Private Equity News & Analysis

Side Letter: KIC looks overseas; VC’s DD double-down; ESG’s engagement gulf

Korea's $169 billion sovereign wealth fund is pondering overseas expansion. Plus: how VC due diligence is evolving in the wake of FTX's collapse; and ESG enthusiasts aren't engaging with its detractors. Here’s today's brief, for our valued subscribers only.

-

Just happened

KIC looks abroad
Korea’s sovereign wealth fund could soon be coming to a market near you. The $169.3 billion Korea Investment Corporation is reviewing the establishment of new international offices to expand “overseas local networks for promising growth areas” and “discover excellent investment opportunities”, according to a document prepared for a February meeting of the National Assembly. KIC, which already has offices in London, Singapore and New York, also plans to reinforce its alternative investment risk management processes via independent pre- and post-investment risk inspections and risk monitoring of specific strategies and managers, it said. Looking ahead, the institution will prioritise “selected reinvestment” of existing managers; finding “excellent” new managers; and strategies that can tackle “downward volatility”, like secondaries.

The latest moves come amid plans unveiled in October to raise KIC’s alternatives allocation from 18 percent in 2021 to 26 percent by 2025. The sovereign wealth fund plans to achieve these aims in part by activating a new direct investing strategy and seeking co-investments “to reduce fees paid to external management companies and strengthen global investment capabilities”. KIC had a 9.45 percent actual allocation to private equity as of December, representing $16 billion. The asset class was a bright spot for the institution last year, returning 14.7 percent versus a 14.4 percent loss for the overall portfolio.

Vetting venture capital
In the months following last year’s collapse of crypto exchange FTX, venture capital firms and their investors have been doubling down on due diligence. Industry best practice and new innovations are the subject of the March Deep Dive from our colleagues at Venture Capital Journal. A heightened focus comes ahead of new US Securities and Exchange Commission regulations, scheduled to take effect in April, that would lower the liability standard in LP agreements from gross negligence to simple negligence, putting VCs at greater risk of being sued by investors for failed deals, especially around signs of fraud or deception. The full exploration is well worth a read – you can find it here (registration required). Below are some key takeaways:

  • Diligence approaches depend on the stage and type of business, but the overarching theme is independent verification – don’t rely on a management team to give you the full story.
  • When a VC foregoes due diligence because another, possibly larger, VC firm has already conducted its own process, it can lead to companies getting larger than they should before someone discovers a problem.
  • Beyond using third-party sources to confirm information, utilising your network is the next best thing to consider when evaluating a company for investment. That said, make sure whoever you call can provide an unbiased opinion without reason to sway one way or another.
  • In light of the recent governance scandals, VC managers are likely to start asking portfolio companies for audited financials somewhat earlier than they would have previously. What’s more, firms are increasingly using tech to identify red flags and catch anomalies in financial data.
  • When investing in later-stage companies, some VCs make a point of communicating with the company’s customers, who can alert fund managers to potential problems down the road. This includes complications as they scale, possible competitors and customer retention metrics.

VC firms worldwide raised $165.9 billion last year, the second-largest VC fundraising total in history, and have closed on more than $650 billion in new funds over the past five years. With so much dry powder to deploy, the FTX debacle – and VCJ‘s Deep Dive – is a timely reminder for GPs and their LPs to ensure this capital is being put to work in a careful and thoughtful manner.

Correction: Thursday’s Side Letter reported that PSG is expecting to hold the final close of its sixth flagship by March 2023, according to Pennsylvania State Employees’ Retirement System documents. We now understand it is expecting to hold its first close by the end of the month.

Essential

A difficult climate
The topic on everybody’s minds at PEI Group’s Responsible Investment Forum in New York last week was the anti-ESG backlash emerging in the US. In fact, the topic was mentioned on every panel that took place over the two-day forum, our colleagues at New Private Markets report (registration required).

Florida, Texas and Kansas are just some of the states that have introduced legislation banning state pension funds from considering ESG factors, or investing in funds that do, when allocating capital. A Senate vote only last week sought to block a Biden administration rule that would allow retirement plans to take ESG into consideration when investing. The reason behind all of this, according to the group of 25 red states attempting to block the rule, is that ESG considerations “undermine key protections for retirement savings” by instead focusing on “woke” social concerns.

Many of those attending the forum took umbrage with this claim. “It’s very rare for anyone to say, ‘I need less information to think about a decision’,” one US LP noted. The issue, however, is that private market participants struggle to engage with ESG detractors as they are rarely in the same room together. When NPM asked a variety of panellists what opportunities they’ve had to engage with the naysayers on this topic, none had spoken to them in any capacity. “I try not to get involved in fundraising anymore,” said one fund manager’s ESG head.

And yet, ESG remains firmly on the agenda for the majority of LPs. Private Equity International’s 2023 LP Perspectives Study found that 69 percent of LPs believe adopting a strong ESG policy will lead to better long-term returns in their private markets portfolios, and 58 percent consider the UN sustainable development goals when making investment decisions.

Dig deeper

LP meetings. It’s Monday, so here are some LP meetings to watch out for this week.

7 March

8 March

9 March

10 March

Today’s letter was prepared by Alex Lynn with Carmela Mendoza and Helen de Beer.