South Carolina Retirement System Investment Commission teamed up with Chicago-based asset manager GCM Grosvenor in July to ramp up its co-investment activities.
Although not new to co-investing – RSIC has committed $1.5 billion to 34 co-investments since 2008 – the $32 billion pension aims to make the strategy a more significant part of its private equity portfolio.
RSIC chief executive Michael Hitchcock and chief investment officer Geoffrey Berg share how the pension intends to do this, its partnership arrangement with Grosvenor and the rationale behind wanting more but smaller deals.
Why set up a co-investment platform?
Geoffrey Berg: If we didn’t believe that we’re going to improve returns, we wouldn’t do it. This is something that we’ve spent time developing precisely for that reason. We believe that we can improve our returns without having any meaningful change to the level of risk in our plan. The way that works for us is we want to do a lot of smaller transactions – $30 million or less – with our top-tier GPs and we also want to do transactions with top GPs that aren’t yet in our portfolio.
GCM Grosvenor is going to have a discretionary allocation each year and they will be putting co-investments into that portfolio from firms [with which] we don’t already have an existing relationship.
We know our GPs very well but we don’t know a lot of other GPs as well, and that’s where Grosvenor is tremendously helpful. We’re already seeing a lot of really interesting and compelling investment opportunities from firms we haven’t met until now. Even in a couple of cases where we are not going to make those co-investments, they’re still in our radar and it becomes an interesting starting point for us to consider their next fund investment. It’s a good way for us to learn who is in the market and to position ourselves as potential investors in some funds that we otherwise might not have encountered.
What’s the fee structure here?
Michael Hitchcock: Without getting into specifics, both sides of the relationship will add up to a greatly reduced fee and carry. On our private equity flow, we’re only interested in co-investments if the underlying co-investment is no fee, no carry. With the PE co-investments that Grosvenor brings to us, the underlying investment will also be no fee, no carry, but Grosvenor will of course get compensated for their work.
Our driving force is that we want to be able to figure out ways where we can reduce fees and by doing so make sure those efforts are accretive to returns, or they allow us to get a better return by taking the same amount of risk. That’s what our driving goal is. With the co-investment platform, we ask ourselves: how do we capture more of that gross-net spread so that we are able to keep more of the overall gross return to the benefit of overall investment performance?
The thing that you don’t want to do is save fees at the sake of returns.
GB: If you think of simple PE as an expensive beta, this is a way hopefully that an investor could wind up with a better net return simply by avoiding some or all of that cost.
Do you see PE as a future driver of returns for RSIC?
GB: Absolutely. In general, we expect PE to deliver several hundred basis points greater outcome than public equities over time. The number that we have formally incorporated into our benchmark is 300 basis points. That’s been tough for us for the first 10 years of our PE programme, because there’s a lot of J-curve to cut through. Now that we’re launching a co-investment programme, I think that’s certainly within reach for us.
How will investment decisions be made?
GB: Sometimes something just isn’t a fit, it’s a quick answer. We know that GPs value that almost as much as a very slow “yes”. But where we are running a full process, we’re going to have a decision made within two weeks and we’re going to close inside of a month.
We are seeing an absolutely wonderful flow of opportunities and we are able to prosecute this flow very efficiently with the team at Grosvenor because of the amount of time and energy and effort we put into setting this up the right way.
Do you have near-term plans for your investment team?
MH: We have two dedicated investment professionals for private equity – a senior officer and a junior officer. The person occupying the junior officer role is a recent graduate of our analyst trainee programme. That programme has been running for about three years now and we are fortunate that our offices are located within close proximity to the University of South Carolina School of Business. This provides us with a ready pool of intern candidates from which we mainly draw participants in our analyst trainee programme. We have also extended our reach to other colleges and universities in our state, especially as we have focused on strengthening the diversity of our firm.
We have about six to eight investment professionals at any given time on the private markets team which covers private equity, private debt, and real assets. Albourne is our private markets consultant and we see them as an extension of staff not just on the investment side but also on the back-office side to help us see the horizon of funds that are coming to market, to access good managers and to supplement our operational due diligence programme. Being able to access a force multiplier like Albourne, plus our internal resources, we feel we are well resourced now for PE and private markets in general.
GB: We are monitoring the impact of the co-investment programme – how much resources does that require from an in-house perspective, how much time is that demanding of us, given the amount of flow we have.
We are trying to get private equity to 9 percent of our portfolio, with about one-third of that being co-investments. The partnership with Grosvenor is very helpful in that regard. We are monitoring the workflow and if we think we need to staff up in order to bolster our capability to stay true to our vision, then we will.