Sudan restrictions keep Illinois TRS out of TPG

The Teachers’ Retirement System of the State of Illinois (TRS), is missing out on the fifth fund of Texas Pacific Group (TPG), thanks to an Illinois state law requiring public pension funds to divest from assets that have business ties to Sudan.

Missing out on the next TPG fund is something to be sore about. The firm recently scored on its investment in Burger King Holdings Inc. (NYSE: BKC), which it bought for $1.5 billion in 2002 as part of a consortium with Goldman Sachs Capital Partners and Bain Capital. Burger King launched a $425 million IPO in May and its market capitalization after the public offering has reached $2.4 billion, leading some private equity analysts to estimate TPG’s internal rate of return, accounting for its debt leverage, at more than 85 percent.

Federal law already prohibits U.S. companies from doing business in Sudan, a country that is alleged to be sponsoring genocide in the Darfur region. But the Illinois law, which became effective at the end of January, goes further. Companies found to be doing business with Sudan can be penalized by the Office of Foreign Assets Control and could be considered sponsors of terrorism. Also, companies must certify under oath that they do not have assets, employees or other ties to the Sudan, or else they are forbidden from receiving investments from the state.

TRS Chief Investment Officer Stan Rupnik said that while the law is noble, the unintended consequences for private equity need to be addressed.

“The requirements that the law places on private equity is more onerous than they are for the public market,” he says. “None of our GPs have a problem with the intent of the law, but they have a problem putting their name on the line [that says] they have personal liability.”

TRS has taken a $1.2 million hit from dumping $2.4 billion worth of co-mingled index funds since the end of January and still has another $900 million to divest before it will be fully compliant with the new state law.

Concern over the TRS divestitures has not spread to its stable of venture investments. TRS has invested in such firms as Granite Ventures, Draper Fisher Jurvetson, Accel Partners, Shasta Ventures Management and Lightspeed Venture Partners.

Tod Francis, a managing director of Shasta Ventures, said the TRS divestitures did not apply to his firm because it has no investments outside the United States. Similarly, Len Rand, a managing director of Granite Ventures said his firm had not been contacted by TRS about potential links to Sudan.

The move to ban money flowing into Sudan may not be on the minds of many venture firms yet, but as other large limited partners move to block Sudanese business it could become a concern. The California Public Employees’ Retirement System (CalPERS), for example, recently announced that it wouldn’t be investing in nine companies that do business in Sudan. The move is subject to legislation that would require the State of California to indemnify CalPERS from any financial loss from the mandate. CalPERS has called on the federal government to publish a list of companies with ties to Sudan to take some of the burden off of GPs.

One of the biggest problems with such mandates is determining who does business in Sudan. “Other than making it a condition of investment, I don’t know how we could unilaterally prevent it,” Rand says.

It would be a violation of the firm’s fiduciary duty to its companies and limited partners to put such a clause in as a condition of investment, he adds.

But even if complying with such investment mandates were easy, some VCs doubt such measures would have any effect. “Most of these two-bit dictators don’t care too much about investment – outside of their Swiss bank accounts,” says Robin Bellas, a general partner at Morgenthaler Ventures. Those most likely to feel the effects of such a rule are the pensioners who won’t benefit from the portfolio diversification that can come from investing in alternative asset classes.