Calm Company Fund: Five Years In

This February marks five years since Calm Company Fund, at the time named Earnest Capital, wrote its first investment check. I feel both that time has flown by and like 20 years has happened. This essay is a look back at the highlights and what went right, as well as the things that didn’t go according to plan and what we’ve learned from them. I’ll be publishing a follow-up with what this all means for the next five years soon.

There really aren’t any how-to guides for launching a new early stage fund with a novel investment thesis. I’m still amazed we even got the project off the ground in the first place. I’m truly, unbelievably grateful to the hundreds investors who trusted us with their capital, the 100+ founders who let us support them, and the 10,000s of you who helped in a myriad of smaller ways amplifying us on Twitter, referring founders to us, and providing feedback and advice as we built everything in public. It’s been a wild ride so far.

The origin of Calm Fund is deeply personal for me. I was made to be an entrepreneur and am really not built for any other line of work. When I tried to build my first real company I had deep insights into a niche market, enough self-taught programming chops to build a real product, a talented co-founder…  all the ingredients to build a valuable company. We needed a single shot of investor capital and we would be off to the races... and I then spent two years, all of my savings, and $60k in personal debt learning that there were absolutely no investors out there aligned with building the kind of company I wanted to build.

I wanted a high percentage chance of building generational wealth, but every VC wanted me to go big or go home (which I knew mostly means going home).

I wanted sustainable steady growth, they wanted me to move fast and break things.

I wanted to build in a growing niche market where I could build an incredible company and a micro-monopoly, they said it was a lifestyle business.

I wanted control over my own destiny, they wanted me to raise more money every 12 months and work for a board of directors.

When I sold my last SaaS business I thought it was finally time to build the fund I would have wanted to partner with and here we are.

The Highlights

The process of building Calm Company Fund has been one of continuously doing what I call asking dumb questions:

Is this the only way to do this?

Does this have to work this way?

What are we actually trying to do here?

I would ask any investor, across all asset classes, who would give me some time how they did their job, triangulate the parts that made sense for us, and then fill in the gaps as we went.

We’ve been busy building

We got a lot of help getting the basics of the fund up and running, but the unique approach we were taking also meant that we had to re-invent from scratch many of the core components of the funding model.

• We created and publicly crowd-sourced feedback on a brand new investment structure, the Shared Earnings Agreement (SEAL), aligning investors with capital efficient companies that focus on becoming sustainably profitable
• We created our own subscription fund structure that blends the best parts of a traditional fund (broad exposure for investors to many companies per fund) and a rolling fund (predictable quarterly capital commitments for our Limited Partners). We added transparent upfront management fees and our own back office tech stack to make the process much more seamless for investors than a traditional fund.
• We structured our own valuation methodology for early stage businesses that rewards revenue progress and is not solely dependent on companies raising the next round. We did this in the beginning because it was just common sense, but it will turn out to be a great decision in an environment where startups were being marked up to crazy unicorn valuations in one round, only to go to zero.
• We launched a guided open application process in an industry dominated by requiring warm intros.

There are still lots of kinks to be worked out and processes that could be much smoother but I’m incredibly proud of the overall approach of thinking through from first principles what we’re actually trying to with a early stage investment fund (for our investors and portfolio founders) and trying to create the business that actually meets those demands.

The conventional wisdom at the time was that you absolutely had to meet founders in person to invest in them. How else could you shake their hand, look them it the eye, and figure out if they had what it takes? We went all-in on building a remote team and investing remotely all over the world before the world was forced to follow us into the future. We went all in on no-code and automation, before Ben Tossell and Makerpad taught everyone else how powerful it was. We’re layering in AI into that tech stack to do way more with a small team than anyone would think possible.

• We now have 100s of automations running 10,000+ times per month, saving us enormous amounts of human effort.
• Our internal HQ Platform connect founders with mentors, resources, and perks/discounts, all built on a no-code application stack by a very small in-house team.
• Our AI experiments are finding ways to reliably automate manual processes in ways that were previously impossible

In five years we have raised 4 funds and invested in 77 incredible companies. We’re currently investing out of our fourth fund. Through that process we’ve had the privilege of working with over 250 individual investors across all our funds. They run the gamut from private investors, GPs of other funds, to successful professionals of all walks of life, but the vast majority of them are successful founders of calm companies investing in and mentoring the next generation.

In 2021 we also brought on the support of over 750 crowdfunding investors via a Reg CF offering. These folks backed not just one individual fund, but the idea of Calm Company Fund, and own a share in upside across all our current and future funds.

Fund strategies are a function of what their investors sign up for and this unique investor base allows us to invest in ways that are truly outside the consensus of other early stage investors. As a result, in a market where the vast majority of funds are waiting around for a lead investor, Calm Fund was the lead or only investors in over 85% of our investments.

Early Stage Value Investing is working

All of this newness—new investor base, investment models, fund structures—was all in service of one larger goal: proving that a fund could invest early in entrepreneurs building incredible capital-efficient companies that grew at a sustainable pace and optimized for profitability rather than growth at all costs… calm companies.

When we first started, almost every investor and LP in the game said the same thing: there’s so much risk in startups, and so many of them will fail, that the only way to earn a return is to invest in 1-2 home runs per fund. The “power law” model of investing was the only accepted (and fundable) strategy for early stage investing. Put another way, every startup investment had a high and fixed amount of inherent risk, and the only way to compensate for that was to optimize for finding the massive outlier $10B successes. This was startup investing gospel.

Our bet was not that this was wrong, but that it was just one way to do early stage investing successfully. Moreover we thought the unicorn-hunting strategy had trade-offs. Going after the biggest markets and fois gras’ing startups with as much capital as possible to grow as fast as possible might increase the chances of becoming a unicorn, but it also increased the chances that most of the companies would run right off a cliff and fail even if they otherwise could have become good-but-not-$10B businesses. As simple and straightforward as this sounds, it was startup investing heresy.

Over the next few years the market obligingly proved this part of our thesis completely and utterly correct. We’re in the midst of a once in a generation tidal wave of otherwise potentially good businesses collapsing under the weight of having raised far too much capital, at unsupportable valuations, trying to hit unsustainable growth rates. A enormous amount of investor capital and founder/employee equity is getting wiped out and the big question is will we learn from it and adapt?

For the last five years we took a different approach. If everybody was doing Early Stage Momentum investing, hoping for the next round at ever higher valuations, we were doing Early Stage Value Investing: betting on founders building solid businesses in niche markets with a focus on making more money than they spent. So the question is, how is that bet working out?

Well, early stage investing is a funny business with a painfully slow feedback loop. Even five years in, we are still in the early innings, and the best we can honestly say is: the early results look very promising.

It’s difficult to truly do an apples to apples comparison between various investment strategies because investors are not all seeking the same thing. Some strategies are optimizing for cash distributions, others seek to compound equity value over a long time horizon, neither is better of worse and of course all of this is supposed to be “risk-adjusted” in some way. So I think the best thing to compare our performance to is the expectations we set for our investors in our thesis.

Here are the key objectives of our fund strategy:

• A lower overall failure rate than traditional venture capital/angel investing. This would provide less volatility within and across funds, and make overall returns less dependent on “outlier” outcomes within a fund.
• Faster liquidity for investors through a stream of Shared Earnings profit-sharing and more exit optionality
• Although we would not optimize for outlier/unicorn outcomes, the fact that we were investing early and with uncapped upside, meant each fund would still contain the possibility of outlier performance, though we would not be reliant on those to drive our overall returns.

Believe me, I’ll share plenty below about the things that haven’t gone right and the lessons we’ve learned, but overall I believe we’re tracking very well against these benchmarks despite investing through what one of our LPs called “the worst couple of years for early stage investing” they’ve ever seen. Across the board I’m happy with the past performance on these factors and, importantly, I expect the next five years to be even more favorable for this strategy. Let’s look at each in turn.

Lower failure rate: This one is both essential to our thesis and quite hard to pin down precisely. If you ask ten VCs/angels what a typical failure rate is for a portfolio you will get ten very different answers. That said, across our portfolio just 4 companies have shut down, representing 6% of the capital invested across our 3 fully invested funds. I’m fairly sure that’s substantially lower than most early stage portfolios. The main ways that we actively try to keep the failure rate low are:

1. Avoid hot crowded markets with tons of venture-backed competition. We don’t want to get into a capital incineration contest. Instead we prefer niche, overlooked, unsexy markets that VCs avoid where the founder can build a “micro-monopoly” business.
2. Look for capital-efficient teams and business plans while encouraging founders to raise less and keep burn low (even if that means not growing fast enough to raise another round in the short-term).

Moreover, a benefit of raising less capital and keeping the overall burn rate low is the ability to just stay in the game and wait for conditions to improve. For example Junglebee, a SaaS for Carribean tour operators, had sales crushed by the pandemic, but has been able to hang on and get growth back on track. Another portfolio company, Maybe, was sunset as a consumer finance product, but was recently resurrected as a commercial open source business, buoyed in part by the announcement that Mint.com was shutting down. This ability to stay in the game means that the founders’ timing doesn’t have to be perfect.

Faster Liquidity: Once of the most challenging aspects of traditional VC-style early stage investing is that even when you’re successful, the capital is locked up for 10+ years. The Early Stage Value Investing playbook should offer faster liquidity in two ways.

1. Shared Earnings are our version of profit-sharing. By encouraging founders to run profitably once they can do so, our investors get a share of dividends that the founders choose to take out of the business. Across our funds there are currently 12 companies that have become profitable enough to start paying quarterly Shared Earnings distributions, creating a quarterly dividend stream for our investors.
2. Capital efficient companies have more and earlier exit opportunities. A huge problem in the market right now is the dynamic where companies have raised more in preferred equity than the entire company is worth, making an exit to private equity or even a strategic acquirer impossible. We also believe that entry valuations matter and strive to invest at valuations where a life-changing 8-figure exit for the founder is still a strong return for investors too. So far we have seen 4 exits like this and the interest in acquiring profitable calm companies is only increasing.

The benchmark for liquidity is distribution to paid-in capital DPI and both our Fund 1 and Fund 2 are at or near 0.5x DPI, meaning that just a few years in, investors in those funds have received around 50% of their investment back in distributions.  In our original thesis, we told investors not to expect any distributions until 5 years into each fund. So the kind of liquidity we’re seeing is both much faster than most forms of early stage investing and is also faster than our own original expectations.

Outlier Outcomes: Many have confused (or deliberately mis-labeled) our strategy as investing in unambitious “lifestyle businesses.” This is wrong. We invest in founders who are long-term ambitious, that want the best chance at building a fantastic company on their own terms without being beholden to the whims of the venture investors. This means that the median company in our portfolio will grow a slower more sustainable pace, with a higher chance of success. But we are investing early enough that we will also have outliers in our portfolio that unlock organic growth inflections and/or decide to raise venture or other forms growth capital. While few companies in our portfolio end up fitting the traditional profile of a venture-path startup, I would put at least 6 companies in our portfolio in this category with the potential for significant “return the fund” outcomes. With enough time in the market and at-bats, the odds that we eventually invest in the next bootstrapped billion-dollar company—like a Mailchimp, Basecamp, or Atlassian—is high.

I don’t believe in free lunches, and I think that you can’t explicitly go unicorn-hunting without ratcheting up the failure rate in a portfolio. But I do think that with enough diversification and good execution on our part, our portfolios can offer investors the best of both worlds: early stage investing with fast liquidity to re-invest, strong steady equity appreciation, and the potential for outlier upside.

Incredible founder outcomes, well ahead of schedule

We are a fund, so I’ve framed this progress assessment from an investors’ perspective but its important to recognize what this all means for the founders we get to support.

Successful founder outcomes are way ahead of schedule. Even five years is still early days for a fund like this. Most companies are still just 1-2 years into their journey. And yet…

• 4 companies have had exits that were life-changing for the founders.
• 12 companies are profitable enough that they are paying quarterly Shared Earnings dividends. Shared Earnings are only shared when the founders are paying themselves substantial dividends. For example, Reilly Chase, the founder of our first ever investment, paid himself $1m in dividends while making $300k in Shared Earnings payments.
• Most of the rest of the portfolio is making steady sustainable progress toward their goals, with the support of the fund, their peers in the portfolio, and the calm company mentor network.

Lessons Learned

The first half of this post was honestly tough for me to write and early drafts of this post skipped right to things that didn’t go right and the hard lessons learned. My brain is just wired to focus only on the ways we can be constantly improving. But, I forced myself to brag a little and recap the things that went right. But now we get to move to the part that flows naturally for me. Here are the things that went wrong, or at least didn’t go as expected, and the lessons we’ve learned along the way. I’lll hint at some of the adaptations we’ve made, but I’m also planning a follow-up essay with a more detailed look at the future and next five years of Calm Company Fund.

Updates to the initial thesis

• Our initial check size was not enough capital to be first check, last check. We anchored our investment size to around $150k, mainly because it was similar to how much accelerators invest and seemed like a reasonable comparison. The issue is that VC-style accelerators are only planning to fund the company for 3-6 months, at which point the company is supposed to raise a proper seed round. In some cases it was the right amount, but more often than not we found that amount of capital was not enough for the founders to make a bet (usually by hiring more team than they could otherwise afford) and have long enough runway to get back to break-even. As a result, our typical check size out of our latest fund is now around $300k and we are comfortable investing up to $500k.
• There were more later stage opportunities than I initially expected. Initially we thought that we would be laser-focused on the very earliest post-launch days of a new business, but we’ve found there is significant gap in funding for calm companies all the way up to about $1m in ARR. In the early days we passed on a few investments that were “too far along” which was a mistake. In Fund 2 we decided to test the waters by making a small fund investment + a larger SPV investment in PushPress, a company that was more mature than our initial thesis targeted. That investment has worked out very well so far and over time we’ve grown comfortable investing across a very wide range of $1-2k MRR up to a bit over $1m ARR.
• We now opportunistically consider follow-on investments in portfolio companies. Because we initially expected that many of our portfolio companies would not raise any further capital, we did not reserve any capital in our funds for follow-on investments. In order to avoid any “signaling risk” we stated flatly that as a rule, we did not do follow-on investments out of our funds. As a function of getting comfortable with larger check sizes, more concentrated bets, and investing in more mature companies, we now will evaluate investing a second time into existing portfolio companies. Typically this happens when a company decides to raise a bit more capital and is still within the our strike zone of traction and valuation. We still are not reserving any capital in our funds specifically for follow-ons. We evaluate follow-on opportunities independently as if they were an entirely separate investment and won’t follow on just to “defend our ownership.” We made two such follow-on investments in our Fund 3 and will continue to do so.
• The Shared Earnings Agreement is too complex for many cases.  I am obsessed with aligning incentives, and I believe the Shared Earnings Agreement (SEAL) financing structure we co-created with our community does that really well. However it also introduces quite a bit of complexity. The ability to “buy back” equity also makes the investors’ ownership stake a dynamic variable which introduces challenges for founders to fully understand dilution, for us to value our stake in portfolio companies, and for co-investors to just generally get up to speed. As such we have moved most of our recent investments to a SAFE + Shared Earnings Side Letter structure. I’ll elaborate more on this in a dedicated post but the structure uses a simple post-money SAFE for convertible equity, and then adds a Shared Earnings component if the business becomes substantially profitable. Just like every other aspect of a SAFE, the Shared Earnings component goes away/converts if the company raises a subsequent priced round of equity. That said, we are still open to using a SEAL for opportunities where it is a great fit, we just have more tools in the toolbox these days.

What hasn’t gone according to plan

• More companies have gotten stuck in the $20-50k MRR range than I expected. Our original model for the fund anticipated that most SaaS businesses that got a product into this range would eventually, given time and resources, find a way to reduce churn, expand average revenue per customer, find 1-2 reliable growth channels, and breach $1m ARR. Of course nothing is ever easy in building a business, but more companies than expected have struggled to reach escape velocity out of this phase of the business. Helping founders identify and capitalize on growth channels is a primary area of focus for us in bringing in more resources and mentorship for our community.
• Expanding beyond SaaS has been tougher than expected. The Calm Fund thesis identified a number of macro trends affecting all manner of internet and tech-enabled businesses. We focused primarily on SaaS businesses because its one that I personally understand well, but my expectation was that we would see many non-SaaS businesses that fit the thesis and we would rapidly be expanding into areas like prosumer software, recurring revenue membership businesses, creators, and more. We have done a small number of investments across these categories which have gone quite well, but overall there hasn’t been a substantial volume that I wanted to pursue. I suspect this comes down to the audience, network, and expertise of the GP (me) and the better way to expand into these areas is to bring on dedicated GPs focused on these expansion areas. We will still continue investing opportunistically in non-SaaS businesses, but I’m comfortable staying primarily focused there for now.
• We didn’t have a good plan for founders launching multiple businesses. It should not have been surprising that launching what we initially called funding for bootstrappers attracted founders who were prolific builders and used to launching and running multiple businesses concurrently. Our approach to this was somewhat sloppy and the outcomes—from pivots to side hustles to entirely new products launched by the same founders/team—were over the place. In general we’ve worked well with founders to figure things out in ways that are win-win, but on the agenda for this year is to really clean up expectations about how multiple businesses works post-investment.

The challenges of building a (sub-scale) fund business

In total, Calm Fund has just around $20m in assets under management. Almost all of this capital has already been invested in portfolio companies via prior funds. This is still an incredible number to me, but its also tiny in the fund management business. Most funds this size would typically just have just one General Partner, a fully outsourced back office, and maybe one other employee. Many funds this size are actually a side project for someone with a full-time job elsewhere. I wildly underestimated the myriad challenges of building a real business on assets of this size.

Building an ambitious business on management fees sucks. When management fees are the main revenue line item, your budget is effectively fixed until you raise the next fund. I underestimated how difficult this is compared to running a business with growing month over month revenue. It makes it almost impossible to hire opportunistically and take bets that could change the course of the business because every budget dollar is coming from a finite pool.

We were not successful in raising capital from institutional investors on the timeline expected. I was well aware that the fund sizes were too small. The goal was to get in the market making investments quickly, prove the model worked, and then raise a larger fund that would support the team we needed to execute on the overall vision of supporting the community of calm companies. My naive assumption was that institutional investors, who manage billions in capital, were in the business of finding new and novel strategies for generating above-average uncorrelated returns. We proved we could execute on the strategy, built the team and systems in place to deploy a larger fund, and then spent the better part of two years failing to find an institutional investor to anchor a larger fund. Unfortunately we had to let a bunch of talented folks on the team go to right-size the fund to be break-even on our current fund size.

GP (my) time became a big bottleneck on the business. Our open application means I have no control over how full that queue of work gets. If a tweet goes viral and we get 5-10x the number of usual applications, I don’t somehow get 5-10x more hours to spend reviewing those opportunities. My only real options are to spend less time per application or for my response time to get longer. Additionally, the rest of the work of a GP compounds over time. As our portfolio grows the number of founders who might want feedback or help with something expands. Each new investors in our funds is another person who might email with questions. And of course our referral dealflow continues to compound over time as well.

All of these are good things for the fund, but they all funnel back to me and my personal time and bandwidth become the bottleneck. We’ve been investing a lot in process and tools to speed things up, but it’s an ongoing battle.

Scaling up our investing platform was premature. Calm companies are not some niche subset of the startup world, they represent the way that the vast majority of entrepreneurs aspire to build businesses. I believe that the lack of funding and support for modern calm companies is a massive drain on entrepreneurship and innovation. Because of the scale and urgency of the problem (and of course the opportunity it represented) I operated this first phase of Calm Fund through the lens of scaling it up as quickly as I could. I spent a lot of time building the infrastructure we would need to invest in 100s, and one day 1,000s, of of calm companies every year. We launched a scout program, created strategies for expanding the number of GPs, put in place a streamlined structure for evaluating investments way too early.

But, the clear signal from the market is that we should stay more artisanal and small-batch for longer until we irrefutably prove the calm company thesis by returning several funds. In some ways that’s music to my ears. While I love the idea of scaling up Calm Fund to really meet the demand of the entire calm company economy, ultimately I think I’m a better maker than a manager. It’s been great to re-prioritize spending 1:1 time with companies, writing essays myself, and making individual investment decisions without having to think about how to scale everything up.

We were definitely not immune to impacts from the rest of the (totally crazy) market

Valuations and the overall availability of investment capital got completely out of hand. By and large our strategy to simply steer clear of hot markets and avoid joining overpriced rounds served us well. But there were still a number of times where a company would be a great fit for the Calm Fund thesis, I would want to invest, but they would instead get offers from or already have raised from angels or other funds at investment amounts/valuations that in my opinion made no sense. I believe that entry valuations matter and so I would have to say that I liked the business, liked the founders, but couldn’t invest on those terms.

Fois gras’ing a calm company opportunity with too much capital and too high a valuation is almost always lose-lose-lose. Even if the company does well, it’s unlikely to be going after a market that could create the kind of true “venture-scale” outcomes that would be needed to justify the initial valuation. And more likely than not, ramping up burn way ahead of revenue would end up killing what could have otherwise been a good business. This year in particular we are seeing the fallout of those decisions left and right.

And of course, Calm Fund loses because we don’t get to invest in great founders and businesses when this happens. I’ll admit it was pretty frustrating. Knowing that everybody is going to be worse off simply because other investors had read on Twitter that “seed valuations don’t matter.” Although this actual experience didn’t happen to us too many times, I suspect that for every company that we know we missed out on there were 50 similar companies that we never even saw because they easily raised a big seed round for a company that had no business raising VC at all.

Even within our portfolio the market craziness had a bigger effect that I could have anticipated. Despite our best efforts—both in terms of selecting founders and capital-efficient companies and in terms of the guidance I gave to founders—the number one reason a company in our portfolio shut down or stalled has been that they either raised too much money or the founders over-focused on fundraising.

The good news is that we expect this entire dynamic to go in reverse over the next years as calm company building becomes the new default path.

The psychological drain of saying “no” almost all the time

Lastly, I underestimated how much it would weigh on me that I have to say “no” to almost every entrepreneur I meet. I started Calm Fund because I wanted to help and support entrepreneurs on their journey but the nature of our business model and fund size means that I still have to be very selective about which companies we invest in. This means that for >95% of founders that reach out to us, I have to turn down. I knew this was the job when I signed up for it, but I underestimated how much the tension between wanting to support every founder I meet and only being able to invest in a select few would weigh on me over the years. I think it will help both the fund and me personally to spend some time this year working on projects that could potentially help the founders of all calm companies, independent of whether the fund can actually invest.

The biggest lesson I’ve learned

It’s a lot to take in. I didn’t even touch on navigating crypto mania, hosting two world-class founder summits, then getting sued by our partner in those summits, 506c public fundraising, re-branding to Calm Company Fund, scaling up to a team of 10 and having to way back down again, running the second ever crowdfunding campaign for a fund and so many more massive undertakings.

When I zoom out and look at five years, I’m proud of the work and optimistic about the future.

As I mentioned, I’ll be releasing another essay soon about what this all means for the next 5 years of Calm Company Fund, but the biggest lesson I’ve learned from this first chapter is: make sure Calm Company Fund is itself a calm company. More on that in the next essay (subscribe to the newsletter form below if you'd like to read the next one).

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