Interview, Fireside Chat
Beezer Clarkson: Are LPs Open for Business & Why Do LP Incentive Mechanisms Need to Change? | E1073
- Biza anticipates that without market recovery, significant fund positions may be sold at steep discounts, potentially exposing only the tip of the iceberg.
- Jason and Pesar predict that IPO windows will remain closed until the back half of 2025 (H2 2025), as isolated data points like Stripe's are insufficient to reopen markets.
- Harry suggests venture capital may begin to recover from current lows, though he is uncertain if this timeline aligns with Jason's H2 2024 prediction.
- Pesar expects a market "winnowing" process similar to the post-2000 crash correction, which took approximately three years to return venture to normalcy.
- Emerging managers unable to achieve necessary ownership percentages to return funds may be forced to reduce their fund size to the 300–700 million range.
- Pesar projects a breakage rate of approximately 50% between fund one and fund two, and an average of 17% between fund one and fund four due to scaling difficulties.
- The death of micro funds (5–15 million) is expected as the industry shifts capital concentration toward the 300–700 million bracket where LPs can achieve good returns with manageable risk.
- Growth funds are moving away from structures exceeding one billion dollars or those under one hundred million dollars, favoring the mid-sized capital range.
- LPs facing liquidity strains from pre-spent future budgets may be unable to reinvest in new funds immediately, potentially reducing check sizes or exiting the market.
- Endowments and foundations managing annual budgetary spending commitments for grants and scholarships may face hard choices regarding portfolio retention if liquidity events remain distant.
- Some LPs are reconsidering the Yale model by pausing commitments to rebalance, though skipping top managers risks losing access to them in the future.
- LPs concentrated 35% or more in venture face blistering concentration risks requiring careful liquidity management, particularly those who invested during the big run-up.
- Institutional LPs entering via spin-outs are expected to have an easier path to raising fund two compared to those entering fund one traditionally.
- LPs preferring breakout companies like OpenAI may ask GPs to hold 100% of the position rather than selling for DPI, prioritizing long-term growth over immediate liquidity.
- Pesar anticipates a deployment timeline of 12 to 18 months, which is historically atypical compared to the usual three years, leading to fewer funds being raised.
- The chasm between TVPI and DPI is expected to widen, with TVPI becoming a less reliable signal for future DPI, leading LPs to discount book values by 20–25%.
- Valuation discrepancies are emerging, with auditors advising the use of the most recent last-round pricing within six months, especially for top-tier firms.
- Large funds create misalignment where GPs earn significant management fees without returning capital, while smaller funds require higher hit rates to succeed.
- GPs with immense success will focus on upside maximization, whereas those without success are more concerned with retention and firing risks.
- Successful early-stage funds typically require a couple of fund returners, and funds over 50 million must trade off ownership and AUM to achieve outperformance.
- Underwriting a Series A fund to a 3X return is difficult without a fantastic batting average or incredible exits, especially with small ownership percentages like 0.25% at exit.
- Loss ratios from 2020 to 2022 were distorted by companies continuing to raise excessive funding, creating a disparity in book valuations that can reach billions.
- The "unstapling" of funds is expected to continue for at least the next 12 months as LPs seek LP-aligned structures and face pressure to raise.
- CalSTRS has pivoted to focus on specialized managers, positioning Pesar's team as the venture specialist to deploy capital into US early-stage venture funds and emerging managers.
- Pesar expects to deploy more money into funds one through three under the new mandate, viewing this as his primary life's work for the next decade.
- Exceptions should be made for exceptional people, with sub-50 million seed funds underwritten to a 5X return target rather than the 10X often cited as world-class.
- Reaching fund four or higher often fails due to team and track record issues, with breakage rates between fund one and fund four averaging 17%.
- Entrepreneurs are slowing fundraising to produce metrics necessary to convince GPs to invest, causing GPs to call less capital and deploy funds slower.
- Platforms like AngelList have enabled individuals to raise small funds, though these are often not considered institutional fundraises.
- VC platforms investing in funds for deal flow require robust data monitoring tools to manage hundreds of underlying companies and avoid missing opportunities.
- Persistency bias drives LPs to work with the same managers, relying on known co-investors to fill gaps where teams are not large enough for independent decision-making.
- Younger LPs may not fully understand the cost of making personal commitments every two or three years, contrasting with established investors who know exits can take up to 10 years.
- The industry is returning to a more traditional venture model, with firms like SUSE moving from opportunity funds to raising independent funds.
- Pesar believes the market is bumping along the bottom but expects it to eventually come up, maintaining that the industry remains healthy despite the current rough patch.