Side Letter: Why LP defaults could be widespread, CARES Act & PE, Carlyle Japan

We could be about to see a lot of LP defaults. Here’s today's brief, for our valued subscribers only.

Just happened

You can now see all Private Equity International’s coverage of how covid-19 is affecting the asset class in one place. Our sister titles, such as Private Funds CFO and Private Debt Investor, have similar pages.

Defaults and remedies

Limited partners defaulting on capital calls was a big fear back in the global financial crisis, but – as far as anyone can tell – there were not widespread examples.

This crisis may end up being different: the greater use of credit lines means LPs will be getting calls relating to historical (pre-crisis) investment activity. If you assume, as many do, that managers will be more active in their pursuit of deals during this downturn, then the strain on LPs will show.

The LP defaults appear to have begun. Lawyer Eamon Devlin at MJ Hudson says he has seen two already, both relating to the denominator effect. GP remedies for an LP default can be punishing; the LP can take a haircut of up to 80 percent on its interest, writes Graham Bippart. There are some situations in which that blow will be softened: a very young fund where little capital has been called, or a very old one where there is little residual value. Financial fallout aside, there is still the damage to the investor’s reputation to consider; will it be considered a partner of choice in future?

The CARES Act and PE

Private equity-backed companies may have trouble getting access to the roughly $2 trillion coronavirus stimulus package that US president Donald Trump signed into law on Friday. Although they are not explicitly barred, the lending requirements make it tough for PE-owned businesses to qualify, per the Wall Street Journal (paywall). The crux of the matter is whether private equity-owned businesses are considered affiliated with all the other companies owned by the private equity firm – and thus likely to exceed the maximum 500-employee threshold. However, there is some ambiguity in the text of the act on the subject of affiliation rule, per this memo from law firm Davis Polk. The memo walks through the key points of the existing SBA loan programme and summarises the key features of the new Paycheck Protection Program.

On Friday, Drew Maloney, president and chief executive of industry body the American Investment Council, issued this statement to us:

“We appreciate the Administration and Congress’ work to draft legislation that will deliver relief to families and workers, and help stabilise our economy during this crisis. We supported measures to increase the size of the economic stabilisation fund, and measures to deliver more flexibility for [the] Treasury and the Federal Reserve to address future market conditions. We will continue to work with SBA and policy makers to ensure that private equity-backed small businesses in every sector of the economy have the support they need in order to stay open and employ workers across America.”

Pref’s time to shine

Pop quiz: which niche private markets strategy has had at least $2.5 billion in dealflow over the past two weeks, despite the pause in the overall PE market due to the coronavirus? Answer: preferred equity. That’s according to 17Capital‘s Pierre-Antoine de Selancy, who notes that the figure represents 25 percent of all opportunities his firm saw during the whole of 2019. With the downside protection it offers, could preferred equity be the white knight of the covid-19 crisis? For portfolio holders that need liquidity but don’t want to lose out on future outside, the answer could be a resounding yes, as sister title Secondaries Investor explored in its weekly letter.

They said it

“The fair value judgments undertaken at 31 March 2020, will be very challenging”

The International Private Equity and Venture Capital Valuation Guidelines board issues special guidance for valuing private assets in the current climate.


Valuations down ‘about 35 percent’? Analysts at index and research business MSCI reckon the values of large US buyouts should be down around 35 percent from the high point in Q1 2020, once economic fundamentals and leverage are taken into account. This actually fits with some chatter we hear about the likely updates to NAVs at the end of March.

Tokyo thrift. Although newly flush (the firm just closed its latest Japan fund on more than double the size of its predecessor vehicle), Carlyle Group’s Japan head Kazuhiro Yamada tells us most deals are currently “on hold” in light of coronavirus. The firm will focus on protecting its portfolio companies at present and look to snap up assets at more reasonable prices over the next six months to a year. In the meantime, he notes, all existing assets will see “some impact” from covid-19, but so far none are expected to breach covenants, even in the worst-case scenario.

Fundraising life goes on. Edmond de Rothschild is proceeding with the structuring and pre-marketing of a €300 million real estate debt fund, reports sister title Private Debt Investor, even in a world of travel bans and social distancing. Said CEO Pierre Jacquot: “There is a lot of preparation, structuring and research work to be done.”

Japan’s Norinchukin. Japan’s Government Pension Investment Fund, the world’s largest pension plan, is reshuffling its leadership. Chief Investment Officer Hiromichi Mizuno is expected to step down at the end of this month following the conclusion of a six-month extension period granted in October, according to Nikkei Asian Review. Former Coller Capital partner Mizuno has been in the role since 2015 and – as an outspoken proponent of environmental, social and governance measures – helped make GPIF something of an exemplar among its peers. GPIF president Norihiro Takahashi is also on the move, with Masataka Miyazato, head of the country’s Pension Fund Association and former deputy president at agricultural lender Norinchukin Bank, set to take the helm next month.

Inside tip

Have any news or views you’d like to share with us, on the above issues or anything else? We’d love to hear from you.

Dig deeper

Institution: New York State Common Retirement Fund
Headquarters: Albany, US
AUM: $215.54bn
Allocation to alternatives: 22.10%
Bitesize: $100m-$200m

New York State’s ‘excelsior’ PE commitments. New York State Common Retirement Fund has confirmed $2.35 billion-worth of private equity commitments, according to the pension’s February 2020 investment report.

The commitments comprise $150 million to The Carlyle Group’s SASOF V fund, $200 million to Vista Foundation Fund IV and $2 billion to the pension’s co-investment fund with Neuberger Berman. The $2 billion commitment is made up of two tranches of $750 million alongside one tranche of $500 million.

The $215.54 billion US public pension has a 10.0 percent target allocation to private equity that current stands at 9.60 percent.

For more information on NYSCRF and more than 5,900 other institutions, check out the PEI database.

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Today’s letter was prepared by Toby MitchenallIsobel MarkhamAdam LeRod JamesGraham BippartCarmela Mendoza and Alex Lynn.

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