VC Downsizing Trend Comes To Kleiner

In a move that could force the hand of other brand-name venture firms, Kleiner Perkins Caufield & Byers last week told its limited partners that it will likely call down 20%-25% less cash than anticipated for its 10th fund.

LPs have become increasingly vocal about their displeasure with firms that are pulling down hefty fees despite having significantly slowed their pace of investing. Several sources on the VC and LP side say that just about every major firm is getting inquiries from LPs about reducing the size of their funds, and fees, including Accel Partners and Redpoint Venture Partners. Additionally, a high-profile individual investor went to a national magazine this month to plead his case for why Benchmark Capital should give him his money back from one of its funds.

LPs are gaining more support for their cause following recent moves by Mohr, Davidow Ventures (MDV) and ComVentures. MDV trimmed back the size of the most recent fund it raised by 20% to $678 million in January, citing a slower VC market (see PEW, 1/28, p. 9). And ComVentures reduced the size of its management fees from 2.5% to 2% because it has not been able to invest at a faster pace (see PEW, 2/4, p. 1).

What Kleiner Did

Kleiner Perkins Partner Kevin Compton told Private Equity Week that the firm had sent letters to LPs and had conversations with some of them regarding the move. “We’re telling our limiteds that we’re probably not going to call it all, but we won’t know officially for about 12 months,” Compton says.

If the firm does in fact call down less money, the final size of Kleiner Perkins Caufield & Byers X (KPCB X) could shrink from $627.5 million to approximately $471 million. If the fund is smaller than originally planned, the management fees that the firm collects will be commensurate with that reduced amount.

Kleiner Perkins also told its LPs that it plans for KPCB X to co-invest in new deals alongside its ninth fund, a $500 million vehicle raised in 1999.

According to a document sent to LPs, KPCB X is broken into two funds, one for institutional investors and one for wealthy individuals (friends of the firm). It is unclear if the Kleiner Perkins partners themselves participated in either group, or if they invested in a third tranche.

Compton declined to say why the firm will likely call down less capital, except to say, “We want to do some things that are going in the right direction for the industry.”

Institutional investors say the potential move to call down less capital indicates that there is just too much money chasing too few deals. “This is the blue chip of the industry acknowledging some excess and the fact that the industry has changed,” says an executive at a large institutional investor with knowledge of the Kleiner Perkins letter.

The executive went on to say that there has been growing concern among LPs over the past 12 months regarding $1 billion funds. “A number of people collected large pools of money and couldn’t deploy it in a timely fashion, but they’ve been collecting management fees on it,” he says.

A source close to Accel confirmed that the firm has heard from LPs about the issue and that it actually started studying the idea of reducing its fund size “several months ago,” before it was approached by LPs. Accel’s eighth fund, raised in 2000, stands at $1.6 billion, according to Venture Economics. “The firm is considering whether to make a change and what kind of change would be appropriate,” the source says. He declined to say when a decision would be forthcoming.

A source close to Redpoint Venture Partners – which hasn’t had a single exit from its $1.25 billion second fund (raised in 2000) – says the firm’s management team has been getting pressure from LPs.

Redpoint Founding Partner Geoff Yang says the firm’s policy is not to comment on its financial relationship with LPs. However, he did say, “We are looking at everything and are constantly reevaluating the best strategies to achieve long-term returns in this rapidly changing environment.”

As for Benchmark, it has come under attack from investor Eric Greenberg, founder of consulting firm Scient. Greenberg told Red Herring magazine in its March issue that he asked Benchmark to release his partnership interest in its Europe fund, because he doesn’t believe the fund will perform as well as Benchmark said it would. But Benchmark “has not been cooperative,” even though Greenberg made the firm more than $700 million on an investment of less than $5 million in Scient, he told the magazine. A partner at Benchmark declined to comment.

While LPs appear to be taking the upper hand, some GPs say it may not be good for the industry. “This business is premised on LPs meeting their obligations in good times and bad,” says one VC who asked not to be named. “When you alter the foundation on which the industry is built, you run the risk of screwing the whole industry.”

The VC says he is dismayed by some of the tactics that LPs are using, like Greenberg pleading his case to the press. “That smacks of someone using the press to try to blackmail a venture firm,” he says.

LPs apparently didn’t have a hand in Kleiner Perkins’ decision. An institutional LP who has invested in Fund X says the move was first discussed in February, and was not spurred by LP pressure. “It was voluntary,” he says.

Another LP, who has participated in two prior Kleiner Perkins funds, says he believes that the firm plans to reduce the size of its 10th fund because of concerns about LPs later invoking a claw back provision – which would mean that Kleiner Perkins’ partners would have to return any profits if the overall fund loses money.

Stellar Track Record

With its stellar track record, Kleiner has almost always had to turn away potential LPs from its funds because they were oversubscribed.

One manager of a large pension fund says he was “psyched” about the returns his fund received for Kleiner Perkins’ sixth and seventh funds. He reports that Fund VI, a $173 million vehicle raised in 1992, has returned $878 million to date, with most of that already distributed to LPs. KPCB VII, a $255 million fund raised in 1994, has ballooned to a value of $2.2 billion, he adds.

Another source confirms the figure for Fund VII, but believes returns from Fund VI may have actually been a bit lower.

KPCB X has made at least two investments, according to VentureXpert, a database operated by VE. It invested $14 million in Tellme Networks Inc. of Mountain View, Calif., in September 2000, and put $1 million into Epoch Partners of San Francisco in February 2001.

Contact Lawrence Aragon or Dan Primack

Additional reporting by Carolina Braunschweig