Texas consolidates

The Texas Teachers’ Retirement System has committed $6bn to KKR and Apollo to invest across strategies – specialist managers are missing out.

Private equity firms whose services are no longer deemed necessary will disappear over the next few years.

It’s unclear how drastic the cull will be – a report released this week from Triago predicts that one-quarter to one-half of GPs may disappear over the next five years – but GPs that do not perform as expected, or fail to retain the people who drove their returns in the past, will go away for good. It will take some time because of the long-life nature of private equity funds, but eventually those firms that struggle will cease to exist.

The trend may even catch up with managers that aren’t doing too badly. Many LPs want to cut down the number of relationships in their portfolios to place more capital with fewer managers. They are also keen to pay less in fees; they want to be active partners with more opportunity to get direct exposure to deals; they want more information and more all-around communication. They are active and confident, they know how much money they are bringing to the game, they know that the GPs need it, and they’re not shy in laying out their wants and needs.

As a GP, you don’t have to be an outright disaster to fall short in at least some of these areas. If you do, the consequences for your business could be drastic.

That consolidation is an ongoing development, and indeed a threat, was confirmed earlier this week by the Teachers Retirement System of Texas. The pension, which ramped up its private equity target in 2008, announced it was forming separate accounts with Kohlberg Kravis Roberts and Apollo Global Management and committing $3 billion to each group.

Crucially, Texas Teachers wants these mandates to be managed flexibly and the capital to be invested across asset classes including private equity,  credit-related investments, natural resources, real estate and so on. As the multi-strategy operators they have morphed into in recent years, both KKR and Apollo are set up to deliver this.  

Wind the clock back a few short years to when multi-strategy managers didn’t exist, and Texas would have had no choice but to break down its $6 billion into smaller chunks, and then divvy them up amongst a larger number of specialist managers. Whether any, or even all, of those specialists might have delivered a greater return on investment is a moot point, at least as far as Texas is concerned: they clearly put a premium on efficiency and on a concentration of their capital in fewer hands.  

Some institutions have already gone this way, others are thinking about it. Not every large LP will decide that the alternative investment supermarkets are the best place to shop. But every one that does will leave in its wake a number of smaller providers that are missing out. It’s a part of the evolution of the asset class that is changing the nature of the LP/GP relationship, and which will lead to a private equity universe with fewer managers.