Friday Letter State of denial

In order to resolve the communication problem between GPs and LPs, managers need to start by acknowledging that there is one.

One of the hottest topics at the Institutional Limited Partners Association's recent annual general meeting was how investors and fund managers can better their communications.”[In] the last couple of years there’s been very positive momentum in that direction,” ILPA’s executive director, Kathy Jeramaz-Larson, told PEI. “How do we keep it [going]?”

Not everyone is feeling quite so upbeat, however. LPs’ increasing requests for more detailed information has some GPs noting it borders on interfering with their ability to source deals and manage portfolios, according to speakers at PEI’s CFOs & COOs Forum held in Hong Kong Wednesday. The various requests are time-consuming and onerous, and in some cases may even be superfluous, according to Leonard Wei, chief operating officer at ARCH Capital Management.

“The issue is when you look at some of the requests, you can’t be blamed for being a little bit suspicious as to whether you are actually being asked to fill in the blanks and do the calculations for your LPs to satisfy their own internal reporting requirement,” said Wei.

LPs, meanwhile, are still not happy with the amount of information they're getting from GPs, according to a recent survey of GP/LP relations by placement agent Acanthus. Its most salient finding: just 9 percent of LPs described GP communications as 'good'. By contrast, 78 percent of the GPs put themselves in that bracket. Drawing a distinction between reporting and general communication, it found 81 percent of GPs felt their level of reporting to LPs was good, a view shared by only 15 percent of LPs. In other words, it looks like GPs are not as good at providing information to their investors as they think they are.

Of course, it's possible that this is just a case of survey respondents over-rating their own capabilities – not exactly an uncommon occurrence (LPs also had a much higher opinion of their own communication to GPs than vice-versa). But it does look like there's an expectation gap, as neither side seems to be consistently getting the information it wants. And (as many of us have no doubt found to our cost in the past) bad communication normally leads to bad relationships: according to the Acanthus research, 85 percent of LPs described their GP relationships as either “weak” or “neither weak nor strong”, while fewer than one in five felt relations had improved in the last year.

This would be an unhealthy state of affairs at the best of times. But it’s particularly worrying given the tough times that lie ahead. When investors are nervous, as they will be, and there’s difficult news to report, as there probably will be, the quality of communication becomes even more significant.

It’s not surprising Acanthus also found that communication quality is a hugely important factor in an LP’s decision to invest in a fund (91 percent of LPs and 100 percent of GPs agreed with this statement). With the fundraising market likely to remain hyper-competitive for the foreseeable future, it could make all the difference to a manager’s chances of hitting their target (though fees and the GP commitment are also likely to prove sticking points, Acanthus noted).

There are some signs of progress. ILPA recently published a template for portfolio company reporting and if it is universally adopted, both sides stand to benefit. LPs get the information they require in a format they can handle. And the GPs can report to all of their investors in the same way, instead of having to produce customised reports for individual clients. Commercial solutions are also emerging, with an increasing number of service providers offering technology and services geared towards LP reporting requests. And the general consensus among respondents to the Acanthus survey was that investor relations efforts have actually improved in the last year, as Jeramaz-Larson has also noted.

Nonetheless, there’s clearly a lot more that needs to be done. The first step has to be for both sides to recognise that there's still a problem. Then they need to work together to find a solution that works for both of them – which may mean investors challenging GPs to change the way they have operated historically. At least if the fundraising environment does prove to be as difficult as expected in the coming year, LPs are likely to feel sufficiently empowered to do that.