abrdn’s Watson: Co-investment is a ‘partnership approach’

What does abrdn’s co-investment strategy look like today?

In Europe, we’re doing between 15 and 25 co-investments per year, and the vast majority of those would be alongside sponsors with whom we are also fund investors. This is a business based on relationships and trust, and we think of ourselves as long-term partners for sponsors.

In terms of sectors, we have been very active in technology, healthcare and other resilient sectors, and we’re also doing some growth deals as well. For a lot of the deals we do, we are a co-underwriter, so we’re working hand in hand with the sponsor and we’re there, fully approved, when they sign the deal. We also do some syndications, but probably two-thirds or more of our activity is in co-underwritten deals, which we think is a differentiator.

Co-investment is a key part of what we’re doing. Most of the funds we’re investing from include an element of primaries, and an element of co-investments and secondaries. We have our own co-investment funds that exclusively do co-investments, yes, but it feeds into everything we’re doing: when you’ve worked hand in hand with a manager on a co-investment, you know them so much better than if you hadn’t worked with them on a deal, so [being active in co-investing] really helps to inform our primary business as well.

How has the current macro environment affected appetite for co-investment?

Even though 2022 was a kind of unusual year, we still saw very strong dealflow – probably with a higher variance in terms of pricing and value creation approach – and we were pretty active. So activity was probably slightly down versus 2021, but not hugely.

This year, there’s more uncertainty in the market, but we’ve already done three deals [as of January]. We’re seeing a lot of deals right now, but we’re being quite selective.

Lower management fees can put pressure on GPs’ revenue streams. How do successful fund managers navigate this issue?

There will be fee pressure in the asset class over time, as there has been for other asset classes historically. Co-investment is important for LPs to bring the cost ratio down. At the same time, managers that offer significant co-investment are usually using that to justify larger funds. So I think we really see it as a partnership approach: it helps to justify a larger fund, and if the co-investments have gone well, it helps encourage LPs to come into the new fund and put more money in.

With successful managers, it’s an accepted part of the equation these days. We find managers enjoy the interaction on co-underwrite opportunities, where LPs can also provide some value-add in terms of due diligence, given their complementary networks and portfolios.

Are there any specific pitfalls that new co-investors should be wary of?

You should expect to need a separate team of people who are used to evaluating co-investment opportunities, who can see the opportunities across lots of sponsors, who can see the different pricing dynamics and, effectively, [identify] what they think is a good deal, with the right risk-return profile. It’s having that independence – not just accepting what the manager says, but being able to challenge a deal – that is key. Sometimes a deal may be perfect for that manager’s portfolio risk profile, but may not be perfect for the co-investors, depending on where you are in your co-investment fund and who your end LPs are, and so on.