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Some of the most influential investors are sending a message to the world’s largest private equity firms: “If you want money for your next fund, this is our list of demands.”
Investors such as sovereign wealth funds and state pension providers are telling managers they will only commit to raising future funds once money tied up in older funds is released, according to people familiar with the matter. It is said that only
The additional demands range from lower fees and more co-investment opportunities to greater information rights and greater representation on the committee, the people said, asking not to be identified because the requests are private. ing. Some say they are seeking a reduction in fund management fees or the opportunity to buy shares in the fund manager.
“We’re experiencing a real cultural shift right now,” said William Barrett, managing partner at private market financing firm Reach Capital. “This is the first time LPs have seen something so simple and tie distributions from one fund to new commitments in another fund. They’ve never asked questions so precisely.”
The relationship between private equity firms such as Blackstone and Apollo Global Management and their backers is symbiotic. Large fund managers cannot expand their platforms without capital from the largest so-called limited partners, but investors need managers capable of accepting large amounts of capital.
But the balance of power is shifting within the $8 trillion private equity industry as buyers and sellers clash over company valuations and buyout funds struggle to return money to investors. This would give the LP more power to determine the terms of the contract.
As flows into private equity slowed last year, the influence of a small number of funds that make the bulk of private market investments, such as the sovereign wealth funds of the UAE, Saudi Arabia and Qatar, has become even more persuasive. .
Just five years ago, Middle Eastern funds were not among the top 10 state-owned investors in the private market, according to Global SWF data. By 2023, five companies will be from the Gulf, including Abu Dhabi’s ADQ and ADIA.
Some investors are asking for the return of distributions, especially from older vintages, as funds such as ADIA and Singapore’s sovereign wealth fund GIC discuss future fundraising, according to some people familiar with the matter. It is said that there is Indeed, one person familiar with the matter said GIC is selectively investing in new funds without inheriting funds from previous vintages.
Other requests from some SWFs include requests for further disclosures about the underlying assets of their portfolios, the people said. Investors are demanding more information about their investments than ever before, with requests sometimes coming in on a weekly basis, some of the people said.
Representatives for ADIA and GIC declined to comment.
According to Pitchbook, US PE exit activity fell to an unprecedented low last year compared to the industry’s vast amount of capital under management, with the current median holding period of exited investments reaching 6.4 years, the lowest in the last 10 years. It was the highest in more than a year. This year’s forecast is for buyout funding to be about 30% below the current linear trend, while buyout funding distributions for the 12 months to the first quarter of 2023 will be lower than the global financial crisis, according to Pitchbook data. Data shows that this is the lowest level since then. Said.
“It’s a tough market, and LPs are leveraging their holdings, especially the largest investors in private credit, such as sovereign wealth funds and state pension funds,” Barrett said. Ta. “Fund managers now have to fight for money, and investors know it too.”
One of the often used justifications for LPs to claim cashback is the so-called denominator effect. While asset values from real estate to public stocks have proven volatile in recent years, private equity valuations have remained largely stable, at least on paper.
In some cases, this means investors liquidating privately held holdings to avoid violating allocation guidelines designed to protect the long-term safety of their funds. On top of that, many institutional investors from Singapore to Canada are becoming more conservative.
However, fund managers have been slow to sell fund assets in the current uncertain market, indicating reluctance to materialize potentially lower-than-expected asset values. Instead, many use leverage to free up capital.
“Historically, if you invested in a PE fund, your money was locked in for 10 to 11 years,” said Jeff Johnston, head of fund finance at EverBank. “Now there are more and more ways to try to get that money back through leverage and secondary sales.”
So-called net asset value (NAV) financing, a strategy that utilizes loans backed by a pool of portfolio companies, has become more widely used. Loans are typically expensive, and critics warn that future returns are likely to fade.
Vista Equity Partners has generated a total of $18 billion in value from cashing out bets since late 2021, according to people familiar with the matter, but it still failed to make distributions to investors in March of last year. The company has reportedly signed a $1.5 billion NAV loan with $500 million allocated.
A Vista representative declined to comment.
David Phillip, a partner at Fort Worth, Texas-based Crestline Investors, which provides NAV financing to asset managers, said he believes LPs can request a return of capital or use general management to facilitate portfolio-level consolidation. He said there is an increasing number of cases in which partners are being asked to consider NAV financing.
“This is often due to sponsors soliciting LPs to re-raise in the next fund before repaying capital from previous vintages,” Philip said.
Some PE firms also take out loans at the management company level to meet capital commitments.
So-called manco loans are typically backed by assets, such as the prospect of future fee income, and interest rates can be in the high teens.
Crestline’s Philip said private equity’s increased use of leverage may come at a cost to other LPs within the fund who did not choose to add leverage by the fund.
“We’ve seen several cases where a majority of LPs voted in favor of NAV, but the rest didn’t, forcing them to take expensive liquidity,” he said. “Unless minority LP groups are given the power to opt out or given attractive reinvestment options to neutralize costs, this could clearly pose some problems.”
As sovereign wealth and pension funds increase scrutiny and demands on private market companies, including the $1.6 trillion private credit market, some companies are increasingly lending directly to borrowers, leaving the direct lending giants behind. completely excluded.
Canada Pension Plan Investment Board (CPPIB) and GIC (which typically finances the development of private credit giants) are backing Blackstone and Permira Holdings’ acquisition of European online advertising company Adevinta for a €4.5 billion deal. provided most of the financing directly. Bloomberg previously reported in November.
“LPs in general are becoming more and more educated about investing in private markets,” said Reach Capital’s Barrett. “The next question is when the sector’s biggest backers will start building their own in-house origination teams and cut out the middlemen.”
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