Many institutional investors are frustrated with the private equity industry... and perhaps with good reason. Traditional GPs are incentivized to use leverage and maximize risk to increase the likelihood of touching their carry. If things go well... they get very rich. If things don’t go well, they just get rich (see the $100 billion sitting in Zombie Funds). I’ve seen (non-public) studies showing LPs sometimes end up paying upwards of 20-25% of their PE commitment in fees. I could go on, but I’ll spare you the riot act.
Anyway, it’s for this reason that there’s been quite a lot of disruption in the PE industry. For example, a growing number of institutional investors are starting to invest directly in private equity. Put simply, they think they can minimize agency costs by running the portfolios themselves. And that’s a laudable approach, but there’s a problem: It’s very, very hard to build a direct PE practice inside a pension or sovereign fund. Some Canadians no doubt do it reasonably well, but they’re the exception and definitely not the rule. Indeed, there are some hard-to-answer questions as to how institutional investors can actually execute a global PE strategy internally:
- How will they get access to local knowledge of foreign markets?
- How will they get access to quality deal flow on a global basis?
- How will they get access to large deals, while still maintaining diversification?
- How will they attract and retain the human capital to implement internal investment programs?
You get the point. And that’s why, when it comes to this asset class in particular, I’m a fan of institutional investors working creatively with asset managers... and, good news, some are. I’ve seen LPs take stakes in GPs; LPs have used their size to negotiate favorable terms in segregated accounts; and LPs have even started to think about seeding new GPs with a view to playing a more active role. And that’s all good. But one of the really interesting innovations -- and it’s something I’m pushing for ardently from my safe little perch at Stanford -- is for some asset managers to launch permanent capital PE vehicles (also known as ‘evergreen funds’). Why an evergreen fund? Because the GP can focus like a laser on value creation over the long-term and not worry about “exits”; “bankers”; “timelines"; etc. This should prevent rent seeking and financial gearing, while reducing costs. Moreover, the evergreen approach offers many of the benefits of an in-house PE practice, while still offering the flexibility to attract top talent and operate globally. I think it’s got legs. And I know quite a few people on the LP side who agree with me.
So, why have I brought all this up? Well, now that I’ve totally buried the lead, I actually wanted to flag up the fact that the Oregon Public Employees Retirement Fund has just made a $100 million commitment to a new Evergreen PE vehicle, according to PE Hub. Indeed, “Public Pension Capital”, which is being launched by two ex-KKR guys, will pursue a generalist PE strategy wrapped in a highly aligned Evergreen structure. Here’s some blurbage highlighting the aligned nature of the vehicle from OPERS investment committee documents:
“After the initial close, an Advisory Board will be formed, consisting of representatives of the founding investors. This Advisory Board will have substantially enhanced governance rights, including the authority to: terminate and replace the Chief Executive Officer of PPC (Mr. Golkin); set and approve the annual operating budget of PPC for budgeted management fee purposes; approve potential new investors to the Fund; approve additional members of the Advisory Committee. The Fund will have highly preferential economic terms. Management fees will be budget based, as opposed to a straight percentage charge. As the size of the Fund increases due to additional commitments and new investors, PPC projects management fees will scale down. Management fees will be paid back prior to PPC’s receiving carried interest. Transaction and other fees will offset the management fee 100 percent. The Fund will have a preferred return of 4 percent. Carried interest payable to PPC will be 5 percent for an annually compounded rate of return between 4 percent and 8 percent. If the rate of return is over 8 percent, carried interest will be 10 percent.”
Fascinating. I’m sorry to say that this is the first time I’ve heard of these guys and what they are doing (though Dan Primack of course knew about this vehicle over a month ago). It sounds like a step in the right direction. So, I’d love to see the full deck outlining the opportunity and structure if anybody has it... No seriously, send me the deck if you have it.
