Big pension funds trying to invest in venture capital have been surprised to find that the doors to top-tier firms are often closed to them.
Venture cap investing is red hot, thanks to high-flying Internet and technology stocks that were originally backed by venture capital.
While many endowment funds have invested in it since its earliest days in the 1970s, venture cap as an asset class is just being discovered by a number of pension funds.
But the trick was to get in early, say consultants and investment managers.
For investors that are trying to move into the asset class, access is a growing problem, particularly as more cash chases fewer deals, said Kelly DePonte, managing director, Pacific Corporate Group, La Jolla, Calif. His firm and other consultants have been developing strategies to help clients invest successfully in the asset class.
Ask most people in the industry what the top firms are and the list invariably starts with Kleiner Perkins Caufield & Byers, Menlo Park, Calif., which is the Tiffany of the business. Since it was founded in 1972, it has turned $1 billion in investments into $200 billion. The firm, now raising its ninth fund, has backed an impressive lineup of major technology companies including Sun Microsystems Inc., Symantec Corp., Amazon.com Inc., Netscape Communications Corp. and Compaq Computer Corp.
Kleiner Perkins' track record is so dazzling, in fact, that it doesn't need to write the usual offering memorandums that venture cap funds typically do to raise money, since its previous investors are always eager to invest in the next fund, said Clinton Harris, managing director at Grove Street Advisors, which was hired in October by the California Public Employees' Retirement System, Sacramento, to implement a venture capital investment program for the system. And hopefuls are lined up, armed with cash, in case an opening develops.
Other top-tier venture cap funds unlikely to take new investors include Institutional Venture Partners, Menlo Park; Sequoia Capital, Menlo Park; Greylock Management Corp., Boston; Interwest Partners, Menlo Park; New Enterprise Partners, Baltimore; and Trinity Ventures Ltd., San Mateo, Calif.
Pacific Corporate Group has been developing new approaches to gain access, Mr. DePonte said. One has been to try to figure out which firm will be the next Kleiner Perkins.
"We look at people who once worked for those top firms, who have left to start their own businesses and are therefore more open to new investors," he said.
Bedrock possibility
One opportunity he has nailed down is Bedrock Capital Partners, Boston, an early stage venture capital firm run by David Duval, former chief financial investment officer at the well-regarded Highland Capital Partners, Boston; and James McLean, previously a general partner at Highland, and before that at Accel Partners, San Francisco.
"It's almost as hard to invest with Accel as it is with Kleiner," Mr. DePonte said.
Bedrock also has a strategic partnership with investment bankers Volpe Brown Whelan & Co., San Francisco, which specializes in financing high-tech projects, Mr. DePonte said.
Mr. Duval, a managing director at Bedrock, said his firm was able to raise $130 million fairly quickly last year to invest in venture seed and early stage companies, with most of the money coming from endowments and financial institutions.
Another strategy used by Mr. DePonte has been to try to meet officials at some of the venture capital firms before they begin their fund-raising, as a way of improving access.
And to help pension fund clients that insist on investing with top-tier firms, Mr. DePonte will arrange meetings with the venture partners to see if there is a way to bring his clients into their funds.
One problem for large pension funds is that they need to invest $25 million to $50 million in venture cap, but a venture firm's available slot may be only $5 million or $10 million, he said.
In those cases funds of funds make more sense, Mr. DePonte said.
CalPERS try
CalPERS started to put together its own fund of funds last year, hiring Grove Street Advisors to implement a program that will invest up to $350 million in a variety of venture cap investments. "CalPERS couldn't invest that much money directly. But through Grove they can get a lot of money invested quickly," said Mr. DePonte, who noted that other big pension funds are considering a similar approach.
Tom Lynch, director of private markets, Wilshire Associates Inc., Santa Monica, Calif., said that there is a difference in quality among venture funds and argues that it doesn't pay to go into second- or third-tier funds. He outlined two ways of investing in the asset class: "If a pension fund does it on its own, it has to plan to devote a lot of resources to it, which can be very costly. The other solution is to work with a fund of funds or invest in a commingled fund of funds."
Venture cap investing may not even make much sense for large public pension funds, Mr. Lynch added.
"Since they (venture cap funds) limit the amount of capital they can take, the pension fund will never get a meaningful allocation. And if it does get a small allocation to a firm like Kleiner Perkins, the investment is too small to do much for the retirees," Mr. Lynch said.
Funds of funds try
Many pension funds have hired funds of funds managers to get access. Illinois Municipal Retirement Fund, Oakbrook, Ill., has been investing through Abbott Capital Management, Boston, since the mid-'80s, said Walter Koziol, director of investments at the $11.6 billion fund.
"We know it's important to find expertise, and our board doesn't have the time or knowledge to interview the individual firms that would be required to meet to run a good program," he said.
So the pension fund hired Abbott, which has been a successful strategy.
"They have built us a well-seasoned, diverse portfolio, which returned 40.7% a year for the last three years on an annualized basis," he said.
New York State Common Retirement Fund, Albany; Public Employees Retirement Association of Colorado, Denver; The State Teachers Retirement System of Ohio, Columbus; and the State of Wisconsin Investment Board, Madison, are some of the large state pension funds that have hired fund of funds manager HarbourVest Partners LLC, Boston, to facilitate their forays into venture capital investing.
"We have been investing in the top venture and buyout funds for 17 years, which has allowed us to get into a lot of the top U.S. venture firms," said D. Brooks Zug, managing director, HarbourVest. The firm has raised $4 billion in assets, oversees another $1.5 billion in direct investments, and is now investing its fifth U.S. fund and its third international fund.
Since it has a good track record for successfully investing with the most desirable firms, all of its funds have been oversubscribed for the past 10 years, Mr. Zug said. The firm does make room for a couple of new investors in each new fund, but like the venture cap funds, HarbourVest always invites back existing investors first.
The whole private equity arena has become so much more popular with pension funds, that even some of the top performing buyout funds are closing their doors to new investors, despite the fact that they tend to be $1 billion funds, Mr. Zug said. Among the toughest to invest with, he said, are Bain Capital, Berkshire Partners LLC, Vestar Capital Partners Inc. and Thomas H. Lee Co.
A newer venture cap firm that has been closed to new investors is Benchmark Capital, Menlo Park, which made its name after investing $5 million in eBay Inc. in 1997, a stake worth around $2.5 billion today.
Endowments invest
Mark Yusko, chief investment officer at the $750 million University of North Carolina at Chapel Hill Endowment Fund, said the fund was oversubscribed and he missed out. As an investor that has been targeting venture cap only in the past year, UNC has had to devise other strategies.
"We're searching for new groups," Mr. Yusko said. "We realize we can bring more to a deal than money. We're looking at building relationships between Research Triangle Park and the university. If we locate a professor with some great technology idea, we could start a company. There are many deal flows to which we could contribute."
Mr. Yusko has also learned the importance of being able to jump on opportunities as they surface, he said. Sometimes he gets board approval before a deal is a certainty, so if it comes through he can move on it immediately. Since joining UNC a year ago, he has been working hard to build relationships with key venture capitalists so that they will bring deals to the endowment fund. UNC's commitment to private equity is so important to its investment strategy that Mr. Yusko's first new hire was Charles Merritt to oversee private equity investments.
Vassar College, Poughkeepsie, N.Y., has solved the problem of investing in top venture cap firms by going through the Commonfund, Westport, Conn., a financial adviser to 1,400 colleges and universities with a total of $21 billion in assets.
"We get into all the best funds that way, including Kleiner Perkins. We have $14 million invested in venture cap and another $21 million committed to it through the Commonfund, and consider it a good way for educational institutions to invest in the asset class," said Jay Yoder, chief investment officer at the $540 million endowment fund.
"They run a well-diversified program at a low cost."
The results have been terrific.
Last year, Vassar's venture cap investments returned 29%, Mr. Yoder said. He has been investing with the Commonfund since the late 1980s.
Patricia Small, treasurer at the University of California Endowment Fund, Oakland, has also managed entry into the funds of her choice, thanks to her early start. She began investing in venture cap in the late '70s, she said.
"I know it's a hot environment now, but we're long-term players," she said. "Initially we made bets to be sure we were in the right groups. But if they're good, we stay with them."
As a result, the $4 billion endowment fund, which has 4% of its assets in private equity, has been a regular in the Kleiner Perkins and Sequoia funds.
"I'm aware of the problem getting into these funds," Ms. Small said. "They have become so popular that more people want to get into them."
But since University of California is a research organization, it believed in research and development well before others were taking that path, she said.
Tom Lynch, director of private markets, Wilshire Associates Inc., Santa Monica, Calif., said that there is a difference in quality among venture funds and argues that it doesn't pay to go into second- or third-tier funds. He outlined two ways of investing in the asset class: "If a pension fund does it on its own, it has to plan to devote a lot of resources to it, which can be very costly. The other solution is to work with a fund of funds or invest in a commingled fund of funds."
Venture cap investing may not even make much sense for large public pension funds, Mr. Lynch added.
"Since they (venture cap funds) limit the amount of capital they can take, the pension fund will never get a meaningful allocation. And if it does get a small allocation to a firm like Kleiner Perkins, the investment is too small to do much for the retirees," Mr. Lynch said.
Funds of funds try
Many pension funds have hired funds of funds managers to get access. Illinois Municipal Retirement Fund, Oakbrook, Ill., has been investing through Abbott Capital Management, Boston, since the mid-'80s, said Walter Koziol, director of investments at the $11.6 billion fund.
"We know it's important to find expertise, and our board doesn't have the time or knowledge to interview the individual firms that would be required to meet to run a good program," he said.
So the pension fund hired Abbott, which has been a successful strategy.
"They have built us a well-seasoned, diverse portfolio, which returned 40.7% a year for the last three years on an annualized basis," he said.
New York State Common Retirement Fund, Albany; Public Employees Retirement Association of Colorado, Denver; The State Teachers Retirement System of Ohio, Columbus; and the State of Wisconsin Investment Board, Madison, are some of the large state pension funds that have hired fund of funds manager HarbourVest Partners LLC, Boston, to facilitate their forays into venture capital investing.
"We have been investing in the top venture and buyout funds for 17 years, which has allowed us to get into a lot of the top U.S. venture firms," said D. Brooks Zug, managing director, HarbourVest. The firm has raised $4 billion in assets, oversees another $1.5 billion in direct investments, and is now investing its fifth U.S. fund and its third international fund.
Since it has a good track record for successfully investing with the most desirable firms, all of its funds have been oversubscribed for the past 10 years, Mr. Zug said. The firm does make room for a couple of new investors in each new fund, but like the venture cap funds, HarbourVest always invites back existing investors first.
Buyout tight, too
The whole private equity arena has become so much more popular with pension funds, that even some of the top performing buyout funds are closing their doors to new investors, despite the fact that they tend to be $1 billion funds, Mr. Zug said. Among the toughest to invest with, he said, are Bain Capital, Berkshire Partners LLC, Vestar Capital Partners Inc. and Thomas H. Lee Co.
A newer venture cap firm that has been closed to new investors is Benchmark Capital, Menlo Park, which made its name after investing $5 million in eBay Inc. in 1997, worth around $2.5 billion today.
Mark Yusko, chief investment officer at the $750 million University of North Carolina at Chapel Hill Endowment Fund, said the fund was oversubscribed and he missed out. As an investor that has been targeting venture cap only in the past year, UNC has had to devise other strategies.
Building relationships
"We're searching for new groups," Mr. Yusko said. "We realize we can bring more to a deal than money. We're looking at building relationships between Research Triangle Park and the university. If we locate a professor with some great technology idea, we could start a company. There are many deal flows to which we could contribute."
Mr. Yusko has also learned the importance of being able to jump on opportunities as they surface, he said. Sometimes he gets board approval before a deal is a certainty, so if it comes through he can move on it immediately. Since joining UNC a year ago, he has been working hard to build relationships with key venture capitalists so that they will bring deals to the endowment fund. UNC's commitment to private equity is so important to its investment strategy that Mr. Yusko's first new hire was Charles Merritt to oversee private equity investments.
Vassar College, Poughkeepsie, N.Y., has solved the problem of investing in top venture cap firms by going through the Commonfund, Westport, Conn., a financial adviser to 1,400 colleges and universities with a total of $21 billion in assets.
"We get into all the best funds that way, including Kleiner Perkins. We have $14 million invested in venture cap and another $21 million committed to it through the Commonfund, and consider it a good way for educational institutions to invest in the asset class," said Jay Yoder, chief investment officer at the $540 million endowment fund.
The results have been terrific.
Last year, Vassar's venture cap investments returned 29%, Mr. Yoder said. He has been investing with the Commonfund since the late 1980s.
Patricia Small, treasurer at the University of California Endowment Fund, Oakland, has also managed entry into the funds of her choice, thanks to her early start. She began investing in venture cap in the late '70s, she said.
"I know it's a hot environment now, but we're long-term players," she said.
