Houston Firm Cracks CAPCO Club

Dennis Murphree of Murphree Venture Partners in Texas participated in the state’s CAPCO Program in 2002:

Venture capitalist Dennis Murphree has joined a small band of fund managers in the country who participate in a little-known but rapidly expanding program called CAPCO.

A handful of states have passed legislation to create programs called CAPCO, an acronym for certified capital companies. These programs spawn investment funds, some as large as $175 million, that are designed to spur economic development.

The program itself is complicated, but it wasn’t difficult for Murphree and his partners to decide they wanted to be involved.

Houston-based Murphree Venture Partners currently has $85 million under management, a total that includes $6.5 million in new investment in its fifth fund set to close this week.

As a CAPCO fund manager, Murphree has a chance to pump up his total fund amount by entering the arena of large institutional investing.

“Small firms like ours have a very difficult time cracking into the institutional market,” Murphree says. “It’s our ticket to becoming a national venture funds manager.”

A CAPCO is a state-regulated fund created to invest money that would have been paid to the state in taxes by the insurance industry.

In states with CAPCO funds, insurance companies are allowed to take a portion of the tax money they would have paid over a 10-year period on their premiums, and invest that in a fund. In other words, the state gives the insurance companies tax credits for 10 years equal to the amount they commit to investing up front in a CAPCO fund.

The funds are operated by separate CAPCO fund managers certified by the states. Each fund manager is required to invest $500,000 in the fund, and is paid a management fee by the insurance companies for services rendered.

Multiple funds can apply for a state’s allocation of tax credits. And each fund may represent several insurance companies.

The fund invests the money in small businesses. Theoretically, that investment creates new jobs and development.

A study by The University of Texas two years ago on the Missouri CAPCO program showed it has been extremely successful in answering the financial concerns of small-business owners. The study also showed that in a two- and-one-half-year period, 1,607 jobs were created through investments in 19 early-stage businesses.

The funds also stand to benefit investors. Murphree says profits from a CAPCO fund are typically divided equally among the state, the fund manager and participating insurance companies.

Louisiana, Florida, Missouri, Wisconsin, New York, Colorado and Alabama have CAPCO programs. Louisiana was the first state to try the economic development program in the early 1990s. Others followed in the late 1990s.

Colorado was the most recent state to establish a CAPCO program by passing legislation last year. The state created a pool of $100 million worth of available tax credits — which will be allocated to insurance companies over the next 10 years. Colorado closed the fund two months ago, allocating that sum to six different funds.

A $7 million chunk of that went to Murphree’s fund in that state, called Murphree Colorado CAPCO.

Murphree’s partners in Murphree Venture Partners are also his partners in the CAPCO fund. Tom Stephenson in New Mexico and Elliott Bouillion in Colorado are general partners, while Murphree is the managing general partner.

Murphree says Prudential Insurance Company of America and John Hancock are his main investors in the Colorado fund.

Rick Hrabchak, Prudential’s managing director in asset liability and the risk management group, says the insurance giant has invested in most of the states that have passed CAPCO legislation. Prudential seems to like the CAPCO program, but Hrabchak would not reveal the company’s rate of return.

“It’s comparable to alternative debt investments,” says Hrabchak, who offices in Newark, N.J. “We look at these more as a debt-type of investment for the way they’re structured.”

Expiration in Texas

Alabama is set to create the next CAPCO program, after passing legislation two months ago. In October, Alabama will select which CAPCO funds will share in money from a total of $100 million in tax credits.

Murphree says the total will likely be divvied up among all the certified funds, which he predicts will be five, so he is hoping to secure a total of $20 million in October to invest.

The Texas Legislature passed a CAPCO bill in May 2001, but the program was allowed to expire before a fund was created.

The state did not have enough revenue in the last budget to cover the tax credits, so the program “essentially has died,” says John Krueger, a legislative aide with Sen. John Carona, R-Dallas.

The CAPCO program will be revisited when the next Texas legislative session begins in January, Krueger says.

Florida is planning to do a second CAPCO program early next year. The state has not announced how large that allocation will be, but its first one totaled $175 million.

Murphree’s intention is to establish funds and get involved in every state that institutes the program.

“A lot more are working on CAPCO legislation,” Murphree says. “It’s a way of getting the insurance companies to invest in the states to create jobs.”

Murphree and his partners want to join the ranks of the four CAPCO managers considered to be national managers. They hope to win more business by posting higher returns than their competitors.

“The returns they’ve generated have been pretty average,” says Murphree, whose firm has achieved a 10-year internal rate of return of 59.8 percent on regular funds.

After investing a lot of effort to become a CAPCO fund manager, Murphree has high hopes for the outcome.

“What we want to do is play on the national stage some day,” Murphree says. “This is one step in that direction.”

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