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Pension Funds and Small Firm Financing: Models of Successful Small Business Investment Programs







United States Small Business Administration
Office of Advocacy
RS 164


Pension Funds and Small Firm Financing: Models of
Successful Small Business Investment Programs

by Mariana McNeill and Richard Fullenbaum


1996. 48 p. M&R Associates, 11622 Boiling Brook Place, Rockville, MD 20852 under contract no. SBAHQ-95-C-0008



This study extends an earlier research effort, "Pension Funds and Small Firm Financing" (See Research Summary no.153 February 1995), which explored public pension fund investment in small business in 1992 by state. The earlier study indicated that only 0.6 percent of all U.S. public pension funds were invested in small business.

Focusing on those states where public pension fund investment in small business was identified as significant in 1992, this additional study, Pension Funds and Small Firm Financing: Models of Successful Small Business Investment Programs, attempts to develop models of successful small business investment programs undertaken by public pension funds that may be adopted by other states' public pension fund operations.

The underlying goal of both research efforts is to increase the amount of capital available for small business startup and expansion through greater investment by public pension fund managers.


Scope and Methodology

In this report, successful programs are defined as those that make relatively substantial direct and/or indirect investments (that is, through venture capital funds) focused on the small business sector of the U.S. economy. A goal of this study is to develop a profile of characteristics that defines a successful program and that could be replicated by other states' public pension fund operations.

The study closely examines those public pension funds identified in the earlier study as having significant small business investments. It also builds on the data sources of that effort, which included the results of surveys on direct small business investment and venture capital fund investment, recurring publications containing up-to-date information on public pension fund investments, annual pension fund reports, phone interviews with individual fund managers, and other literature focusing on small business investment programs of individual states.

Additionally, this study relies on three other data sources: (1) Economically Targeted Investments, A Reference for Public Pension Funds (by the Institute for Fiduciary Education, July 1993), a comprehensive survey from which small business investments and the characteristics of the funds that make them can be derived; (2) the Directory of Pension Funds and Their Investment Managers (Money Market Directories, Inc., 1995), covering government plans with assets of at least $1 million, and Investment Specialties Guide (Money Market Directories, Inc., 1995), which is used to identify state pension funds with venture capital investments; and (3) phone discussions with selected fund managers that focused on a standard set of questions on background, determinants of the decision-making process, fund management, and performance characteristics of the investments.

The funds that were selected as case studies for this report are: Colorado--Public Employees' Retirement Association of Colorado; Illinois--Illinois Municipal Retirement Fund, Illinois Teachers' Retirement Fund, Chicago Municipal Employees Annuity/Benefit Fund, and the Policemen's Annuity and Benefit Fund of Chicago; Massachusetts--Massachusetts State Employees' and Teachers' Retirement System and MA Pensions Reserve Investment Management Board; New York--New York State and Local Retirement System, New York State Teachers' Retirement System, and New York City Employees' Retirement System; Pennsylvania--Pennsylvania Public School Employees' Retirement System, Pennsylvania State Employees' Retirement System, and Philadelphia Municipal Retirement System; Virginia--Virginia Retirement System; Washington--Washington State Investment Board; West Virginia--West Virginia State Board of Investments; Wisconsin--State of Wisconsin Investment Board.



The following characteristics were generally associated with public pension funds that invested in small businesses:

  • There were no legislative mandates or requirements to invest in
  • small business;
  • Small business was not an explicit target;
  • Most of the alternative investments were managed externally;
  • The focus of the investments was on long-run returns;
  • Several funds had a geographic focus within the state;
  • The funds tended to invest in venture capital, be among the
  • larger pension funds, and be concentrated in the more established
  • (older) pension funds.



Successful funds have operated within an environment in which their investment options are not limited and where alternative investment initiatives have not been mandated by the states.

Three types of successful small business investment "models" were observed in the public pension funds surveyed for this research effort. The first model is an approach like that of the Wisconsin Investment Board. The investments have a heavy in-state focus and are primarily direct loans. Unlike most other pension funds, there is an extensive internal direct loan mechanism that allows evaluation of small business investment opportunities. Successful replication of this model would depend on the loan officers' expertise in the needs of small business.

The second approach is typified by the Massachusetts Pension Investment Management Board. Also with a focus on in-state investments, this model relies primarily on outside expertise of venture capital funds to do the investing. Its primary objective is to maximize returns to the fund. This model demonstrates that significant investments can be committed to the small business sector without significant internal administrative support. The success of this model depends on finding good venture capital funds whose managers (like the loan officers in the first model) understand the unique needs of small businesses.

In the third model, represented by the Virginia Retirement System, a significant portion of fund dollars is in early-stage investments. This is unlike other funds that are more heavily invested in later-stage venture capital.

To promote successful approaches, policymakers should embark on aggressive efforts to provide information on successful alternative investment strategies. Obstacles to small business investment are often created by the lack of information.


Ordering Information

Both studies are available from:

National Technical Information Service
U.S. Department of Commerce
5285 Port Royal Road
Springfield, VA 22161
(703) 487-4650; (703) 487-4639 (TDD).

Order Number: PB96 146477 (to order the earlier report, Pension Funds and Small Firm Financing, PB95 199105)

Cost: A03/$17.50; A01/$9.00 Microf.

*Last Modified 6-11-01