Spectrum's Winning Formula | John Connolly (Spectrum Equity)
Exploring 15 Years of Growth Investing Wisdom and What Sets Spectrum Equity Apart
In this Steelhead Investor Series post I write about a conversation with John Connolly, Partner at Spectrum Equity. Spectrum is a leading Growth Equity firm investing $30M+ checks in growth stage software and internet businesses. I had the pleasure of briefly working with John at Spectrum in 2015, and we’ve stayed in touch since.
In our chat we covered John’s path to Spectrum, why he’s stayed at Spectrum for 15 years(!), how Spectrum wins deals, John’s insights from over 15 years of investing, and a lot more.
From the Green Grass of Oregon to Silicon Valley (with a Stop on Wall Street)
Born to two native Oregonians, John didn’t grow up coding or building DCF models in his spare time. Instead, John’s path to Partner at Spectrum came through sports.
John excelled at sports growing up, and he was eventually recruited to Georgetown to run track. Having graduated from Georgetown in ‘06, John admittedly followed the herd to Wall Street where he took a job at Credit Suisse First Boston as an equity trader. Not long after joining, John saw that traders’ jobs were getting compressed by technology and algorithms. After seeing this and his own boss’s self-aware and prescient advice to “get the F out”, John switched to investment banking (a week later over a lunch with a fellow Georgetown alum) where he learned the ins and outs of business.
John admits that all of the things that are said about banking are true - it stinks, you work your tail off, and don’t have much of a life outside of work - but he credits it as one of the most important times of his life. John never got an MBA - banking was his MBA.
John survived 2008 and came out alive on the other side, eventually moving on to the “buy side” after receiving an offer from Spectrum Equity in 2009. Yeah, you heard that right, 2009. John is one of the rare ones in today’s job market who has stayed with his employer for 15 years.
When I asked John why he’s stayed at Spectrum for so long, he said, “It’s a cliche answer but it’s true - it’s all about the people. Having partners that you trust and admire who can make you better is so rare and important. I also fundamentally believe in our strategy. Where we sit in terms of risk/reward on the continuum of investing is a perfect fit for me.”
💡 It’s all about the people. Having partners that you trust and admire who can make you better is so rare and important.
I have a feeling John will be at Spectrum for another 15.
Spectrum Equity: A Firm That Stands Apart
Next, I asked John what makes Spectrum unique and why we don’t hear much about Spectrum in the news.
What Makes Spectrum Unique?
On what makes Spectrum unique, John mentioned that Spectrum has remained true to their strategy over the lifetime of the firm, both in terms of fund size and strategy.
On fund size, many firms who were once competitors eventually moved “up-market” by raising larger funds. Larger funds means there is more fee income, but John made it clear that that is not Spectrum’s strategy. While there is nothing wrong with maximizing AUM, Spectrum wants to remain 100% aligned with the entrepreneurs they back and make money through returns, not fee income.
With respect to strategy, Spectrum has stayed in their swim-lane of expertise. They look for growth stage software and internet companies with at least $10M in recurring revenue and an opportunity to scale further.
As Spectrum’s portfolio is not huge (~30 cos), this means that they can generate conviction in their investments, put large check sizes behind them, and spend time with their portfolio companies to help them scale post-investment.
Why Don’t We Hear Much About Spectrum?
If you’re even remotely part of tech Twitter / X, you’ve heard of Naval Ravikant. One of my favorite “Naval-isms” is that “you want to be rich and anonymous”. Spectrum exists much more in this camp than the alternative, “Rich and famous”, one.
While I can’t speak to specific returns, I can say that Spectrum is a top performing fund. The team has consistently (over 30 years) delivered strong returns for their LPs, enriching both LPs and investors at the firm. Without a doubt you’ve used or know products that Spectrum invested in - Ancestry.com, SurveyMonkey, GrubHub, GoodRX, AllTrails, Headspace, and many more.
So why don’t we hear much about Spectrum?
John admits that Spectrum is “terrible at talking about themselves”. While that’s partly tongue-in-cheek, partly true, the real truth is that Spectrum doesn’t want to be the star of the show. According to John, “Our job is to amplify the founders and entrepreneurs. They’re taking the risk, they should be front and center in their story.”
💡 Our job is to amplify the founders and entrepreneurs. They’re taking the risk, they should be front and center in their story.
Additionally, due to Spectrum’s preference for depth over breadth, they simply don’t have the deal velocity to stay in the news cycle.
The Investment Process
A lot of what I write about is much earlier stage - Seed & Series A. Given that John and Spectrum are investing in later stage companies with larger check sizes, I wanted to dig into the investment process used at Spectrum to better understand the level of rigor required at this scale.
Spectrum’s Patient & Thorough Investment Process
Long-term Engagement: On average, it takes 3.5 to 4 years from the first conversation to investment. These processes are long and methodical. Unlike a traditional VC financing round, where a company almost always needs capital to continue operating, most Spectrum target companies are profitable. Therefore, it often takes years of relationship building to show a founder how Spectrum can be additive as a partner before they consider taking Spectrum’s money.
Initial Evaluation: Once a founder begins to show interest in a possible investment, they typically share information that lets Spectrum assess the fundamentals of the business - revenue, growth, retention, etc. Discussions then start within the tight-knit local partner group to evaluate the business’s fundamentals and fit.
Target Range Identified: After an initial evaluation, the deal partner can go back to the founder to give them a sense of the valuation and investment they should expect, assuming diligence goes according to plan.
Diligence: Once mutual interest is established, a comprehensive due diligence process begins, covering legal, financial, and operational aspects.
Full Partnership Meeting: A detailed presentation, often 50-60 slides, is prepared for a full partnership meeting, highlighting every potential risk and opportunity. The deal team typically goes to the partnership meeting multiple times, refining the diligence and deck based on the partnership’s feedback.
Investment Decision: Decisions are made collectively, ensuring that every partner is aligned and supportive of the investment. John clarified that it doesn’t necessarily mean that every question is answered - but rather that the partnership is aware of the risks and comfortable with the risk / reward tradeoff.
Case Study - Kajabi
After running me through the high level process above, John shed some light on a particular process for one of his investments, Kajabi. Kajabi is a platform that helps creators monetize their content
It highlighted the patient, partnership-led approach that John takes and is often required to be successful in this role.
Relationship Building: The relationship with Kajabi began casually, with meetings over "tacos and margaritas" over several years. John said that he and the Kajabi team probably met 10-15 times for tacos and margaritas before Kajabi warmed to Spectrum investing.
Showing Genuine Interest: After many casual interactions over food and drinks, one year John personally attended Kajabi’s user conference to speak to customers, creators, and partners. Through this, the founders saw that John truly cared about the community and the product that the team was building. This acknowledgment made the founders comfortable with bringing a partner like John and Spectrum along for the ride.
I found the above anecdote to be fascinating. It shows first-hand how John and Spectrum are playing the long game and really do care about the founders and companies they’re investing in. Said differently, these Spectrum values are not just corporate speak, they’re lived every day.
Insights from 15 Years of Investing
After 15+ years of honing a craft, there is so much latent knowledge that one acquires that it can be hard to communicate it all in a clear & concise way to someone else. Nonetheless, I asked John to condense 15 years of investing insights into a few bullets in a few minutes, and he delivered.
Je ne sais quoi: John led with the notion that each successful investment has a certain “Je ne sais quoi” (I don’t know, in French. You may recall from my conversation with Rex Woodbury that he shared something similar, which he called the “X factor”.) For John, this is some secret sauce that makes the company unique and hard to replicate. John cited two examples from Spectrum’s portfolio - (1) Ancestry’s access to church and community records created a defensible data asset that wasn’t easily replicable and (2) Teachers Pay Teachers thrived despite Amazon’s challenge thanks to the strong community formed around their brand.
Spotting Trends: According to John, Spectrum is “at its best” when they’re spotting trends early, before they become mainstream. Again, he gave two examples from Spectrum’s portfolio - (1) their investment in SurveyMonkey at a time when freemium models were nascent and (2) their investment in Kajabi before the “creator economy” became as buzzy as it is today.
Flexible Founder Criteria: Lastly, while traditional PE firms might seek out seasoned executives, Spectrum thrives on partnering with less conventional yet highly capable founders. This flexibility allows them to support innovative leaders who might be overlooked by others. There is lots of opportunity where others aren’t looking due to their own biases.
What Do the Next 15 Years Look Like?
John and Spectrum have had a very good run, but as I firmly believe that “the only constant is change”, I was curious what the next 15 years will look like for Spectrum and the Growth Equity industry.
John believes that the most significant change needed is the "productization" of investor support. Spectrum is leading this charge by systematizing the resources it offers, thereby creating a platform to assist their portfolio companies’ growth. The firm's recent hires, a CMO and CTO, underscore its commitment to providing hard-won and high-quality operational support for their portfolio.
As our conversation came to a close, I asked John the same question I ask everyone, which is what his personal Steelhead goal in life is - something that is very challenging but will be well worth the effort.
John’s response: being a great husband and father. "Nothing is more important than family," he said, adding that “I was super lucky to have a great mom and dad who showed me the way, and I hope to do the same with my two children”.
John’s candor, insights, and anecdotes made this one of my favorite conversations yet. Thank you, John!
-Erik