Conservative Values Top 04 Fund-Raising

The 2004 VC fund-raising experience can be summed up in one word: discipline. General partners had it, and limited partners didn’t.

Last year, 174 U.S. firms raised $17.71 billion in fund capital, according to Thomson Venture Economics, the National Venture Capital Association and PE Week research. That is 54% more than the $11.5 billion that was raised in 2003 for 147 funds.

The figure could have been larger, but dozens of firms turned down hundreds of millions of dollars to keep their funds at a manageable size. Battery Ventures, for example, received more than $1 billion in LP commitments for its seventh fund, but it stuck to its $450 million target.

The year was kicked off when New Enterprise Associates held a final close on its $1.1 billion eleventh fund in January. Most of the fund actually was raised during late 2003, but NEA would be the first in a series of brand-name firms to make fund-raising noise in 2004. Others included Kleiner Perkins Caufield & Byers with a $400 million vehicle, Benchmark Capital with two funds ($400 million for U.S. investing and $375 million for European investing) and Sevin Rosen Funds with $305 million.

Each of those firms raised less for their new funds than they had for predecessor funds, most of which were closed right before or after the Bubble began to burst. In other words, already-overcapitalized LPs last year were largely unable to invest at pro rata levels on follow-up partnerships, thus prompting the LP overhang phenomenon. In fact, the squeeze was so tight that several firms with below-benchmark track records were able to hit their fund-raising targets with little difficulty.

U.S. Venture Partners, for example, was one of several firms to exclude public institutions from new fund participation, joining groups like Charles River Ventures and Sevin Rosen. Overall, however, it seems unlikely that the disclosure issue had much fund-raising impact, save for extra GP due diligence and extra public LP pleadings.

The Year Ahead

Venture firms raised more fund capital in 2004 than in either 2002 or 2003, but market watchers suggest that the elevator ride may be over. A number of strong firms already have offering books in circulation, but not nearly enough to keep pace with the past 12 months.

Earlier this month, Mohr, Davidow Ventures closed on $400 million for its seventh vehicle, while big names currently in the market include Austin Ventures, BA Venture Partners, Columbia Capital, Granite Ventures, El Dorado Ventures and Draper Fisher Jurvetson. Other venture firms planning to solicit LP capital in 2005 include Delphi Ventures, Healthcare Ventures, IDG Ventures West Coast, Oxford Bioscience Partners, Redpoint Ventures, Menlo Ventures, Sightline Partners (formerly Piper Jaffray Ventures) VantagePoint Venture Partners and Worldview Technology Partners.

“We really haven’t invested in VC funds over the past three years, but we’ve got a short list of about six to eight VC candidates for 2005,” says Greg Turk, director of private equity investments for the Illinois Teachers’ Retirement System. “There are a few recognizable names out there, but the fresher ones might be from new firms that are carving out a specific niche.”

If there aren’t enough attractive venture funds, expect LPs to head to the higher ground of buyout funds. Not only is there less risk, but buyout firms also have displayed absolutely none of the fund size discipline of their VC peers. In fact, it’s been just the opposite.

Going into 2005, the largest private equity fund ever raised was $6.45 billion from The Blackstone Group (excluding a $6.5 billion effort by JPMorgan Partners, which was primarily funded by parent company J.P. Morgan Chase). No fewer than four PE firms are expected to break that record over the next several months: Both Blackstone and Warburg Pincus are working on $8 billion offerings, while Thomas H. Lee Partners is said to be prepping a $7 billion-plus vehicle, and The Carlyle Group is expected to soon close on a new $6.5 billion fund.

“Given this situation, significant increases in interest rates or slowdowns in economic activity could result in large problems in the portfolios of a number of buyout funds,” warns Kelly DePonte, a partner with Probitas Partners. “If 2005 might be considered the year of the large buyout fund, it could be that 2006 might be the year of the distressed debt fund.”