Flavored Water Tastes Fine To New Highland Consumer Fund

In the early 1980s, Steve Jobs famously recruited Apple CEO John Sculley, then the president of Pepsi, with the question: “Do you want to sell sugar water for the rest of your life?” I can’t help thinking that if Jobs visited Highland Capital Partners and asked general partner Ted Philip the same question (replacing “sugar” with “flavored”), Philip might just say, “Sure. Why not?”

Okay, that may be a leap—but probably not a huge one. Philip, after all, is a managing general partner of Highland’s new $300 million consumer fund. The fund just made its seventh investment—in Tom First’s (he’s one of the two Toms behind Nantucket Nectars) Cambridge-based company O Beverages. It makes, you guessed it, flavored water.

When I last spoke to Philip, it was for Xconomy’s VC Varsity story. The black-belt wearing, triathlon-running, motorcycle-, snowmobile-, car-, and ATV-racing Highland partner made the second team of the Boston area venture athlete elite. But his current fund is in a somewhat different league from most other local VC enterprises, thanks to a combination of its consumer focus—Boston and Highland are known for their high-tech focus, after all—and the extensive operating experience of the partners involved. Says Philip, himself a founding member and former COO, CFO, and president of Lycos, “There’s nobody else out there doing what were doing at the stage we’re interested in.”

Philip says Highland began testing the waters in the consumer market more than a year ago. “We found that not only was there an opportunity, but there was a big opportunity,” he says. (Philip, by the way, has a long history with the Highland team. Dan Nova, one of Highland’s managing general partners, co-founded Lycos when he was at [email protected] When he came to Highland, the Lexington-based firm took a piece of Lycos. Another Highland managing general partner, Bob Davis, was also a founding member of Lycos.) But instead of making consumer investments inside an existing fund, such as the $808 million Highland Capital Partners VII formed last year, Highland decided to raise a new fund especially dedicated to consumer products and services and retail operations. The first close came last February; the final closing took place in June.

Joining Philip are co-managing general partner Tom Stemberg, a founder of Staples, and two general partners: Tom Guilfoile (a longtime Philip colleague at Lycos and other ventures) and John Burns, a veteran of both Highland and Summit Partners. The group has been moving at full speed since before even the first close in February. “Our team at this point has made seven investments,” says Philip. “There’s a tremendous amount of opportunity, but one of the great things about this is we got a running start.” He’s talking about an early investment in Vancouver-based Lululemon Athletica, a maker of Yoga-inspired athletic wear that successfully went public this summer (NASDAQ: LULU). (Lululemon has been cloaked in controversy the past month, since the New York Times tested material from a line of its clothes purportedly made with seaweed and found none.)

The new Highland fund generally invests in companies seeking their first round of venture financing—meaning they are well beyond the conceptual stage and farther along than true startups. Philip says the team likes to see retailers with between 3 and 12 stores, enough to measure the unit economics of the business. If it’s a consumer play, Highland likes firms with enough sell-through in a channel (such as online) or region that the partners can extrapolate to the rest of the country. For instance, O Beverages sold its water successfully in New England and California, making Philip et al comfortable investing. If the water was only selling well in O’s hometown of Cambridge, that wouldn’t cut it.

As I mentioned, one unique aspect of Highland’s new fund is that its partners—three out of four of them—bring a lot of operating experience to their jobs, as opposed to what Philip calls the more traditional finance background of many venture partners. “We can help the enterprises build their businesses and get through the wall of tricky growth issues that they’ll face, because we’ve been there and we can help solve them,” he says.

Another thing about the fund that I find interesting is what it says about the overlap between consumer markets and Highland’s traditional focus in tech, life sciences, and high-tech healthcare. “If you look at a lot of the hot areas right now, they are a convergence of both healthcare and consumer and retail,” says Philip. Take another of the fund’s portfolio companies, Boulder, CO-based Pharmaca Integrative Pharmacy, which in addition to the usual prescription services offers “natural” treatments, along with toiletries and gifts. As Philip puts it, “they’re doing to the conventional pharmacy industry what Whole Foods did to the traditional supermarket industry.”

In fact, that investment overlapped Highland’s more traditional interest in healthcare to such a degree that the consumer fund and Highland Capital Partners VII are both investors equally. “It was a nice way to combine the strengths of Highland Capital with the Highland consumer fund, so we did that together,” says Philip. And that won’t be the only side-by-side deal the two funds make. E-commerce, for instance, is another area that can involve both technology and consumer and retail markets. “If it overlaps our worlds, then we’ll look at doing it together,” Philip says.

Here’s an alphabetical listing of the consumer fund investments to date:

Blue Tulip (Bordentown, NJ) — Specialty gift stores

Guitar Center (Westlake Village, CA) — Retailer of instruments and audio and recording equipment

Lululemon Athletica (Vancouver, BC) — Retailer of Yoga-inspired athletic apparel

O Beverages (Cambridge, MA) — Maker of flavored and nutrient-infused water

Pacific Pathway (Solana Beach, CA) — Maker of emergency and disaster preparedness products

Pharmaca Integrative Pharmacy (Boulder, CO) — Chain of pharmacies offering traditional and alternative products

SuitePlay! (Algonquin, IL) — Game room furniture and equipment retailer

Bob is Xconomy's founder and chairman. You can email him at [email protected] Follow @bbuderi

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