Retirement FinTech Gets Another Suitor - Goldman Sachs

No sooner had I written "Financial Technology and the Fiduciary Rule," an invitation to the Future of Finance 2016 appeared in my in-box with the call-out that "Technology is about to revolutionise financial services." (Note the British spelling for this Oxford conference.) Based on session titles, attendees will hear about topics such as how technology can:

  • Be "used to build trusting relationships with clients" and increase transparency;
  • Substitute for "expensive human intermediaries" to lower costs; and
  • Encourage the creation of "simpler and cheaper" insurance and savings products.

Increasingly, angels and venture capitalists are waking up to the fact that the global retirement marketplace is big and ripe for innovation. Earlier today, Goldman Sachs Investment Management Division announced its intent to acquire Honest Dollar. According to CrunchBase, this transaction follows a seed financing last fall to further build a web and mobile platform that allows small businesses to cost-effectively set up retirement plans. Expansive Ventures led that round that includes former Citigroup CEO Vikram Pandit and, founder of The Black Eyed Peas musical group.

Yet another indication that investors see "gold in them thar health care and retirement plan hills" is a $30 million capital raise for a company called Namely. Its February 23, 2016 press release lists Sequoia Capital as the lead venture capital firm for this round, bringing its total funding so far to $107.8 million for this "SaaS HR platform for mid-market companies."

Interestingly, in articles about both Honest Dollar and Namely, the tsunami of complex regulations is cited as a reason why employers need help from financial technology organizations. With mandates growing and becoming more muscular, no one should be surprised if cash-rich backers write big checks to financial technology businesses. As Xconomy reporter Angela Shah points out, multiple start-ups are "trying to compete for the 80-plus percent who don't offer benefits."

There is no doubt that the competitive landscape is changing and will prompt more strategic soul-searching for vendors and policy-makers alike. I've listed a few of the many questions in search of answers as things evolve.

  • Will other large financial service organizations like Goldman Sachs swallow up smaller start-ups? If so, does that change the role of angels and venture capitalists?
  • If enough of these companies pop up to serve small businesses and self-employed persons, is there still a need for the product offered by the U.S. government - myRA?
  • Will the U.S. Department of Labor fiduciary rule, if passed into law, accelerate the formation and growth of financial technology companies? If so, how?
  • Will there be a need for more or fewer financial advisors as the financial technology sector grows?
  • Will individuals buy more insurance and savings products? If not, why not?

Life in financial services land will never be dull.

Financial Technology and the Fiduciary Rule

Whether the proposed U.S. Department of Labor so-called fiduciary rule becomes law this year remains to be seen. Many in the industry think its passage is nigh. Critics hope for a reprieve, asserting that costs are likely to outweigh benefits.

One oft-repeated concern is that small savers will be harmed if financial service companies decide to jettison accounts that fall below target asset levels. The Securities Industry and Financial Markets Association ("SIFMA") explains "Because they cannot afford a fiduciary investment advisory fee, they will instead be forced to solely rely on a computer algorithm known as a 'robo-advisor.'"

Financial technology enthusiasts will counter that a more automated approach to retirement planning is a good thing for big and small savers alike. Certainly the topic merits review for at least two reasons.

  • The use of machines has exploded in recent years. In her November 9, 2015 speech about technology, innovation and competition, U.S. Securities and Exchange ("SEC") Commissioner Kara Stein foretells buoyant growth with an expected $2 trillion in assets under management by robotized advisors by 2020.
  • There are central questions about the fiduciary obligations of a company that concentrates on algorithmic advising and money management. Besides seeking to contain model risk, there is a need, at a minimum, for a vendor to regularly review client objectives and constraints. Click here to access a white paper on this topic by National Regulatory Services.

A few weeks ago, a handful of venture capitalists and prominent angels announced a $3.5 million capital round for a financial technology company called Captain401. Its stated goal is to help small businesses streamline the creation and administration of 401(k) plans that the founders argue would be too expensive to offer without automation. A cursory review of the company website makes it impossible to know much about its business model, technology safeguards or compliance infrastructure. Nevertheless, the funding of this and other "Fin Tech" organizations augurs favorably for added growth in this area.

As the global retirement marketplace adapts to regulatory and economic realities, it will be interesting to watch (or perhaps lead) what unfolds in terms of innovation, service provider competitiveness, cost tiers and other outcomes that impact savers and those who have already retired.

Pension Plans, Valuation and Venture Capital

No sooner had I penned "Unicorns, Valuation and the Search for Investment Returns" for my compliance blog, I opened the New York Times this morning and discovered an article about so-called unicorns or companies with venture capital ("VC") backing and an estimated valuation of at least one billion dollars. According to the author of "The Hidden Risk of a Billion-Dollar Valuation in Silicon Valley," law school educator and pundit Steven Davidoff Solomon, venture capital firms want to get paid first in the event of a portfolio company sale which is why they negotiate hard to include a liquidation preference before committing capital. He cites a study by law firm Fenwick & West that confirms the prevalence of this downside protection and suggests that it is one reason why VC firms don't balk about what others may decry as valuations that are "too high." Interested readers can click here to download "The Terms Behind the Unicorn Valuations" by Barry Kramer, Michael Patrick and Nicole Harper (March 31, 2015). Professor Solomon points out that this kind of return insurance is a boon for venture capitalists but could be a disaster for founders who may end up with little or nothing if a liquidity event yields too few dollars. In an attempt to avoid this unhappy outcome, founders with sufficient voting power could nix a potential sale. Should that occur, investors then face greater risks due to less liquidity.

What is missing from the various analyses about unicorns and jumbo valuations of private companies overall is a discussion about the potentially adverse impact on institutional investors. In the event that valuation numbers are truly disconnected from economic reality, a limited partner may well end up paying too much in fees to its venture capital fund manager(s). Moreover, any institutional investor that allocates money to venture capital as part of its grand strategic asset allocation design may well fall short of its goals if valuations are "too high." Failure to realize a target return, satisfy a minimum funding ratio rule and/or diversify its portfolio are a few of the "nasties" that could ensue, thereby putting investment committee members at risk for allegedly breaching fiduciary duties.

One response, proffered by researcher Ashby Monk, is for institutions to invest directly and cut out the middlemen. This tact is likely to appeal to the bigger endowments, retirement plans and sovereign wealth funds that can afford to hire staff and put the requisite due diligence and technology infrastructure in place to vet and then monitor its investments. Even then, there is the peril of improperly relying on imprecise valuations that in turn drive so many other decisions.

As Dame Agatha Christie declared, "Where large sums of money are concerned, it is advisable to trust nobody." Investment fiduciaries need to understand how asset managers come up with the valuations they report to their limited partners and how their valuation numbers are revised over time to reflect changing conditions.

Venture Capital Funding for Fun Sites

Who says that money and humor can't mix? Sources inform that the owner of a collection of funny websites and blogs is now $30 million richer. Seattle-based Cheezburger Network, publisher of popular internet destinations such as Fail Blog, I Can Has Cheezburger and The Daily What, adds to its original $2.25 angel monies by partnering with venture capital funds such as the Foundry Group, Madrona Venture Group, Avalon Ventures and Softbank Capital. According to, collective traffic is large with 16.5 million unique visitors each month, viewing a total of 375 million pages and adding or sharing 500,000 photos and videos.

According to its website, the Foundry Group that led this deal has some demonstrated winners in its portfolio, including the mammoth game maker Zynga and, a popular social network for trading strategies. Softbank Capital invested in the Huffington Post and, until it was sold to NewsCorp, the religion powerhouse website known as Beliefnet, Inc. Madrona lists as a prior investment. Avalon has a stake in the aforementioned Zynga which boasts "10 percent of the world's internet population (approximately 215 million monthly users)" as having played one of their games.

Another fun-oriented firm that has raised venture capital money is In early 2009, it was reported that this popular creator of satirical videos took in $7.5 million in a Series C round from Sony Pictures Entertainment, Overbrook Entertainment and Polaris Venture Partners.

As pension funds add to their venture capital allocations, imagine the due diligence conversations that focus on monetizing funny cat and dog photos or growing virtual crops.

Of course venture capital investing as limited partners means that pensions, endowments and foundations must have a comfort level with how the general partners manage risks and value their portfolio companies. For ERISA plans, an expanded definition of fiduciary, if approved, could materially change the relationship between institutions and fund managers for this alternative investment class. For government plans with a stated goal of revving up the local economy, achieving full diversification may be a challenge.

Editor's Note: Links to related items are shown below.

Help With Form 5500 Reporting

For those in need of help, click to access the "Troubleshooter's Guide to Filing the ERISA Annual Report" (U.S. Department of Labor, October 2010). This 70-page publication includes a handy reference chart that relates to the Form 5500 and Form 5500-SF (for small firms), along with related attachments. Another helpful resource is "FAQs About The 2009 Form 5500 Schedule C."

School's still out regarding the extent to which plan sponsors will be able to comply with new rules. So far, Schedule C seems to be a sticking point with numerous questions being asked about how to properly report "indirect" versus "direct" compensation to service providers.

As more pension plans allocate monies to mutual funds, hedge funds, private equity funds and funds of funds, they will need to report details about fees paid to these organizations as they too are now deemed service providers.

Institutional Investors and Venture Capital Funds - Frenemies or Pals?

On March 1, 2010, Dr. Susan Mangiero, CEO of Investment Governance, Inc. sat down to talk to financial and strategy expert, Mr. Pascal Levensohn. In this final question of ten, read what this Investment Governance, Inc. Advisory Board member has to say about limited partners and lawsuits involving venture capital "VC" fund managers. Click here to read Mr. Levensohn's impressive bio.

SUSAN:  I've read that some general partners ("GP"s) are suing LPs for not making capital calls. The LPs claim that they are cash constrained and/or the VC fund has not performed. Do you see a trend in the making?

PASCAL: First, it would appear that the reports of numerous limited partner ("LP") defaults exceed the reality. Based upon discussions with industry participants, most institutional LPs have, in fact, met their  obligations to make capital calls. Second,  the decision of a GP to sue an LP over a default is most often the absolute last resort. The GPs are not in business to institute litigation. This is a distraction for the GP and added publicity that neither GPs nor LPs desire. When the LP Agreement is executed, all of the parties enter into a contract with the expectation that both LPs and GPs will honor their respective commitments. The GPs have committed their time. They have built an organization  to implement an investment strategy and program for the VC fund. They should be  entitled to rely on the contractual obligations of those sophisticated  investors who agreed to support this program over the long  term.

Editor's Note: Our heartfelt thanks to Mr. Pascal Levensohn for taking time to talk to Investment Governance, Inc. on behalf of subscribers to The topic of venture capital fund investing is an important one indeed. Readers may want to check out "A Simple Guide To The Basic Responsibilities of VC-Backed Company Directors" (Working Group on Director Accountability and Board Effectiveness, National Venture Capital Association, October 2007).

Venture Capital Allocation and the IPO Drought

On March 1, 2010, Dr. Susan Mangiero, CEO of Investment Governance, Inc. sat down to talk to financial and strategy expert, Mr. Pascal Levensohn. In this ninth question of ten, read what this Investment Governance, Inc. Advisory Board member has to say about IPOs and whether institutional investors should allocate monies to venture capital ("VC") funds right now. Click here to read Mr. Levensohn's impressive bio.

SUSAN: Does an anemic initial public offering ("IPO") market will remain a deterrent to VC investing?

PASCAL: Yes I do. I believe that an entire generation of American innovation is at risk as a result of the lack of IPO’s. The statistics are overwhelming in support of my position, starting with the fact that over 90% of jobs created by VC-backed companies occur AFTER their IPO - and this has been the case for 40 years. What concerns me the most about the IPO vacuum is that it is systemic and is the result of a “one size fits all mentality” when it comes to regulation of the securities industry.  A relatively unknown emerging growth public company with a $500 million market cap has different needs for research and trading support to provide liquidity for investors than IBM. I remain surprised that this seems to be difficult for our policy makers to understand, but I am encouraged that the U.S. Securities and Exchange Commission ("SEC") has recently invited public comments for a 90 day period to address structural problems with the U.S. equity markets.

Specifically, the SEC wants to know if anyone from the public has thoughts on "whether the current market structure is fundamentally fair to investors and supports capital raising functions for companies of various sizes, and whether intermarket linkages are adequate to provide a cohesive national market system." The Commissioners expressed particular interest in receiving comments from a wide range of market participants. Comments on the Concept Release are due within 90 days after publication in the Federal Register.

Click to read "SEC Issues Concept Release Seeking Comment on Structure of Equity Markets" (January 13, 2010).

I believe that the U.S. equity capital markets must be structured with the goal of promoting the growth of publicly held small businesses in America. America had this structure in place prior to 1997. We should take a hard look at what has changed to render the small company IPO extinct. (Contrary to popular belief, it first became an endangered species before the technology bubble).

Compounding this problem is the fact that, with no IPO options, the consideration paid for companies in trade sales - acquisition by larger companies - has been declining.  Why should venture capitalists take the risks associated with starting up a new company, working through all of the difficulties with multiple financing rounds and executive changes over a six-to-eight or even ten-year period, only to get backed into a corner by a large multinational that dominates the sales channel and can wait them out?

The biggest problem the VC industry has today is that, absent access to public market capital, there are too few VC-backed companies that are self sustaining cashflow generators.  The biggest problem that the U.S. economy has today is unemployment. You would think that maybe the stewards of the U.S. economy, our legislators, could make some structural changes to our small company capital markets regulations to fuel the greatest job creation engine in America - the entrepreneur driving an emerging growth company. This problem goes way beyond venture capital. Consider that 47% of all IPO’s since 1991 were backed by neither VC’s or private equity firms. This is an American problem.

Exiting a Venture Capital Fund Allocation

On March 1, 2010, Dr. Susan Mangiero, CEO of Investment Governance, Inc. sat down to talk to financial and strategy expert, Mr. Pascal Levensohn. In this eighth question of ten, read what this Investment Governance, Inc. Advisory Board member has to say about exiting from a venture capital ("VC") fund. Click here to read Mr. Levensohn's impressive bio.

SUSAN: What happens if a limited partner ("LP") wants to exit a VC fund? What are their rights?

PASCAL: The options here are limited. The LP can try to sell its interest, including the obligation to fund future capital calls, to a fund that acquires secondary interests. The good news is that a robust market exists for such interests in venture capital partnerships today. Alternatively, an LP can default.  If the LP does wish to sell, the general partner ("GP") needs to approve the transfer. The standard partnership agreement language leaves this decision in the "sole discretion" of the GP.  There is no free lunch if you change your mind several years into a 10-year-plus partnership participation. And there shouldn't be. This means that either the secondary market buyer will take his or her pound of flesh by buying the LP's interest at a substantial discount or the GP will by offering the interest and its economic value on a discounted basis to the other LPs. It is far less disruptive to the GP and to the GP-LP relationship for the exiting partner to sell to a secondary buyer but these buyers are totally financially driven and are going to get the best deal possible for themselves.

Getting to Know Your Friendly Venture Capitalist

On March 1, 2010, Dr. Susan Mangiero, CEO of Investment Governance, Inc. sat down to talk to financial and strategy expert, Mr. Pascal Levensohn. In this seventh question of ten, read what this Investment Governance, Inc. Advisory Board member has to say about how institutional investors can connect with venture capital ("VC") fund managers. Click here to read Mr. Levensohn's impressive bio.

SUSAN: Should institutional investors directly contact venture capital fund managers or work through traditional investment consultants, assuming that the latter parties have the background to conduct due diligence on the VC funds?

PASCAL: First, nothing beats direct contact with managers.  I think the VC industry conferences in specific industry sectors provide a great forum for institutional investors to meet directly with VC funds. Historically the two largest conferences have been sponsored by IBF and DowJones.  There are also sector specialty conferences, such as the IT Security Entrepreneurs Forum held annually on the Stanford campus that bring out domain experts. I think that it also makes sense for institutional investors who don’t have the resources to do a full search to work with consultants. However, I will say that, in my experience, many consultants become gatherers of statistics and information—meaning paper pushers—and few of them actually bother to have a deep and current understanding of what is really going on in the market. I’ve actually been shocked at how clueless some consultants are about what is really going in the VC industry. I think the evidence supporting this point is in the fact that, because of the long-term nature of the VC business, consultants will choose to back a certain fund and then assume that they can sit back and wait for five or ten years to see if they made the right choice. This is a big mistake and one of the root causes is because there is a low probability that the same analyst or partner in the firm that made the original “commit” decision is still going to be the engagement consultant even four years after the original decision to recommend the fund was made.  So I am suggesting that a lot of the “standard” recommendations by the consultants in VC are stale. A pension, endowment, foundation, etc needs to do research on the consultant’s process as well as directly meet with the venture firms. Any venture firm that won’t meet with you probably doesn’t need your money and won’t give you the kind of respect in a relationship that you should expect, so that’s a great first cut in your process.

Are Limited Partners Getting the Upper Hand?

On March 1, 2010, Dr. Susan Mangiero, CEO of Investment Governance, Inc. sat down to talk to financial and strategy expert, Mr. Pascal Levensohn. In this sixth question of ten, read what this Investment Governance, Inc. Advisory Board member has to say about the balance of power between institutional investors and venture capital fund managers. Click here to read Mr. Levensohn's impressive bio.

SUSAN: You have some thoughts about contract terms. Do you think the trend is shifting in favor of institutional limited partners ("LPs") to receive better terms as venture capital ("VC") fund investors?

PASCAL: Certainly as the sources of capital have become more  selective and scarce, the general partners ("GPs") have had to become more aware of LP concerns over terms. While  the GPs in top tier funds will still be able to maintain favorable terms (and LPs will always want to get into their funds), even these GPs have made some  concessions to maintain a supportive investor base. For example, recent press  reports have indicated that at least two prominent funds lowered their "premium" carry structures, making the payment of a 30% carry rate subject  to the return of a multiple of the investors' capital. For those other funds that are not oversubscribed, there will undoubtedly be some pressure on terms. Though there has been a lot of talk about the terms suggested in the recent guidelines published by the Institutional Limited Partners Association ("ILPA"), these guidelines have not fully caught hold (and some proposed terms –like joint and several liability on clawbacks — may be seen as too extreme). Still, in the current fundraising environment, there will certainly be some movement to provide an  alignment of interests between LPs and GPs, while trying to maintain the appropriate incentives for the GPs.

Governance of Venture Capital Fund(s)

On March 1, 2010, Dr. Susan Mangiero, CEO of Investment Governance, Inc. sat down to talk to financial and strategy expert, Mr. Pascal Levensohn. In this fifth question of ten, read what this Investment Governance, Inc. Advisory Board member has to say about how venture capital firms govern themselves. Click here to read Mr. Levensohn's impressive bio.

SUSAN: How are venture capital ("VC") funds governed differently from the governance standards they apply to their portfolio companies?

PASCAL: This is a very important question. It starts with recognizing that VC funds, as partnerships, are governed quite differently from their portfolio companies which are typically set up as corporations. The VC fund may have one managing partner that sets the tone and controls the entire firm or it may have a collegial distribution of governance among several senior partners.  The best way to understand how a VC fund is governed begins with an analysis of the fund’s investment committee, its deal due diligence process, and the specific allocation of the fund’s investment capital among the individual partners.  An important question to ask is whether the partners evaluate themselves and each other on an annual basis, if at all. You might be surprised to learn that many VC funds lack an internal feedback loop, that the partners may not communicate openly among each other, and that the partners themselves may lack a formal measure of accountability among each other, even though the economics are laid out formally in the management company agreement.

Turning to portfolio companies, the board of directors is responsible for the governance of the company, and here we have a very interesting dynamic which often leads to board dysfunction. The VC directors have inherent conflicts of interest as representatives of their funds and as fiduciaries who must act in the best interests of all of the shareholders.  In addition there is a major tension and conflict between the management team and the VC directors. The management wants more share ownership. The common equity is at the bottom of the seniority stack behind the various series of preferred equity rounds. The VCs want capital efficiency, which means they want management to do more with less. Compounding the complexity is the fact that most VC-backed companies replace their CEOs twice between the founding and the liquidity event. So you can imagine that the VC boardroom governance equation is very complex and rife with opportunities for problems.

Team Risk and Venture Capital Investing

On March 1, 2010, Dr. Susan Mangiero, CEO of Investment Governance, Inc. sat down to talk to financial and strategy expert, Mr. Pascal Levensohn. In this fourth question of ten, read what this Investment Governance, Inc. Advisory Board member has to say about team risk. Click here to read Mr. Levensohn's impressive bio.

SUSAN: How do you manage risk when backing serial entrepreneurs?

PASCAL: When we back serial entrepreneurs, it is critical to assess where they are today in their lifetime achievement and performance potential curve.  By that, I am reminded of the fundamental risk in looking at track records—“past performance is not indicative of future returns.”  It amazes me how many investors chase performance and don’t pay attention to the current team composition at the VC manager, to the current dynamics of the partnership.  Ideally you want to back a proven winner who is still hungry enough to deserve a seat at the table.  Venture capital is totally a hits-driven business, but there are very few hitters, either VCs or entrepreneurs– who are able to hit multiple home runs.  When you look at VC’s, you want to find VC’s who are magnets for great entrepreneurs, whether they are first timers or veterans, and rely on the VCs’ pattern recognition ability to make that judgment call in picking a winner.  One way to mitigate risk is to assess how deep the team is in the VC organization—remember that you are making a 10 year bet on a team, and few teams stay together through an entire cycle.

Key Person Risk - Whom to Back

On March 1, 2010, Dr. Susan Mangiero, CEO of Investment Governance, Inc. sat down to talk to financial and strategy expert, Mr. Pascal Levensohn. In this third question of ten, read what this Investment Governance, Inc. Advisory Board member has to say about key person risk. Click here to read Mr. Levensohn's impressive bio.

SUSAN: Given recent instances of VC-backed company fraud and questions about the management team, how can institutional investors protect themselves from key person risk?

PASCAL: You are asking a fundamental question here about trust. I could restate your question by saying, how do I know that I’ve backed someone as a general partner ("GP") who is trustworthy?  The answer is, you have to do your homework on that person, which means that you have to make a full range of reference calls to people who are not on the person’s reference list.  This takes resources and time.  If you are not equipped with the resources to do the work, then you need to rely on someone else’s process—but again that has to be an independent third party whose due diligence credentials are also trustworthy.

Let me turn the table on you a little bit because I sit in your shoes all the time– as a venture capitalist who bets on entrepreneurs, my greatest challenge is to sit across the table from a very enthusiastic person and judge their credibility—Will they actually do what they say they are going to do?  Will they work 24/7 to get the job done?  How will they behave when unforeseen challenges occur—which they always do? 

Institutional investors have to do the same thing because they are betting on people, and they need to establish a considerable measure of trust if they are going to sign on to a 10 year commitment to invest in illiquid assets.  This is the toughest part of our jobs. As I look back over my the 14 years I have spent in venture capital, as part of my 29 year finance career, the biggest mistakes I have made have always been related to key person risk, as opposed to picking the “wrong” technology.

Private Company Investing and Limited Financial Information

On March 1, 2010, Dr. Susan Mangiero, CEO of Investment Governance, Inc. sat down to talk to financial and strategy expert, Mr. Pascal Levensohn. In this second question of ten, read what this Investment Governance, Inc. Advisory Board member has to say about transparency or lack thereof when investing in a non-public company. Click here to read Mr. Levensohn's impressive bio.

SUSAN: Especially now, when transparency is so important, why is limited financial information available from a private company?

PASCAL:  Actually there is plenty of financial information available from private companies, but that does not mean that it is available to institutional investors as passive investors who are limited partners ("LPs") in venture capital or other private equity partnerships.

Putting that point aside, for a moment, what is absent is a quoted liquid market in their equity and debt securities, which means that the determination of the book value of those private companies is necessarily subjective. Institutional, or any other investors, for that matter, who choose to invest in illiquid securities, presumably do so because they expect to obtain superior returns from the illiquid securities at the end of the investment period than they would from liquid securities over the same period—otherwise it’s not worth giving up the liquidity and taking the risk of the longer holding period. To get to the core of your question, providing passive institutional investors with more financial information about illiquid securities isn’t going to make them more liquid.  They key is whether you can rest assured that the general partner who is responsible for managing your investment is honoring the trust that you have placed in that manager.

There has been a multi-year move among auditors, driven by demand for greater transparency in understanding the process behind the book valuation of private, illiquid investments, to bring more of a “mark to market” approach in the way the general partners of private equity partnerships value their portfolios.  Before I discuss this in more detail, I should fully answer your question:  the main reason why general partners, particularly in venture capital, should legitimately limit the amount of information they disclose to their investors about their private investments is (1) competitive considerations, particularly for disruptive emerging technologies where protecting intellectual property and market competition from large companies are defining elements in the company’s potential for success.

Having said that, if a sophisticated institutional investor insists on having the right to inspect the details about specific private investments, see business plans, and otherwise get details about the company, if they are prepared to sign a confidentiality agreement and have a good reason for wanting to see this information, it certainly exists and can be made available.

To address the broader point about accuracy in book valuation, I am concerned that the developing industry standard for venture capital is at risk of going too far while providing no real benefit to investors. I see the auditors forcing excessive quarterly compliance burdens on the general partners, and this trend has been developing since the institution of 409a valuations for common stock.  The reason I feel this burden is unnecessary is because, in my view, the additional information may be very precise without being accurate.

The fact remains that you don’t know the value of a private asset unless you actually intend to sell it.  And in venture capital, the second you become a forced seller of a company, you have given it the equivalent of the kiss of death.  For many emerging companies, the moment that you become a bona fide seller and are perceived to have to sell the asset, the value will be diminished—so you can imagine why the lack of an IPO market is the single greatest source of distress for venture capital in the U.S.  To conclude on this question, I’d like to emphasize that, in my view, for early stage companies with little or no revenue, valuation models driven by public equity or option inspired equity models simply make no sense.

Information Rights for Limited Partners Invested in Venture Capital

On March 1, 2010, Dr. Susan Mangiero, CEO of Investment Governance, Inc. sat down to talk to financial and strategy expert, Mr. Pascal Levensohn. In this first question of ten, read what this Investment Governance, Inc. Advisory Board member has to say about information rights. Click here to read Mr. Levensohn's impressive bio.

SUSAN: How much information are limited partners entitled to (pensions, endowments, foundations, etc) receive from a venture capital ("VC") fund?

PASCAL: Section 17-305 (b) of the Delaware Revised Uniform Limited Partnership Act, which governs LP information rights according to DE law, specifically allows the GP to withhold from LPs “any information the GP reasonably believes to be in the nature of trade secrets or other information the disclosure of which the GP in good faith believes is not in the best interest of the Fund or could damage the Fund or its business or which the Fund is required by law or by agreement with a third party to keep confidential.” This would include the GP’s fiduciary duties and confidentiality obligations with respect to not disclosing portfolio company information without the consent of such company. The Act provides for a specific list of information that LPs are entitled to, and funds historically disclose that same information to their LPs—the top law firms in Silicon Valley model their LP agreement forms to be pretty consistent with Delaware law.

Specifically, Section 17-305 of the Act provides for the following:

(a) Each limited partner has the right, subject to such reasonable standards (including standards governing what information and documents are to be furnished, at what time and location and at whose expense) as may be set forth in the partnership agreement or otherwise established by the general partners, to obtain from the general partners from time to time upon reasonable demand for any purpose reasonably related to the limited partner’s interest as a limited partner:

(1) True and full information regarding the status of the business and financial condition of the limited partnership;

(2) Promptly after becoming available, a copy of the limited partnership’s federal, state and local income tax returns for each year;

(3) A current list of the name and last known business, residence or mailing address of each partner;

(4) A copy of any written partnership agreement and certificate of limited partnership and all amendments thereto, together with executed copies of any written powers of attorney pursuant to which the partnership agreement and any certificate and all amendments thereto have been executed;

(5) True and full information regarding the amount of cash and a description and statement of the agreed value of any other property or services contributed by each partner and which each partner has agreed to contribute in the future and the date on which each became a partner; and

(6) Other information regarding the affairs of the limited partnership as is just and reasonable.

The current state of the art for Agreements of Limited Partnership in venture capital allows the GP to override the information rights LPs have pursuant to the Delaware Revised Uniform Limited Partnership Act (the “Act”) as permitted pursuant to the Act and allows the GP to “adjust” identifying information given to the LPs in order to protect the identity of the Fund’s portfolio companies, which often is an issue in the case of Freedom of Information Act (FOIA) LPs. In addition, the partnership agreement allows the GP to restrict / withhold information from LPs if “the General Partner reasonably determines [such LP] cannot or will not adequately protect against the [improper] disclosure of confidential information, the disclosure of such information to a non-Partner likely would have a material adverse effect upon the Partnership, a Partner, or a Portfolio Company.” Other elements of the well drafted agreement do provide the LP’s with disclosure rights to their advisors, equity holders, etc. and provide remedies and protections to the GP with respect to GP withholding rights and improper LP information disclosure.

To Exit or Not Exit - That is The Question

If a picture is worth a thousand words, limited partners will want to ask general partners a lot of questions about projected exits. According to "VC exits still not a pretty picture" ( - January 4, 2010), a dearth of liquidity events in 2008 and early 2009 cast a pallor over the private markets, depressing M&A activity and creating angst for anyone in search of cold hard cash. 

The tide may be turning if late 2009 activity is a bellwether for 2010 initial public offering ("IPO") volume. Reporter Cara Garretson describes research conducted by Thomson Reuters and the National Venture Capital Association that hints at a recovery, albeit modest by historical comparisons. With 67 mergers and acquisitions and 5 IPOs for venture-backed firms in Q4-2009, coupled with at least 29 companies that have filed with the U.S. Securities and Exchange Commission to go public, life may be sweet indeed for some. (See "IPO, Acquisition Activity Raises Hopes for 2010,", January 4, 2010).

Closer to home, Financial Engines has signaled its intent to raise $100 million by selling stock to the public at large. Self-described as a "leading provider of independent, technology-enabled portfolio management services, investment advice and retirement help to participants in employer-sponsors defined contribution retirement plans," this California company received private market monies from giants such as New Enterprise Associates and Oka Hill Capital Partners. (See "Financial Engines Inc files for $100 min IPO" by Clare Baldwin, Reuters, December 9, 2009.) A brainchild of Nobel prize winner Dr. William Sharpe, Financial Engines recently claimed $25 billion in managed accounts and nearly 400,000 participants.

For those in the investment industry, the Financial Engines S1 filing with the U.S. Securities and Exchange Commission makes for interesting reading. Cited risk factors include:

  • "Decline or slowdown of the growth in the value of financial market assets" which reduce revenues related to management
  • "Negative public perception and regulation of the financial services industry"
  • Elimination or decrease of sponsor 401(k) matches which could lower assets under management
  • Pressure to reduce fees charged for "portfolio management, investment advisory and retirement planning services"
  • New regulations that impact any organization that offers subadvisory work, etc.

Later pages of the Financial Engines regulatory report offer insight about the growth potential for those seeking to expand their presence as part of the U.S retirement savings industry. The commentary includes reasons why management account business is likely to grow. 

Stay tuned for what could be a watershed year in terms of public filing reversals.

Return, Liquidity and Valuation


More than a few of our recent conversations with pension, endowment and foundation decision-makers focus on hard-to-value investing. At a time when 2010 beckons with the hope of a buoyant market, institutions seek returns from alternatives such as hedge funds, private equity and venture capital. According to "The Endowment & Foundation Market 2009," put out by the Spectrem Group, about six out of ten organizations seek to rebuild by emphasizing non-traditional asset allocations. Other recent studies confirm the same sentiment with the caveat that liqudity is key.

Therein lies the rub.

  • Can you invest in "hard to value" assets and satisfy a need for ready cash at the same time?
  • Who should monitor valuation of "hard to value" assets?
  • What areas of concern are most acute from the investment decision-maker perspective?
  • What elements are "must have" with respect to effective policies and procedures?

In my September 11, 2008 testimony before the ERISA Advisory Council on the topic of hard to value investing, I emphasized the need to subsume pricing as part of pension risk management (though the concept transcends retirement plans, with full applicability to endowments, foundations, college plans, sovereign wealth funds and other types of buy side executives).

Click to access the United States Department of Labor Advisory Council report on hard to value investing. 

Participate in a short survey entitled "Hard to Value Investing Policies and Procedures." The questionnaire consists of twelve multiple choice queries. For those interested in receiving survey results, be sure to include your name and email address before you hit the "Submit" button.

Is $88 Million Missing and If So, On Whose Watch?

According to TechCrunch ("Canopy Financial Turns Into Sad, Comical Game of Hot Potato" by Michael Arrington), nearly $90 million in venture capital money may have done little to thwart alleged fraud at Canopy Financial. If true that this company has been reporting incorrect numbers, why has it taken so long to uncover?

Here is what I've been able to uncover from a quick search of the web (with no guarantees that these website links will remain live much longer, if they even exist now):

  • Canopy Financial was listed #12 on Inc. Magazine's 2009 list of fast-growing companies with reported growth of nearly 8,000%, 84 employees and 2008 revenue of $19.8 million. Click to read more.
  • Important website links for Canopy Financial except for a single Contact Us page (About Canopy, Learning Center, Solutions, Press Releases, Clients) are broken.
  • Red Herring reported that Canopy Financial raised $15 million in a "funding round led by Granite Global Ventures," allowing this health insurance-related service company to "develop and market some of its new products and services." Read "Canopy Financial Banks $15M" by Cassimir Medford (January 10, 2008).
  • Healthcare Finance News reported on an acquisition by Canopy Financial about a year ago. See "Canopy Financial buys CareGain" (October 20, 2008).
  • PE Hub writes that Canopy Financial's CEO claims "no prior knowledge whatsoever of any fraud..." Click to read "Statement from Canopy Financial's Ex-CEO" by Dan Primack (November 24, 2009).
  • The link to Perkins Coie is likewise broken though Google shows text that reads "Represented Canopy Financial in its Series A and Series B Preferred stock financings."
  • lists financing for Canopy Financial in the amounts of $15 million Series A funding (January 2008), $8 million Series B funding (August 2008), $4 million in debt funding (2009) and $62.5 million in Series C funding (October 2009). Click to read more.
  • Health Care IT News reports a partnership between Canopy Financial and Wolters Kluwer Financial Services to "make Canopy's healthcare banking platform available to all banks and credit unions." See "Financial providers integrate HSAs for banks" by Molly Merrill (February 14, 2008).
  • Canopy Financial reports the release of its "Mobile Consumer Directed Healthcare (CDH) Software Application." Read the May 13, 2009 press release.
  • Canopy Financial sought to recruit a product analyst as recently as November 9, 2009.
  • Canopy Financial's November 3, 2009 press release describes a partnership witih A.D.A.M., a "leading provider of healthcare information technology." Click to read more.
  • Canopy Financial sends out a March 2009 press release that lauds its successful completion of the "Statement on Auditing Standards No. 70 (SAS 70) Type II audit, which assesses the operational effectiveness of internal controls within service organizations." Read "Canopy Financial Achieves SAS 70 Type II Certification."

The list continues. If true, yet another fraud perpetuated on investors would be shocking. Questions abound, some of which are listed below.

  • Who was conducting the due diligence for each funding round?
  • What due diligence was done on Canopy as relates to several acquisitions and partnerships?
  • What was the role of the auditor?
  • What questions were asked of the management team by the Canopy Financial board of directors? 
  • Did institutional investor limited partners utilize finder firms or contract with the venture capital general partners directly?
  • Did any of the investors review the SAS 70 audit report and find it wanting?

Until more facts are uncovered, everyone deserves their day in court and we can't make hasty judgments.

On a general note, the hope is that lessons are learned along the way about who is tasked to do what, on what basis and with what rigor. While I truly believe that there are many, many good players who do their work thoroughly and with high integrity, one is compelled to reflect on why the stigma and shame of dishonesty is discarded by those who rightfully deserve a place in the Financial Hall of Ignominy.

Some Venture Capital Firms Lower Fees

According to Wall Street Journal reporter Pui-Wing Tam, hedge funds are not alone in reducing their fees to entice investors. As laid out in "Venture Funds Sweetening the Terms," fund-raising is down 65% from $58.2 billion in 2008 to $20.4 billion as of the beginning of November 2009. To offset a difficult economic environment, allay concerns about longer times to exit and diminished returns reported by some managers, performance-linked fees are being put on the table.

In a related article in the same paper, the Initial Public Offering ("IPO") thaw is described as imminent. According to "Issuers Look to 2010" by Lynn Cowan (November 23, 2009), underwriters prepare to help private businesses make their public debut. Notably, nearly 40 companies have "filed paperwork to start the IPO process, compared with eight during the same period of 2008."

It will be interesting to watch whether IPO-related liquidity leads to any retraction of performance-linked venture capital fees currently being offered to limited partners.

Trust, Institutional Investors and Their Service Providers


Financial scandals, decimated 401(k) plans and significant fallout on Wall Street are only a few of the pain points that leave one longing for halcyon days of yore. There is a lot of talk about broken promises and attempts to regain client trust.

Even outside the financial services sector, long known for its reliance on interpersonal relationships, sellers are working hard to rekindle the love with their consumers. In "Corporations work to regain customers' trust" (September 18, 2009), Business Week reporters David Kiley and Burt Helm write that "In the world of branding, trust is the most perishable of assets." Adding to marketers' woes, recent polls suggest gross unhappiness with business in general, something that slick ads are unlikely to fix.

Closer to home, "Can You Trust Your Consultants and Service Providers? (Human Resources, October 2009) addresses the critical relationship between service providers and consultants and 401(k) plan fiduciaries. The article quotes Nixon Peabody attorney Sherwin Kaplan as saying that "trust with providers should be earned, not implied" and that sponsors must properly select and then monitor each vendor. Aside from the obvious problems associated with conflicts of interest and fees, Attorney Kaplan mentions new worries in the form of fiduciaries suing each other over questions about suitability and due diligence.

In yet another related item, uber venture capitalist Fred Wilson opines on "Ten Characteristics of Great Companies" (September 3, 2009) with attribute number 10 being that "Great companies put the customer/user first above any other priority." We concur absolutely but know that more than a few service providers are challenged to deliver above and beyond the call of the duty at the same time that sales and client relationship management budgets are being cut to (in some cases) unsustainable levels. 

In "Broker's World: Fiduciary-Like Process Could Become Voluntary" (September 23, 2009), Wall Street Journal reporter Annie Gasparro describes the inevitability of a national (U.S.) focus on new broker-dealer rules. Boston University law professor Tamar Frankel is quoted as saying that "If the clients can trust them, they won't have to do all the freebies like lunches to get their business."

As both a buyer and seller of services, I like to think that my perspective considers both sides of the aisle. In the spirit of open conversation, I've listed a few thoughts below. I welcome your comments.

  • Integrity (a precursor to building a relationship of trust) must be a core element of an organization's enterprise-wide culture.
  • Customer service does not have to deteriorate with budget cutbacks.
  • Discounting of fees does not necessarily translate into automatic trust, especially if it encourages a service provider to cut back on quality or lose money instead.
  • Clients should be willing to provide constructive feedback to service providers before calling it quits. A reasonable period of "remedy" should be decided upon before pulling the plug.
  • The compensation structure on both the buy and sell side should encourage long-term value maximization on behalf of relevant constituencies.
  • Conducting assessments as to what remains critically important to institutional investors versus "nice to have" or "waste of time" should occur on a regular basis.

It is undeniably a brave new world. Without trust and a focus on long-term relationship building, new business for investment service providers may end up costing a bundle. Instead of being hired to "rescue" institutional investors such as pensions, endowments and foundations by granting advice, an absence of trust could induce more risk in the form of litigation and harm to reputation, resulting in service providers themselves asking for a safety net.

Dr. Susan Mangiero to Speak at Dow Jones Private Equity Analyst Conference 2009

 I am delighted to have an opportunity to speak at the upcoming Private Equity Analyst Conference 2009, to be held at the Waldorf Astoria from September 16-17, 2009. With so much focus now on ethics, conflicts of interest and transparency, the panel topic I've been asked to address is near and dear to my heart.

I've reprinted the session description below. Click here to learn more information about the conference in its entirety.

Title: "Avoiding Major Trouble: Why Private Equity Firms Must Spend More Time On Ethics"

Description: Ethics has become one of the key words over the past year, especially given the fallout on Wall Street. And regulations, both in the U.S. and overseas, now place strict curbs on many established business practices in an effort to stem corruption. The consequences for companies, both in fines and damage to reputation, can be significant, which means investors need to pay attention. But as the disclosures earlier this year in New York make clear firms are not doing as good a job as they can adhering to such policies. So what should firms be doing to ensure that they themselves as well as their portfolio companies stay compliant with not only various regulatory codes, but also just doing good business? What is the message that firms can drive home to their partners and their portfolio companies? Our panel provides their thoughts.


  • Barry Gonder, General Partner, Grove Street Advisors
  • Pascal Levensohn, Founder & Managing Partner, Levensohn Venture Partners
  • Susan M. Mangiero, Founder & President, Pension Governance
  • Raymond Svider, Co-Chairman & Managing Partner, BC Partners.

How Important Are Exit Events to Venture Capital and Private Equity Limited Partners?


If there is any silver lining from the recent market rout, it is (hopefully) a renewed focus on how to comprehensively risk adjust returns. For some pensions, endowments and foundations, barriers to liquefying positions have come as an unpleasant surprise. Other institutional investors appear to embrace illiquidity as a gateway to possible rewards, evidenced by their allocation of monies to venture capital and private equity.

Interestingly, there seems to be something brewing on the buy side with respect to less liquid investments. One might argue that defined benefit plans and other long-term investors should query about distributable cash along the way for a company "built to last" rather than encouraging professional fund managers to back multiple start-ups and hope that at least one or two of them can be flipped within a reasonable period of time at a higher price than cost. 

In "The Venture Capital Math Problem" (April 29, 2009), Fred Wilson, notable principal of Union Square Ventures, predicts that "We'll see some of the large public pension funds who have been drawn to venture capital over the past decade decide to leave the asset class because it does not scale to the levels they need to efficiently invest capital." If I understand Wilson's blog post correctly, he seems to be suggesting that a shrinking venture capital industry is a good thing. His arithmetic goes like this:

  • Venture capitalists raised between $20 to $30 billion each year between 2004 and 2008 or an average of $25 billion of deployable funds.
  • This money "needs to generate 2.5x net of fees and carry to the investors to deliver a decent return" or 3 times gross returns or $75 billion "in proceeds to the venture funds."
  • Assuming that each venture capitalist fund owns an average of 20% of funded companies, $75 billion in gross proceeds to them "must come from exits producing $375bn in total value."

Even allowing for Wilson's estimate of average total (multiple fund) venture capital equity interest of 50% and required sales of portfolio companies equal to $150 billion, the message is clear. At a time when capital market conditions have all but shuttered traditional exits, how can the typical VC fund return "enough" to entice new limited partners and/or maintain current allocations?

Rosetta Stone, a provider of language instruction products, brought recent smiles to investment bankers everywhere with a highly successful stock issue a few weeks ago. See "Rosetta Stone IPO Soars," U.S. News & World Report, April 16, 2009. Before then, Thomson Reuters and the National Venture Capital Association had reported an absence of Initial Public Offering ("IPO") activity for two quarters, with merger and acquisition ("M&A") exits fewer than 60 transactions for Q1-2009. See "Venture-Backed Exit Market Remains a Concerns in the First Quarter" (April 1, 2009).

According to Wilson, the venture capital math problem is this. If the industry requires $150 billion per year in exits but is getting about $100 billion instead (half of which is returned to venture capital fund managers), VCs end up earning about $40 billion, net of fees and carry. This is roughly 1.6 times on investor's capital if $25 billion per year ends up in venture capital pools. "If you assume the investors' capital is tied up for an average of 5 years..." then one should expect about 10% per annum. Whether 10% (if realized or surpassed) is sufficient reward for pensions, endowments and foundations remains to be seen. As VentureBeat writter Anthony Ha suggests, venture capital returns oft compare favorably to traditional equity investments. Consider that the reported 3 year return for "All Venture" was 4.2% compared to -10.3% for NASDAQ and -10% for the S&P 500. Refer to "Don't stop believing: Venture performance didn't dip that badly,", April 27, 2009.

The reality is that information about projected return drivers is necessary but not sufficient for pension decision-makers. Financial and regulatory exigencies now confront retirement plan fiduciaries in ways that are complex and impossible to ignore. A particular venture capital fund may look appealing to certain trustees in terms of return potential but be turned away because liquidity trumps. On the other hand, underfunded plans may seek salvation by ratcheting up their exposure to investments with the potential to generate more than the commonly used 8% return on asset assumption. Cash is increasingly king for schemes that require mandatory "top ups."

If indeed fewer monies make their way to venture capital, infrastructure and private equity fund managers, what will this trend mean for future economic growth opportunities? The answer is likely to vary, depending on your belief as to whether venture capitalists can jump start innovation. Certainly, some great companies in the United States and abroad have been backed by those general and limited partners willing to take early stage company risks. See "Venture Impact: The Economic Importance of Venture Capital Backed Companies to the U.S. Economy, Fourth Edition," Global Insight, 2007. A countervailing view is that, contrary to the desires of the National Venture Capital Association, taxpayer dollars should not subsidize attempts to restore liquidity. See "Another dumb way to spend taxpayer money" by Harold Bradley, Kansas City Star, May 1, 2009.

As an advocate of free markets and the notion that necessity is the mother of invention, it is refreshing to learn that several organizations have or are formalizing mechanisms to trade otherwise illiquid economic holdings. Financial expert Roger Ehrenberg has an interesting take on the creation of private markets for venture-backed positions. See "Private Equity Markets" Not Today, Perhaps Tomorrow" (April 26, 2009).

To exit or not exit. That is the question of the day.

Are Pension Funds the New Venture Capitalists?

According to "Calpers Weighs Expanding Own Hedge-Fund Investments" by Jenny Strasburg and Craig Karmin (Wall Street Journal, April 16, 2009), the giant California pension fund may be the first stop for fledgling hedge fund managers who seek start-up resources. Described as a way to have "more control over its money," incubating hedgies would "mirror an approach the $175 billion pension fund has taken with private-equity managers."

 Interestingly, news accounts have Calpers losing a senior investment officer in late January 2008. Credited for helping "CalPERS pioneer many new investments," including hedge funds, Christianna Wood has joined Capital Z Asset Management as CEO. Their website describes Capital Z Asset Management and its affiliates as providing "sponsorship capital to hedge funds and structured products while assuming a meaningful minority interest in their management companies and general partners." Refer to "CalPERS Manager Leaves for Hedge Fund" by Murray Coleman,, January 29, 2008.)

The role of CalPERS and other potential "angels" raises a host of interesting questions, some of which follow:

  • Will large retirement plan incubators displace high net worth investors?
  •  Will large retirement plan incubators displace fund of funds and/or pension consultants?
  •  How will pension fiduciaries properly discharge their oversight duties if they are taking management positions in hedge funds that in turn receive plan assets? (Recall that CalPERS acquired a 9.9% ownership stake in Silver Lake Partners, a private equity firm that invests in technology and technology-enabled companies. CalPERS has a seat on Silver Lake's Advisory Board as a result. If CalPERS is allocating monies to Silver Lake Partners, has their due diligence process changed? See "Silver Lake Announces Long-Term Strategic Partnership with CalPERS," January 9, 2008,
  • Might venture capital firms be adversely impacted if pensions decide on a "do it yourself approach instead of plunking down money with Silicon Alley or Valley or international equivalents? (Dan Primack, editor of, aggregates national and regional venture capital data. See "Q1 VC Numbers: Oh, The Horror," April 18, 2009).

 As the capital markets reconfigure, there are opportunities aplenty for everyone. Will the economic crisis beget a brave new world wherein retirement plan assets are used to grow small companies? Who will win? Who will lose? Interesting food for thought.