a few other pieces on the board. But the key element really is, am I going to get such an exponential for the amount of money and putting in, or should I just bet it all on black. If I bet on black I get 50%. I have a 50% chance of winning by and large. So that's really the kind of understanding on the exponentiality of the opportunity. So we all need to have a basis for that. So now I look at it from that point of view first and say, well, okay, if that company passes that and there is going to be an exponential potential then having established that is to say, well, now I want to be part of the deal, but how do I get the best value in this? And that's really where we see how we can assist them to achieve that. And understanding of course that they're startup companies, there is a distinct premium that needs to be placed on the risk. And the earlier that you're involved in the company, the more binary that that investment is. The higher the premium needs to be. So the system is not designed to be easy. It is certainly designed to ensure that there is an appreciation, both by the company as well as the investor of the premium associated with the risk capital at least to start things off.

James 20:49

James: We've already touched on a number of boards and I know that you're on early stage boards as well. With your experience in private equity, how do you apply that to your board involvement in a startup?

Marvin 21:05

Marvin: Well, a board in a startup is a lot more advisory based compared to a board in a more established company, which is arguably more governance based. So there needs to be an appreciation of the two elements. Advisory, typically the younger founders involved where we have a more active role in the company, but also understanding that for the company to grow beyond a startup, it requires some reasonably, significant understanding of the governance requirements for that. And that is really where I look at the board or board role as one of the elements of being able to transform the company from a startup mentality to one that is more mature without necessarily compromising on the enthusiasm that is requisite for a startup, for the company to succeed. So that's really the, the balance of the two. And the reality of the matter is that we don't really invest in very early stage companies. And I'm thinking about, you know, pre-seed. Very, very rarely I mean, we wouldn't be invested in the back of a napkin, for example. So the reality of the matter is that the ideal situation for—in terms of the lifetime, lifespan for a company—would be where we can add some value in transitioning them for what maybe a family one or one to five—say less than a 10 man company, we should be involved in the transition of that say 10 man company to a 50 man company. And one of the things we add as board, it's a board members to look to turning that company into a capacity where they have both the retaining enthusiasm, but also being able to have the governance structures in place to basically create that ramp for exponential growth.

James 23:19

James: Well, I appreciate that because I think firsthand of companies that we have invested in when they're early stage and then when we're presented with an opportunity to participate in another round, we're not doing so blindly, we're not doing so like a typical newcomer investor. We actually have someone like yourself who is on the board, who has overseen the development of that company so that if we're participating in yet another round of investment, we have confidence with that company and with the people that are running that company and essentially we're also very active in the running of that company. Very great, very helpful. I think at this point, I'd like to just briefly summarize that our focus has been, Marvin and how you bring us to two deals, how you structure deals. And granted it's not just you, but our focus of this particular podcast is on you. I'm really clearly, not to over flatter you, but you have really significant capabilities that you demonstrate in crafting the bespoke deals that we produce for our members. So thank you for that. I would like to highlight just two more things. One is I'd like you to speak just a bit about Crown Financial Services. So Crown Private is, in partnership with Crown Financial Services sharing the same crown. can you speak to that a bit? What is Crown Financial Services and what does it bring to us?

Marvin 25:04

Marvin: Sure. So Crown Private is a subsidiary of Crown Financial Services and Crown Financial Services is a regulated entity. Our investment business is regulated by the financial market's authority. Our transactions business is regulated by the Department of internal affairs and our depository business is regulated by the Reserve Bank of New Zealand. The benefits translate to that we're able to benefit from the hereditary nature of some of these licenses and in our case, particularly those in dealing with investors and also being able to refer on other types of opportunities, say to other areas of the business such as transactions and so forth, whereby these are particularly helpful for say, portfolio companies that we invest in. So if a company suddenly may have difficulties in having banking facilities for an example and we may invest in them and part of that combination, we may be able to, as part of the proposition assist them in having, say, lines of credit, some transactional accounts and so forth. Obviously depending on the type of business. So it becomes an expanse, a, a much wider proposition than just providing a company with growth capital or investment. So that's effectively the relationship. And also we know that the investors can have confidence that the types of deals that we present to them are ones that are well vetted. There are ones that take into account the risk premium and obviously the exponentiality of the investment, without compromising its quality.

James 27:25

James: Absolutely. You know what, I do want to focus on one phrase because it's come up several times. Risk premium. Define that in your own words.

Marvin 27:40

Marvin: Well, absolutely. A risk premium is effectively a situation where if you're going to be investing in an earlier stage company, things are naturally going to be more risky than perhaps if you've invested in IBM. So where an established company, with, with a very low risk premium and you can substitute that, IBM could be AT&T or whatever. Now you may find that a variation of the returns you get and you know, government, treasury bills, for example the returns are not exactly great. People are not going to this great deal for them to create wealth. It's more of a method of storing wealth. And we need to have those types of things as well, but it's not quite the focus of what Crown is involved. Therefore the risk premium is simply taking into account the risky nature of earlier growth stage companies and ensuring that we are adequately recognized for that. And when I say recognized it means we are given a much better return to appreciate that. The old saying, you know, is a high risks and a high gain and from our point of view, what we are trying to do is to minimize the risk while still retaining as much of the upside as possible. And that does take into account, ensuring that the degree of risk is understood, and not so much just from a capital preservation standpoint, but in terms of the premium that will be attached to our investor dollars for believing in the company, perhaps at a time when they most need it.

James 29:28

James: Great. Great. You know, that actually reminds me of another question that, and a lot of the deals that we participate in are not, an equity position but structured debt. Can you speak a bit about what you're looking for there and how is that valuable to our investors to be involved with a structured debt?

Marvin 29:56

Marvin: In some respects, a lot of the structured debt elements have come out from an understanding that many early stage equity investments—in fact, I would say the majority of early stage equity investments are very binary—the idea of a structured debt product is to ensure that we can hold the company to a degree of accountability to what they're telling us. So it provides, unlike say, an equity investment where it may take some time for us to raise around and bring on investors to be interested in it, most structured debt investments, we can commit to. Largely utilizing all resources we can underwrite the deal in most instances. And therefore effectively what the company is trading on therefore is, they are paying a premium for us, providing them certainty. So we give them that. So they understand that there's a degree of certainty that we provide. The price of that largely is us saying to the company, well, you have to do what you are agreeing to do and this is not just the best effort basis, you need to do to, you are legally obliged to do so. And typically we have warranties and so forth, that any registered securities against assets of the company to ensure that those things occur. We don't provide those facilities to everyone. Obviously having a debt facility in a startup is not particularly helpful. You know, not, not unless the person's prepared to leverage his house. They would go to a bank rather and get a much lower interest rate than perhaps they would get from us. So there is that. So certainly the the debt products typically are much higher yielding. That's really the, I guess it would be looking at the greater Crown group, that debt is a big part of our offering. We tend to look at a much higher return. We being Crown Financial Service we started off in the financing of equipment. But it is an effectively licensed as a finance company. So that is the nature of our core missions. So doing finances is something that we are well familiar with and what we are doing is, in cases of the structured debt is providing almost a bank type facility in an industry where there is typically not a lot of security. There's not a lot of debt funding available in those areas outside, you know having to mortgage their house. So we come in the in-between spot and are able to basically, reduce significantly the risk premium in that respect, particularly if you're looking at securitized debt. But also that enhances our ability to influence companies as well. So, you know, a number of the investments we made in the past have resulted in us having some degree of influence on the board and some of those have translated to additional investments which comes with additional board seats. And in this, by understanding the different nature of the company, we can best assist them. So it is not uncommon for us to bring on an industry expert that fits the system—the board for example—because at the end of the day, we want the company to succeed. That's first and foremost. Effectively many of these debt facilities—speaking softly you know—are carrying a big bat.

James 34:22

James: I think a lot of crossover with private equity, a significant crossover there.

Marvin 34:28

Marvin: That is a hybrid isn't it? And I guess that's the difference. That's part of the nature of which, you know, if we were just purely providing debt we will be dissimilar from a bank or a regular finance company.

James 34:39

James: Correct. It really is strategic finance, so the goal is that it's a win win for both parties. Ultimately we want our shareholders—our investors—to benefit from this.

Marvin 34:54

Marvin: Absolutely. Our shareholders need to benefit from the congruence and what we're trying to create here is the congruence between forecast and actuals.

James 35:03

James: I'm not going to go into the specifics of the name of the company, but a deal that you put together recently, I certainly appreciated the balance of the security that you brought with the risk of investment that, though it is a high yielding outcome, the risk for it is quite low and that is you, Marvin, putting together that deal and structuring it in a way that the company gets what it needs, our investors get the return that is warranted, and the risk for them is extremely low.

Marvin 35:49

Marvin: Yes, certainly that is the intention. It does take some time to put those deals together, of course. I think the deal you are referring to particularly, that had to go to three different regulatory bodies for approval. And we were in a unique situation of being able to capitalize on the fact that it was only open to a select type of investor. We were able to use that and also utilize another aspect of a different part of the regulation you had to go through for us to be able to exit the investment. And that meant that we basically had a reasonable premium with very low risk, so the transactional is guaranteed because effectively in order for this group to gain a significant control, they needed someone like ourselves to basically create the structure that allows us to both come in and go out reasonably easily.

James 36:47

James: Excellent. Well, I think we're going to wrap up in just a moment, but I do have one more question for you. We in Crown can be based anywhere on the planet. Why New Zealand?

Marvin 36:58

Marvin: Well, New Zealand's a very unique location. Firstly it has been number one on the transparency perception index for at least the last three years and has only gone up on the index.

James 37:12

James: How can you be number one and keep going up?

37:16

Marvin: Well, it's based out of a hundred. So we just keep on accumulating more and more points. I think we went from 73 to 85 or something to that effect just in the past year. So from a structural standpoint, it is a good location to provide confidence to other regulators that this is a clean structure. It is not located in a tax haven. It is a structure which has a degree of confidence, internationally. So that's one. Because when people think of New Zealand, for the most part, if there was a political view on those matters, most people would agree that New Zealand's quite neutral on those things.

Marvin 38:05

So consequently it is not involved and arguably doesn't necessarily matter to a great deal, you know, where it comes in on the political spectrum, but that neutrality is you know, at least in the mind of regulators and also investors, I think helpful in that process. But more accurately though, while we have that reputation, the type of structure we use for investments is particularly tax friendly. So we make use of, legally, entities that are approved by the IOD and then revenue departments for particular kinds of investments to ensure that they are exempt from at least New Zealand taxation anyway, and that allows for a very robust structure, particularly in regards to how capital gains tax is calculated, which for most investors will be the primary means on which they will be gaining the income from these investments. We have other structures that are not just based in New Zealand, we have structures based on Singapore. And that is for a reasonably good structure in regards to income tax, so there are different structures to suit. We're not exclusively based in New Zealand, not all structures are based in New Zealand, but particularly, and I guess we see this a lot more with our current members, particularly the ones from the US and so forth, the nature of taxation of these investments in New Zealand and the nature of taxation that goes along with our structures is one that's particularly more friendly, more optimized than they may otherwise be used to. And therefore that also changes the risk dynamics in terms of the investment.

James 40:12

James: All right. Well, Marvin, thank you very much for your time and thank you for leading us on the deal in Crown Private.

Marvin 40:24

Marvin: Thank you, James.