Tuesday, September 21, 2010

"Intel Capital's Keith Larson: Venture Capital and the Impending Pension Crisis"

From Knowledge@Wharton:
(We read it, no HT)

What does the rapidly unfolding pension crisis in the United States have to do with venture capital firms in Silicon Valley? A lot, according to Keith Larson, a vice president at Intel Capital and a managing director of the manufacturing sector, Taiwan, Korea and Latin America. In a presentation at Wharton San Francisco, Larson outlined how massive pools of money largely dedicated to safeguarding the retirements of municipal, state and federal workers across the country pumped the venture capital ecosystem full of cash for the decade prior to the current recession -- and then dramatically reversed course. 

In addition, Larson said, reverberations from the ongoing contraction in the venture capital industry are only the first signs of an inevitable and significant tightening in the sector. "I have heard some estimates of a contraction on the order or 25% or greater in the number of funds and the number of people working in venture capital." What lies ahead, he suggested, are some tough political decisions on right-sizing pension benefits -- decisions that would seem to bode poorly for future sources of income for venture capital and private equity funds used to receiving money from public pension retirement funds.
Larson not only serves as one of the country's most prominent venture capitalists at Intel's $1.9 billion dollar captive corporate fund, but also is a member of the board of directors of the Oregon Investment Council (OIC), an advisory group that manages roughly $60 billion in pension funds for state workers in Oregon. Larson said that, at its core, the big problem pension funds face is an issue that has already been settled by many companies in the private sector -- the transition from defined benefit retirement funds to defined contribution retirement funds. In defined benefit plans, employees receive a guaranteed retirement payout. In defined contribution plans, such as 401(k)s, retirement investing is left up to the employee, and there are no guaranteed payouts. 

Even before the financial crisis, public pension funds in the U.S. had been extremely underfunded. Abnormally and unsustainably high investment returns for pension funds lulled many public fund managers and government officials into believing that the underfunding problem would be resolved without any painful cuts to benefits, Larson noted. That illusion was shattered by real estate crashes in several nations and accompanying dips in virtually all asset classes around the globe over the past three years. "This had two profound effects on the public pension funds," Larson pointed out. "First, their investments in alternative assets became illiquid. Second, the funds became underfunded even more than before." 

Painful Choices
While private sector entities had already moved decisively to cut pension burdens, such movements in the public sector will likely take far more time to evolve. "How does this play out over time? Cash inflows have become less than cash outflows for most funds," Larson said. This necessarily results in a choice between potentially painful outcomes. One is raising taxes -- an idea the public is increasingly hostile toward. Another is cutting employees or curtailing benefits, which the politically powerful public workers unions are strongly against....MORE