CalPERS Flexes Its Venture Capital Muscles

The harsh fundraising climate facing venture capital firms could be a great opportunity for CalPERS, which manages a whopping $170 billion in retirement assets on behalf of California’s public employees. Indeed, at a time when some pension funds are reducing their allocation to venture funds, CalPERS is increasing its exposure to venture investments. Earlier this week, CalPERS acquired ownership stakes in two investment firms: the Carlyle Group and TPG Ventures, a new venture arm of buyout giant Texas Pacific Group.

The arrangement means that CalPERS gets paid twice – both as an investor, or limited partner, and as an operator or general partner. “It is very appealing to enjoy the economic terms of a general partner,” says Michael Flaherman, chairman of CalPERS investment committee. It’s a rare move – among the only previous examples of an institutional investor taking an equity stake in a venture fund involved CalPERS purchase of a 10 percent stake in Thomas Weisel Partners’ VC group.

CalPERS invested $425 million in the Carlyle Group, with an option to invest another $425 million in the next two years. The first tranche includes $250 million for a variety of new venture funds, and $175 million for a 5 percent stake in the investment firm. It also will invest $485 million in the newly formed TPG Ventures. Of that, $325 million will go to the technology venture fund, $75 million will go to a crossover fund that invests in both private and public companies and $25 million is for a corporate venture fund. CalPERS also took a $60 million equity stake in TPG Ventures, the terms of which were not disclosed.

You might think that the huge pool of cash CalPERS has to invest would make it a desirable limited partner for any venture fund. But on Sand Hill Road, the perception is quite the opposite. Because they have so much cash to throw around, they tend to demand more favorable terms than other investors do. “We have been approached by CalPERS in the past, but chose not to work with them because they have a reputation of being an abrasive limited partner,” says Lorraine Fox, a general partner at Crescendo Ventures. Flaherman denies the suggestion that they are difficult to work with. “We are going to try not to beat up GPs over fees,” he says.

The two CalPERS deals this week have some dangers for Carlyle and TPG. First, there is a danger that other investors could feel alienated by paying management fees that will go into CalPERS pockets. Also, because of CalPERS size, it is forced to invest in extremely large chunks. That isn’t always desirable for the other investors in the funds that take CalPERS cash, since they get less influence.

“Historically, that has been their downfall,” says Bill Nolan, managing director at Crosslink Capital. “They are too big and too influential of an LP. It is definitely an active limited partner, you could even call it an activist limited partner.”

CalPERS’ deep pockets, however, can be hard to resist. Carlyle Venture Partners, the venture arm of private equity giant the Carlyle Group, has had some trouble lately, including a key managing director leaving its European operations. And despite its affiliation with Texas Pacific Group, TPG Ventures is a raising its first fund in an especially difficult environment for newcomers. And despite the fact that the parent companies of both funds have stellar records on the LBO side, they are relatively inexperienced as venture capitalists.

The move could signal the beginning of even more aggressive deals with VC firms. CalPERS was late to the game and only started dealing with VC firms six years ago. It is now attempting to increase its investments in venture capital to 6 percent from 4.6 percent of its portfolio. Flaherman, however, denies that CalPERS is leveraging a tough fundraising climate to get better terms for its investment dollars, saying that the pension fund has unconnectedly become more tolerant to risk.

Source: The Industry Standard