2018: A year in Friday Letters

If you need a refresher on some of the biggest trends in the private equity industry in 2018, you can’t go wrong with a dig through our archive of Friday Letters, our weekly column delivering insight into the industry’s most important issues.

Take heed of bad press

This summer we urged the industry to listen to its critics when it comes to concerns about fees after Pennsylvania state treasurer Joe Torsella claimed the state’s two public pension plans had “wasted” up to $5.5 billion in investment expenses.

Our take: “It is not the case that private equity’s value to public pension investors is so self-evident that it needs no explanation. Fund managers must make a compelling case time and again that LPs really do get what they pay for – and make that case in a way that, as Torsella puts it, ‘any taxpayer can understand, without having to hire their own consultant’.”

Hurdle: some LPs are so over it

In August we looked into limited partner attitudes towards preferred return hurdles and found that, contrary to popular opinion, investors are often willing to let them slide as their presence should not affect overall returns.

“The hurdle is not a 100 percent perfect mechanism when it comes to aligning manager and investor interests. Most of the time it works as intended; the LPs start seeing returns before the general partner begins making significant gains. But if a fund is just outside the carry, then it could incentivise greater risk-taking. And if things go wrong and carry becomes a distant and unobtainable goal, then the incentive to maximise is significantly diminished.”

A groundbreaking deal that divided investors

Investors in Nordic Capital’s 2008-vintage fund came back from their winter holidays in February to find they had 20 business days to decide whether to sell their stakes to Coller Capital and Goldman Sachs or roll over into a five-year continuation fund. Some were not best pleased.

“The development of this type of process, of which this deal is a significant step, is highlighting divisions in the LP universe. In Nordic’s case, an overwhelming amount of data to examine within a short amount of time has ruffled the feathers of some LPs. The deal may be a success for the buyers, advisor and many LPs, but frustrated investors may turn frosty next time a GP-led process slides their way,” we wrote.

Hot secondaries

Speaking of secondaries, as of 19 December four of the 10 largest funds in market are dedicated to the sub-asset class. If you needed a signal the strategy has well and truly moved into the mainstream, this is it. But how can this booming market avoid a bust, we asked in August.

“The secondaries market faces pricing at an 11-year high of around a 1-2 percent discount to net asset value on average, and competition is so fierce that some buyers are now pricing deals within a matter of hours, rather than days, in order to beat competitors.”

Exposing flaws in due diligence

Dominating Private Equity International’s headlines this year has been the downfall of The Abraaj Group. In October, a former partner at the firm, Ahmed Badreldin, shared some practical steps LPs can take to protect themselves when investing in emerging managers and smaller GPs.

“What comes through loud and clear from Badreldin’s article is that, in what is still regarded as a people business, a huge part of investment due diligence is based on trust and human instinct. If an investment process for an LP takes between six and 12 months, then ‘emotional investment potentially gets in the way’ of the scepticism that is a necessary part of due diligence.”

Bracing (patiently) for impact

Also in October, we noted gathering momentum behind impact investing was being jeopardised by a lack of consensus over how it should be defined.

“Impact investing feels like it is at a critical juncture. Optimism abounds, but there is also a creeping sense of frustration that a) ambitious targets remain just that: targets, and b) the discourse around impact is nebulous, high-level stuff. What is impact investing, who should be doing it and why? There are many valid answers to these questions, but they differ depending on who you ask. Definitive answers would be useful.”

Private Equity International would like to wish all our subscribers a Merry Christmas and Happy New Year. We look forward to bringing you more context around private equity in 2019.

PS. Don’t forget, voting is open for our 2018 awards.