Podcast Summary: "The Hardest Questions Limited Partners Ask GPs w/Stepstone’s Hunter Somerville"

Episode: E167
Release Date: May 27, 2025
Host: David Weisburd
Guest: Hunter Somerville, Partner at Stepstone Group

Introduction to the Episode

In episode E167 of How I Invest with David Weisburd, host David Weisburd engages in a deep conversation with Hunter Somerville, a partner at Stepstone Group. Stepstone manages a substantial $179 billion as of the end of 2024, focusing on private investments across venture and growth sectors. This episode delves into the complex dynamics between Limited Partners (LPs) and General Partners (GPs), especially concerning emerging managers, performance metrics, and the strategic approaches Stepstone employs to maintain its leading position in the investment landscape.

The Landscape for Emerging Managers

Hunter Somerville begins by addressing the viability of emerging managers in today's fundraising environment. He asserts, “Not at all. I think it will be a harder fundraising market for emerging managers...” ([00:42]). Hunter emphasizes that while emerging managers face a tougher market, their success largely depends on their background and track record. Those departing established brands with clear, attributable histories find fundraising more straightforward, as LPs seek diversification with fund sizes ranging from $50 million to $300 million.

However, emergent managers lacking extensive operational or investment track records struggle significantly. Hunter notes, “...when you see someone leave an established brand and start a new organization that has done all of that, you know, sophisticated LPs that are active in venture move pretty quickly...” ([00:42]).

Evaluating Venture Capital Managers: Beyond DPI and TVPI

The conversation shifts to the prevalent debate surrounding the assessment of VC managers. David highlights two conflicting market sentiments: emerging managers are seen as higher risk but higher reward, whereas traditional funds are viewed as safer, offering better post-risk-adjusted returns. David asks, “Where do you fall on the spectrum?” ([03:09]).

Hunter Somerville responds by rejecting the notion of indexing venture as an asset class. Instead, Stepstone employs a meticulous approach, evaluating spin-outs with a prepared mind based on comprehensive data tracking and performance analysis. Hunter emphasizes that not all spin-outs are equal, stating, “...we try to be efficient with that filtering and spend time where it's warranted.” ([04:01]).

Attribution and Performance Tracking

A significant portion of the discussion centers on how Stepstone tracks performance at the individual partner level across 300 venture and growth managers. Hunter elaborates on the sophisticated systems Stepstone uses to monitor metrics beyond traditional DPI (Distributions to Paid-In) and TVPI (Total Value to Paid-In). He explains, “...we compile all of that and go through it as a venture team on a quarterly basis...” ([04:18]).

Hunter criticizes the reliance on DPI and TVPI alone, highlighting their limitations in providing timely and accurate assessments. “...any LP who's waiting around for DPI metrics is never going to select correctly,” he remarks ([07:44]). Instead, Stepstone focuses on asset-level performance, operational traction, and the quality of manager-founder relationships to gauge a manager’s effectiveness and potential for building an enduring venture capital franchise.

The Impact of Valuation Policies and Game Theory

The dialogue delves into how current valuation policies impact the perception and reporting of fund performance. Hunter observes, “...valuation policies have changed significantly and they're still not consistent across manager cohorts” ([09:41]). He explains that discrepancies in how different managers value their assets necessitate Stepstone to independently assess and align TVPI metrics to ensure accurate performance comparisons.

David adds that valuation mechanisms often lead to overpricing by emerging managers seeking to maximize capital and underpricing by top firms aiming to build long-term relationships. Hunter concurs, noting, “We consistently find that to be the case...” ([11:01]). This discrepancy influences second-order effects and alters the game theory around fund valuation, pushing firms towards either conservative or aggressive valuation strategies based on their standing and objectives.

Building and Assessing GP's "Right to Win"

Understanding a GP’s "right to win" is crucial for LPs. Hunter outlines that this involves a GP’s ability to build strong relationships, demonstrate consistent performance, and effectively communicate their value proposition. He states, “...branding has to be more than just attending a board meeting two or three times a year...” ([12:34]).

Moreover, Hunter stresses the importance of deep, human-to-human relationships between GPs and founders, beyond mere formal interactions. “If you speak to enough of the value drivers within the track record and understand those dynamics, you can start piercing through whether or not it was the brand or the individual that really won out,” he explains ([25:44]).

Stepstone's Venture Practice and Strategy

Hunter provides insights into Stepstone’s current venture practice, highlighting their strategic focus on secondary markets and micro growth equity. He explains, “...we continue to be extremely active in secondary, particularly on the company side...” ([32:39]). This involves participating in strip sales and providing liquidity for long-held positions, adapting to market conditions where traditional exits via IPOs or M&As are less prevalent.

Additionally, Stepstone is exploring micro growth equity, targeting bootstrapped businesses that require financial buyers rather than strategic ones. Hunter notes, “...they are going to be massively susceptible, more on the horizontal side, but even on the vertical side...” ([38:11]).

The Role of AI in Due Diligence and Operations

Artificial Intelligence (AI) plays a pivotal role in Stepstone’s operational efficiency. Hunter details how AI assists in automating diligence processes and data assessment, allowing their team to focus on identifying high-potential opportunities. “...we’ve been able to insert technology, make it all automated, free up the time of our mid and junior level team...” ([38:34]).

Furthermore, AI tools are utilized for real-time tracking of portfolio performance and projection modeling, enhancing Stepstone’s ability to make informed investment decisions swiftly. Hunter remains cautiously optimistic about AI’s potential, acknowledging current limitations but anticipating significant advancements.

Relationship Building with Funds and Partners

Cultivating strong relationships with fund managers is essential for Stepstone. Hunter emphasizes the importance of early and continuous engagement, regardless of a fund's stage. “No one's too early for us to talk to...we begin to build a relationship and see what they're up to...” ([42:36]). This proactive approach allows Stepstone to develop pattern recognition and trust with emerging managers, positioning themselves as preferred LPs when funds seek capital.

Hunter also highlights the importance of internal communication within Stepstone to ensure all team members are informed and can collaborate effectively in managing these relationships.

Productivity and Time Management Insights

Hunter shares his personal strategies for managing an intensive workload, underscoring the importance of meticulous calendar management. “I review it like three weeks in advance. I have reminders of people I need to do outreach on every day...” ([44:28]). This disciplined approach ensures that he stays on top of engagements with founders, GPs, and other stakeholders.

He also acknowledges the challenge of balancing task completion with strategic thinking, striving to mentor mid-level team members while managing daily responsibilities. Hunter appreciates the value of structured time allocation, similar to the practices of his host, David.

Career Reflections and Organizational Culture at Stepstone

Reflecting on his career, Hunter emphasizes the significance of building implicit trust and maintaining strong human relationships. “...we think very much around ourselves as a system, though it's not really about me as an individual...” ([55:59]). Stepstone fosters a culture of meritocracy, where promotions are based on contributions rather than tenure. This approach ensures that team members are motivated to excel and contribute meaningfully to the firm’s ecosystem.

Hunter also discusses the importance of internalizing success and fostering an interconnected, enduring system that prioritizes the collective over individual branding. This culture of collaboration and mutual support is central to Stepstone’s ongoing success and resilience in the competitive investment landscape.

Conclusion

The episode provides a comprehensive look into the strategic approaches Stepstone employs to navigate the complexities of venture capital investment. From evaluating emerging managers and tracking performance beyond traditional metrics to leveraging AI for operational efficiency and fostering a strong organizational culture, Hunter Somerville offers invaluable insights for LPs and GPs alike. The discussion underscores the importance of trust, meticulous evaluation, and strategic relationship-building in building a successful and enduring venture capital franchise.

Notable Quotes:

• Hunter Somerville ([00:42]): “Not at all. I think it will be a harder fundraising market for emerging managers...”

• David Clark ([03:09]): “Where do you fall on the spectrum?”

• Hunter Somerville ([07:44]): “Any LP who's waiting around for DPI metrics is never going to select correctly.”

• Hunter Somerville ([11:01]): “We consistently find that to be the case...”

• Hunter Somerville ([25:44]): “If you speak to enough of the value drivers within the track record and understand those dynamics, you can start piercing through whether or not it was the brand or the individual that really won out.”

• Hunter Somerville ([38:34]): “We do things internally called scoops where anytime a round happens or an exit happens, we want to know the impact across our entire portfolio...”

• Hunter Somerville ([55:59]): “We think very much around ourselves as a system, though it's not really about me as an individual...”

This summary encapsulates the key discussions, insights, and conclusions from the podcast, providing a comprehensive overview for those who haven't listened to the episode.