Canvas Ventures has closed its second fund with $300 million — or 70 percent more than its first

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Canvas Ventures, a Portola Valley, Ca.-based early-stage venture firm, is this morning announcing that it has closed a second fund with $300 million. That’s a meaningful step up from the $175 million debut effort of the firm, which was cofounded in 2013 by former Morgenthaler Ventures partners Gary Little, Rebecca Lynn and Gary Morgenthaler.

One likely reason is Ben Nasarin, a longtime investor who joined the firm as a general partner in September 2015 from TriplePoint Capital.  Another is Paul Hsiao, who came aboard as a GP in 2014 after spending a decade with NEA.  (Meanwhile, Morgenthaler has shifted into a senior advisory role in order to do more seed investing, says the firm, adding that Morgenthaler is an investor in the new fund.)

The partners, both as part of Canvas and in their previous roles, also had some hits to show off to potential investors (called limited partners), including the sale of FutureAdvisor to Blackrock in 2015 for between $150 million and $200 million, reportedly; the sale of Dropcam to Nest Labs in 2014 for $555 million; and the late 2014 IPO of LendingClub, whose fortunes have been hard hit year in 2016 but whose shares held strong for more than a year after its public debut.

We caught up with the team last week to ask a few questions, including about the fund — which will invest between $5 million and $20 million in primarily Silicon Valley companies that they find at the Series A or B stage of life — and what they’re seeing more broadly out there right now.

TC: How would you assess the health of the market right now, compared with a year ago? Relatedly, are early-stage valuations up, down, flat?

BN: Since late last year, there’s been a consistent flight to quality. Fewer deals are being done. Those that are being done are often attracting more investment capital as they’re the pinnacle of the pack, certainly in later-stage deals. Early- stage investments are the same. We’re now seeing more sensible valuations, with Series As being priced more in line with what valuations looked like in 2010 than in 2015. And deals are taking longer as partners are going through the appropriately thoughtful process of deciding which companies to invest in.

TC: Have the people you syndicate deals with been changing at all? Are there more or fewer new faces at the table right now?

RL: In the stages we invest, Series A and B, there typically isn’t a lot of syndicating of those particular rounds. However, there are more new faces overall in venture, and more people expanding into areas such as fintech and digital health who haven’t traditionally been in these verticals We’re also seeing a lot of growth in corporate venture capital, both from established venture groups, as well as expanded efforts from powerhouses like Microsoft, GE, and Google.

There are also a number of banks setting up incubators in the valley, which adds to the number of players around the table.

TC: Some industry observers expect the fourth quarter to be much busier on the tech IPO front. Do you agree, and if so, what was the holdup this spring and summer?

PH: The rest of the year will likely be reasonably quiet for IPOs given the election and holiday schedule. But there’s a burst of tech IPOs right now with Trade Desk and Apptio priced last week, and both Nutanix and Coupa on the road. So it looks like the traditional post-Labor Day busy period is bringing some signs of life to the IPO market. Bankers don’t believe it will be super busy again until 2017.

M&A is a different story. It has been very active across all sectors — software, auto, consumer products, digital health. There has been a ton of board discussions about strategic acquisition ideas happening right now, and even the private-equity and financial-sponsor buyers are getting involved, with shops like Vista and Thoma Bravo very aggressively writing large equity checks to buy names like Marketo and others. Incumbents have more cash than ever. We expect the consolidation to continue and will hear more rumors similar to Twitter, FireEye and Honest.

TC: What’s your biggest challenge right now as an investor, given the current market?

RL: The biggest challenge right now is filtering. It is much easier to start a company today; seed capital has been abundant, so the pipeline for Series As and Bs has been strong. Figuring out who is hot or not – who can be a billion-dollar company in a field of many – is a challenge. Our thesis-driven approach helps. We filter and focus on particular verticals or investment themes and we do deep dives in those areas.

TC: What was some of the feedback Canvas was hearing from LPs about the market?

GL: We consistently heard about their bias towards small-fund sizes, where they believe incentives are better aligned between [themselves] and [general partners at VC firms]. LPs like small funds because GP economics are driven by the carried interest earned on capital appreciation rather than on management fees. They don’t feel that’s always the case with larger funds, which can be well compensated on fees alone. Many LPs also believe that GPs of smaller funds are more selective in their initial and follow-on investments compared with GPs in larger funds, which have a capital deployment problem and must write larger checks to put their capital to work.

Here’s something else we learned: Almost every LP we met with asked whether they should trust the high valuations that many GPs are carrying their late-stage investments. The LPs don’t question the quality, growth or disruptive nature of private companies with billion-dollar valuations, but they’d like to see more proof points of companies exiting at these valuations via M&A or IPO.

TC: A year ago, the focus was on growth. By winter, it was on profitability. What are you hearing from bankers these days about what the market wants to see? Which of the two is more important?

PH: Bankers say investors still love growth and are willing to forgo profitability for a couple of years assuming they believe there’s a realistic and committed path to profitability. Nutanix will be the poster child to test this since they’re growing incredibly fast but still losing money. I suspect when it prices at the end of this coming week, it will see a lot of interest.