Hedge funds and Private Equity - PES

Venture capital is investing in a technology start-up – this requires different skills from managers
who deal with LBOs of companies. Performances between teams will vary based on their experience
and the quality of their management. They will also vary according to the year and industry.
The lack of a real benchmark index measuring the performances of various management teams
makes the selection of a team particularly tricky. It is therefore necessary to use other means of
analysis in accordance with the investment strategy. As a result, it will be easier, for instance, for
a European investor to choose a team that invests in its own country than to choose a North
American team.
It is time to engage in defending the public limited company, which separates management and
ownership. Increasingly capital – in the hunt for higher returns to make vast personal fortunes –
is going private to escape the demands of public accountability on stock markets. At the same
time the LBOs acquiring a public limited company take full control of not only the financial
management and the board. If this new trend is not corrected by better regulation in our societies,
there will be serious long-term adverse consequences of privatisation of capital for our
economy, society and democracy.
2.9. Extreme fees and costs
LBOs are typically compensated with a management fee, defined as a percentage of the
fund’s total equity capital. In addition, the general partner usually is entitled to “carried interest”,
effectively a performance fee, based on the profits generated by the fund. Typically, the general
partner will receive an annual management fee of 2% of committed capital and carried interest
of 20% of profits above some target rate of return (called “hurdle rate”).
As for hedge fund managers, this in practice and in absolute terms means extremely high fees.
These percentage rates are no “law of nature”. We are instead talking about historical patterns,
which at present are only questioned by us in this report. Nevertheless, these fees have – as has
been shown in many public studies – far reaching consequences for the aggression of LBOs
and therefore for the real economy.
One truth about private equity is it sends the wrong signal to the rest of our societies where
governments often talk about the need to show responsibility and realistic wage claims, especially
on the labour market: The extremely high management fees and annual “carry” (the share
in profits) mean lifechanging fortunes. Researchers at the Manchester University ESRC
Research Centre, recently published some information from the internal management account
of a LBO fund with up to £8bn (12 billion euros) of funds under management. After five years 30
full partners in the LBO fund are expected to make between £25 million and £50 million each.
The first attraction of LBO funds is that financial engineering concentrates reward for the benefit
of the minority of capital providers who provide equity and funds and not to the majority of capital
providers who supply cheap debt.
2.10 Off-shore / on-shore and tax evasion
Two clear distinctions have to be made, first regarding the location of the fund, second
regarding the location of the management company. The choice of location is clearly influenced
by tax considerations.
Part I – Hedge funds and private equity funds – how they work
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