THE ANNUAL REVIEW 2010 - PEI Media

private equity annual review 2010 pa g e 93
JUNE
What’s behind the recent spike in exits?
“Deals are the privilege of the funded. A
private equity firm that fails to raise the
next fund ceases to exist (although its
end-of-life period is impressively protracted).
A private equity firm that fails
to raise the right size of fund becomes
a different firm, with fewer people and
fewer offices by dint of a smaller income.
It’s a disruptive step down. This analysis
is worth bearing in mind as sprouts
and blossoms begin to appear across the
frozen tundra of the deal market. Transactions
are indeed beginning to happen,
but GPs appear to be hugely focused on
scoring exits. A cynic would say that some
of these exits have been put on the fast
track in order to ensure a more successful
follow-on fundraising in the near future.”
JULY/AUGUST
On research into style drift
“Confirming conventional wisdom, those
firms that had been prodigious adders of targeted industries
over the prior five years had a lower average performance over
the subsequent years. And in a finding that will no doubt delight
specialist firms, those GP groups that had diversity scores near
1 (in other words, no industry diversity) tended to be the best
performers. Overall, Gottschalg says his research confirms that
‘it’s really good if you’re focused. It’s harder to be unfocused,
and if you recently became unfocused, that’s the most difficult’.”
SEPTEMBER
On succession in private equity
“One doesn’t often hear the term ‘retirement’ in private equity,
at least not in the US. While a number of big-time hedge fund
managers have announced their retirements in recent years, it
is hard to think of any private equity founders who have simply
walked away from the job. More often, these founders hold forth
the promise of long (or excruciatingly long) succession plans, or,
in too many cases, have no succession plans, somehow believing
their investors will have no opinion about committing capital to
a ten-year fund under the iron rule of a septuagenarian.”
OCTOBER
The finer points of LP co-investment
“The vast majority of co-investment deals made available to limited
partners – either directly from GPs or through third-party coinvestment
programme administrators – have been in what could
be defined as the ‘mega/large’ size category. This is perhaps not
surprising – large deals require more equity, and therefore GPs
“A GP doesn’t score
many points by arguing
that the management
fee should be a wealth
creator”
are more likely to give LPs the opportunity
to pony up additional cash. But there is at
least one problem with this from the LP’s
point of view. If it is accepted that the largest
deals will tend to be the ones that are
offered to LPs as co-investment opportunities,
LPs should not necessarily want to
inject further capital into deals to which
they are already highly exposed. It could
be that the benefit of reduced average fees
for ownership of an asset is offset by the
effect that increased ownership of the asset
has on the diversity of the larger portfolio.”
NOVEMBER
How hold-at-cost valuation exaggerates
performance numbers
“End-to-end performance averages measure
backwards over a specified time span
to starting points populated by funds that
are understating the fair value of their
portfolio companies. The further back
you go, the more pronounced the effect
is. This problem goes away when viewing
private equity fund performance through the prism of vintage
years, which have long been thought of as the most useful way
to think about returns. But in seeking to compare private equity
to other asset classes, the time-horizon approach has frequently
been used, often with the result of private equity appearing to
be quite attractive indeed. As institutional investors learn more
about how private equity has truly behaved over the years as an
asset class, they won’t necessarily fall out of love with it, but
they will likely wake up to the realisation that it’s harder work
than anyone heretofore led them to believe.”
DECEMBER/JANUARY
Snow on Snow – the editor-at-large grades his predictions
one year on
“‘US public pensions will fade as a source of capital’. You now
need to register as a lobbyist if you want to raise money from
California institutions, thanks to the pay-to-play scandal. More
broadly, US pensions are expected to continue to face tremendous
pressure going forward. It is unclear what this means for their
private equity allocations, but for the time being most of these
very large LPs remain committed and solvent. Verdict: maybe
not. ‘The public private equity firm will win fans’. It is clear that
many more private equity firms will go public as soon as they
have the chance. But few of these will remain pure-play direct
private equity investors, as KKR’s radical business diversification
indicates. These listings will be greeted warmly by investors, by
the selling GPs, and by the firm employees who get a piece of
the action, if not by LPs. Verdict: probably true.” ■