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CalPERS tightens VC grip
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February 5, 2001: 1:57 p.m. ET
Nation's largest state pension fund buys stakes in two venture capital firms
By Matthew A. DeBellis
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SAN FRANCISCO (Red Herring) - CalPERS (California Public Employees' Retirement System), the nation's largest state pension fund, turned heads last week when it purchased ownership stakes in two very large venture capital firms. It is only the second time an institutional investor has made such a move -- and the first such move was also made by none other than CalPERS.
CalPERS bought ownership stakes in The Carlyle Venture Partners and TPG Ventures, a new venture capital division of the Texas Pacific Group. The pension fund also became a major limited partner of the two venture capital firms by investing a combined $910 million, with an option to invest an additional $425 million in The Carlyle Group in the next two years.
Observers were surprised by the move, questioning why a venture firm would want to let one of its limited partners play a more significant role, or to share its profits with yet another partner.
"Why are the firms opening themselves up to a co-CEO/hybrid arrangement?" asked Steve Lisson, CEO of InsiderVC.com. "What am I missing here? It reminds me of that cliché that a camel is a horse designed by committee."
Lonely at the forefront, Lisson, who keeps a close eye on VCs, says he doesn't expect other pension funds or institutions to follow suit because the advantages are unclear. In fact, there may be a disadvantage. For one, other limited partners may be unhappy if another limited partner gets closer to the firm's general partners, because they might consider themselves to be on unequal footing.
CalPERS, which manages $170 billion in assets, now has 4.6 percent of its fund invested in private equity concerns. It has investment relationships with close to 100 VC firms. More significantly, the pension fund now has equity stakes in three venture capital firms, including Thomas Weisel Partners.
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[CalPERS is] breaking new ground They're being very creative.
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Bill Nolan |
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The pension fund is making strong moves in the venture capital industry because its executives have increased their tolerance for the risky business, said Michael Flaherman, chairman of the fund's investment committee.
CalPERS is growing its venture capital investments along with the VC industry. In fact, since August 2000 CalPERS began to increase the amount going to VC endeavors from 4 percent and has a goal of 6 percent, Flaherman said.
Acquiring ownership stakes of investment firms allows CalPERS to align itself with a small number of industry players it believes will grow successfully with the private equity industry, said Derek Lemke, a partner and co-director of private equity at Thomas Weisel Partners.
"It gives them a core group of relationships where the door is always open," Lemke said.
CalPERS always has been a hands-on, outspoken manager of its investments, and now it's aiming to become a major player -- as a limited partner and owner -- in the venture capital industry, said Bill Nolan, a managing director at Crosslink, a San Francisco venture capital firm that invests in companies of all stages.
"[CalPERS is] breaking new ground," Nolan said. "They're being very creative."
The percentage of the fund invested in private equity is average, said David Toll, managing editor of The Private Equity Analyst, a newsletter that follows pension fund investments.
Some state pension funds invest as little as 1 percent or as much as 15 percent of their fund in venture capital. However, California's fund is making aggressive moves by taking ownership stakes in investment firms.
Toll said he doesn't know of another pension fund buying ownership stakes in VC firms.
Double dipping
Having an ownership stake in a venture capital firm gives CalPERS significant advantages. By becoming partner in the Carlyle and TPG funds, CalPERS is developing closer ties with its private equity associates and would seem to gain a voice in the direction of the firm's investments.
Most important, CalPERS now can expect to collect two sets of checks. In a few years when the VC firms divvy up the their earnings, they'll send one check to CalPERS the limited partner and contributor to the firms' venture funds, and another to CalPERS the firm partner.
On Thursday, CalPERS signed a $425 million deal with The Carlyle Group and secured an option to invest another $425 million in the next two years. Under the agreement, CalPERS committed $250 million toward a variety of the firm's new venture funds, and it spent $175 million to buy a 5 percent stake in the investment firm, according to reports.
Based in Washington, D.C., The Carlyle Group is a private equity powerhouse with $12 billion under management and offices across the United States and in Asia, Europe, and the Middle East.
As reported by Red Herring on Thursday, Carlyle is having trouble establishing a venture capital business in Europe and has lost key partners. On Tuesday CalPERS announced it's making a $485 million investment in TPG Ventures. CalPERS invested $325 million in the firm's technology venture fund, $75 million in a crossover fund that will invest in public and private companies, and $25 million in the firm's new corporate venture fund, which will focus on bricks-to-clicks deals.
In addition, CalPERS took a minority stake in TPG Ventures for $60 million. (The exact ownership position was not disclosed.) After such a busy week, CalPERS's Flaherman says he doesn't expect the pension fund to take ownership stakes in any more VC firms this year. "We're going to pause and see how these go," Flaherman said.
Feel-good arrangement
CalPERS bought a 10 percent stake in Thomas Weisel Partners for $100 million in August 1999. CalPERS also made a commitment to invest $500 million in Thomas Weisel venture funds and arranged for an option -- subject to the pension board's approval -- to invest $500 million more. "It's a very close-knit relationship that is very flexible," said Thomas Weisel's Lemke.
CalPERS has a seat on Thomas Weisel's advisory board, which acts as a directors board, but it doesn't influence day-to-day, individual investment decisions, he says.
CalPERS is the largest limited partner at Francisco Partners, a leveraged buyout firm focused on technology companies. Sanford "Sandy" Robertson, Francisco's cofounder and the founder and chairman of Robertson Stephens, recently met with CalPERS executives, who expressed that "they're very pleased with their Thomas Weisel investment."
And why not?
The equity investment was stellar. When CalPERS took a stake in Thomas Weisel, the firm was valued at $1 billion, and now it's valued at $3 billion, Flaherman said.
Though private equity investments are a small portion of the fund, it has come through with sky-high returns. For the fiscal year ended June 30, 2000, CalPERS's private equity portfolio brought the fund's best return of 57.8 percent, compared to the fund's overall respectable return of 10.5 percent. It ended the last fiscal year with $7 billion in private equity holdings.
CalPERS has earmarked $16 billion in current and future assets to invest in the private equity sector under the Alternative Investment Management program, which started in 1990. Though CalPERS is investing billions of dollars in venture capital, it's a small slice of the fund's $170 billion portfolio. The largest portion (43 percent) is invested in U.S. stocks, followed by U.S. bonds (22.8 percent), foreign stocks (18.6 percent), U.S. real estate holdings (5.8 percent), and foreign bonds (3.8 percent).
© 1997-2000 Red Herring Communications. 
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