Study: Diverse firms outperform the industry

A study published by a trade group representing minority and women-led firms reveals that firms which have greater diversity amongst their staff have produced superior returns than their rivals since 1998.

At a time when one of the biggest limited partners is questioning the performance of its emerging manager programme, a trade group has issued a report showing diverse firms have outperformed the general private equity industry.

The National Association of Investment Companies, which represents diverse and minority-owned private equity firms who focus on the US, recently published a report showing that NAIC firms, which include the likes of Palladium Equity Partners, Clearlake Capital Partners and Vista Equity Partners, have been better performers than some of the big guns in the industry.

That’s true for internal rate of return, according to the report, titled “Recognizing the Results”.  NAIC firm’s median net IRR during the time period from 1998 to 2011 came in at 15.2 percent, compared to 3.7 percent for all US private equity, and 7.1 percent for US buyout funds.

And that’s also the case for the top quartile, the report said. Upper quartile net IRR was 20.9 percent over the time period for NAIC firms, compared to 11.8 percent for the US private equity industry, and 14.7 percent for US buyout firms.

Ed
Dandridge

KPMG compiled the data for NAIC, which used Thomson Reuters performance numbers for benchmarking. The hope, according to the report, is that institutional investors who haven’t explored diversity-rich firms can find some reassurance that performance is not an issue when considering making a commitment, as opposed to sticking with a brand name group.

“[The report] is a call to action for institutional investors everywhere that have yet to fully embrace diversity as a factor when seeking to do business with the best in class – a prequisite to achieving a sustainable rate of return over the long haul,” said Connecticut’s state Treasurer Denise Nappier in the report.

The report makes the point that the demographic make-up of the US is changing, and business opportunities are more likely to involve minorities and women. “Firms focused on the [emerging domestic market] have proprietary deal flow access into companies tied to the challenging demographics reshaping the economy,” the report said.

CalPERS and emerging managers

The report comes as one of the industry’s largest LPs, the California Public Employees’ Retirement System, has publicly voiced its disappointment with the performance of its emerging manager programme across asset classes, including private equity. CalPERS’ emerging manager programme contains a large amount of minority or women-led firms, though the system by law is not allowed to make investment decisions based on race or gender.

About $3 billion of the $9.7 billion CalPERS has allocated to about 300 emerging managers across asset classes

[The report] is a call to action for institutional investors everywhere that have yet to fully embrace diversity as a factor when seeking to do business with the best in class — a prerequisite to achieving a sustainable rate of return over the long haul.

Denise Nappier

is managed by firms run by women or minorities, the system’s chief investment officer Joe Dear said during a hearing last month hosted by two California politicians examining the system’s efforts around emerging managers.

Last month, CalPERS sent a letter to California state Senator Curren Price demonstrating what it called under-performance by its emerging managers. Price had co-hosted a meeting earlier in the month reviewing CalPERS’ and the state teachers’ pension system’s efforts around emerging manager strategies.

The letter showed that over a three year period, CalPERS’ emerging private equity managers had generated a 12.3 percent return, compared to an about 20 percent return produced for the total asset class. Over five years, the emerging manager number drops to 3.93 percent, compared to 7.24 percent for the asset class.

“We have concerns that the continued focus and breakdown of performance by segment or fund will only lead to further mistrust and divisiveness,” Dear said in the letter to Senator Price. “We would appreciate your help in trying to find a mutual understanding with the emerging manager community on these issues.”

Joe Dear

CalPERS’ blanket statements about the performance of its emerging manager programme – without distinguishing the minority and women-led managers within the portfolio – do harm to this subsection of the industry, according to Ed Dandridge, chief executive officer of NAIC. 

The concern of NAIC firms, according to Dandridge, is that in most states other than California, “emerging manager” frequently is considered to mean diverse, women and minority managers. “So when CalPERS states its emerging manager programme’s performance has been disappointing or mixed, other public funds may assume CalPERS is talking only about minority or women-led firms,” he said.

“When CalPERS talks about the overall performance of its emerging manager portfolio, [the system] is talking about a portfolio that is significantly broader in scope and definition than just diverse and minority private equity managers,” Dandridge said.

The difference between NAIC’s performance findings and what CalPERS has reported is that NAIC has focused specifically on diverse firms, while CalPERS’ emerging manager programme is much broader. CalPERS’ programme includes emerging managers – across asset classes – that are on their first or second institutional fund. The system’s programme could include public equities, venture, clean energy, tech, real estate or global markets.