LPs: Venture Returns Too Concentrated

The National Venture Capital Association made an exception to its annual meeting methodology this week, by opening up the majority of panels to the press.

Observing most of the proceedings, it’s hard to say there was much reason to avoid the media spotlight. Venture capitalists and the ecosystem of entrepreneurs, investment bankers and corporate acquirers that support the industry were, by and large, mild-mannered and directed criticism to topics already in the public domain. (i.e. Sarbanes Oxley is burdensome, talent is scarce, and U.S. startup valuations are too high).

An exception to the uncritical ambience was Wednesday’s panel on “The Mindset of Today’s Limited Partners.” There, five influential LPs and LP representatives harped on the venture industry for a long list of shortcomings, maintaining most pointedly that returns from venture investors are increasingly concentrated among a small number of leading fund managers.

“We’ve seen a lot of changes, and not all of them for the good,” said Diana Frazier, of FLAG Capital. Frazier referred to a “stunning concentration of returns,” with 32 leading managers providing most returns in certain vintage years.

Industry data about venture returns also paints an overly positive picture of recent performance, panelists said. One of the reasons is that venture-backed companies commonly receive large late-stage investments prior to an exit. When they eventually go public or get acquired, ownership in those companies can be diluted enough that exits don’t provide the kinds of “home run” returns to early investors that LPs expected.

Over the past few yeas, returns to venture investors have actually been negative, said Eric Doppstadt, senior manager of private equity investments at the Ford Foundation.

Venture capitalist Dixon Doll of DCM asked assembled LPs if an annual performance number would be useful in evaluating VC funds, but Doppstadt rejected the idea. Given that venture investments are multi-year positions, annual performance was not seen as a useful metric.

Limited partners were conciliatory to venture capitalists on another front, however: the fees charged by top-performing funds.

“It’s a Groucho Marx problem,” said Doppstadt. “If there’s a fund you can negotiate terms with, it’s probably a fund you don’t want to invest in.”