Losses and Gains: Responses Needed/Questions from Regents Needed

Business Insider runs a story on UC investments which raises questions about some of them. UCOP Daily News Clips reproduced it today. The headline, probably written separately from the text, is a bit misleading. Nonetheless, as in the case of the BREIT investments we have blogged about, the Regents need to maintain an arms-length relationship with their chief investment officer and always ask questions. "Declin(ing) to comment" isn't a good enough response when issues are raised for a public institution such as UC. Note that the article raises questions about UC investments in UC-related venture capital funds. Anything that suggests UC is involved in self-dealing investment projects that aren't providing adequate returns in particular should be carefully examined.

The University of California has invested billions in venture capital firms since 2000 and it has lost hundreds of millions so far. Here's why. 

Business Insider, Ben Bergman and Darius Rafieyan, 4-11-23

UC Investments, which manages the University of California's $152 billion in endowment and retirement accounts, has invested more than $3.4 billion since 2000 in venture capital funds managed by well-known firms such as Khosla Ventures, Insight Partners, and Lightspeed Partners.  But through the middle of last year, UC Investments had only received $2.6 billion in distributions from these VC funds, according to an Insider analysis, meaning so far at least it would have been far better off investing in index funds rather than far more risky and higher fee venture firms (the S&P 500 index has delivered a compounded average annual growth rate of 10.7% per year for the last 30 years.) 

Insider obtained UC Investments' returns through a Public Records Act request, providing a rare look at what is normally a closely guarded secret in the highly opaque world of venture. Unlike many other financial institutions, VC funds are not required to show their return on investment in startups. UC Investments, which has been managed by Jagdeep Singh Bachher since 2014, declined to comment. 

It is important to note venture investing is a long game where funds can take upwards of a decade to bear fruit and endowments often take a very long-term view of a 20-year time horizon. UC Investments says its VC portfolio has $1.9 billion in unrealized gains. Still, the valuations from last June could be optimistic given some of the most severe markdowns occurred in the third and fourth quarters of 2023. And even just looking at the 2000-2018 time period to exclude younger funds, UC Investments still received less in cash than it paid in, according to Insider's analysis.  

The reason for the underperformance could be attributed to a mix of poor fund selection, bad timing, and an ill-timed decision to sell many holdings early in 2015, missing out on six of the best years the venture world has ever seen. Soon after Bachher took over managing the University's endowment in 2014, he sold more than $1 billion of the private equity portfolio on secondary markets in an effort to reduce fees. Firms typically charge a 2% fee on assets under managemnt and 20% fee of profits.  

According to University documents, between 2014 and 2015 the endowment sold off its stakes in nearly two dozen venture capital funds, including high-profile names such as Bessemer, DCM, GGV, Insight, IVP, and Khosla. Some of the funds were only a year or two old at the time. Though selling early produced an initial windfall, UC Investments could have ultimately missed out on substantial gains from these VC funds. For instance, UC Investments reported paid-in capital multiples on the 2011 and 2013 vintage Insight funds of 1.52 and 1.26 respectively, severly undershooting the industry benchmarks that it uses to measure performance. Had UC Investments stayed in those funds through 2022, they would have seen multiples of 2.4 and 2.1 respectively, far surpassing the benchmarks, according to a person familiar with the funds.  

It's a similar story with the 2006 and 2008 Lightspeed funds, which UC Investments sold off early and which are listed as underperformers in the university data. UC Investments would have seen both funds outperform industry benchmarks had it staid [sic] in them until they closed, according to data provided by a person with direct knowledge of the funds. 

In-house funds 

At the same time that the University was ditching brand-name VCs, Bachner shifted hundreds of millions of dollars into an in-house fund that aimed to capitalize on research conducted by its faculty and students. UC Ventures, as the fund was known, was scrapped about two years later, according to person with direct knowledge of the matter. The University continues to make venture investments through partner funds that are UC-affiliated but operate independently. The performance of the initiative has been mixed, the returns obtained by Insider show. 

For instance, since 2016 UC Investments has sunk more than $231 million into Bow Ventures Fund I, a joint venture between UC and Bow Capital, but received less than $70,000 in distributions. The fund is marked up to $372 million on paper and last year UC Investments committed another $100 million to Bow Ventures Fund II. Bow is an investor in multiple unicorn startups including autonomous vehicle company Nuro and online lending platform Clearco. Starting in 2016, UC Investments invested $61 million into four funds managed by The House Fund, a pre-seed and early-stage fund focused on startups coming out of The University of California, Berkeley. None of the funds has returned any distributions. Among The House Fund's portfolio companies are data analytics company Databricks, recently valued at $38 billion, as well as global logistics platform Flexport. 

On the positive side, a 2018 fund from Vertical Venture Partners, a venture fund that partners with the University of California, San Diego, has returned more than triple the University's initial investment, according to the data.  Vertical is an investor in unicorn gene editing startup Inscripta and electronic switch manufacturer Menlo Microsystems. UC Investments also invested more than $800 million in funds managed by Sequoia Capital since 2018 but half those funds have posted losses, Insider previously reported.  

UC Investments does not independently break out its VC performance. But its private equity portfolio, of which venture is only a small slice, has delivered 20.8% return over the last three decades thanks to strong performance of private equity firms such as Warburg Pincus and KKR. By comparison, UC Investments earned a 8.3% return for its investment in public markets.  

Source: https://www.businessinsider.com/uc-california-investments-returns-venture-capital-2023-4; UCOP Daily News Clips.

===

PS: We are still waiting to hear from the anonymous complainer who caused a temporary blocking of one of our investment-related blog posts:

https://uclafacultyassociation.blogspot.com/2023/02/time-to-come-clean-part-2.html.