Roger Vincent, the former head of private equity at Cornell University’s endowment, is taking the lessons he learned as an allocator to the investment management business.
Vincent recently launched Summation Capital, an investment management firm that aims to provide smaller endowments with diversified private equity portfolios on par with larger, better-resourced, allocators. Larger allocators have more money to meet asset managers’ minimums and can then spread their investments among multiple funds.
To achieve its goal, Summation, which invests in PE funds on behalf of its clients, has set up fair fees and aligned incentives. Vincent says the structure is informed by academic research.
The firm’s thesis is that private equity portfolios are expected to have better returns if they are well-diversified, which requires a lot of time, effort, and capital to achieve. Research also shows that it takes a long time to know whether a portfolio of funds is high-performing, which means that first-timers may make a lot of capital commitments before knowing if they are skilled at manager selection.
While being skilled at manager selection, is, of course, important, Summation’s aim is to go beyond that and solve some of the structural problems that small private equity investors face. One major concern is what to do with uncalled capital.
In private equity, allocators commit to invest over time, rather than one lump sum. When a fund makes a new investment, managers call up allocators and ask for that money. But this presents a problem for asset owners: What do they do with the money while they wait?
Summation set up an option for clients that lets them hand over their entire private equity allocation up front, rather than waiting on capital calls. Summation then chooses the right ratio of public equities and cash for those unfunded commitments.
A good rule of thumb, according to Vincent, is that half of an asset owner’s commitment to private equity is waiting on a capital call. For an endowment with 30 percent allocated to private equity, that’s 15 percent in capital that has yet to be called by managers.
Yet asset owners — and those who research the industry — haven’t spent much time determining what to do with that remaining 15 percent.
There are two options for allocators: An investor could match the organization’s fixed liability with a fixed asset –– cash. “No endowment in the world runs with 15 percent cash on hand,” Vincent said. “If they did, they’d always be at the bottom of the league tables.”
On the flip side, investors could put much of this money to work in public equities, with a little held in cash. That’s what most university endowments do these days. The benefit is that this improves overall fund performance, and it keeps capital liquid.
But Vincent points out that there is little research backing up this approach.
“What I realized was even though in private equity people spend a tremendous amount of time talking about manager selection, you can argue that a more important solution is that coverage ratio,” Vincent said, referencing the appropriate amount of stock versus cash. “Getting that ratio right is one of the most important but least discussed aspects of investing in private equity.”
Vincent believes his team has figured out the best way to do it — and is offering clients access to the solution without charging them a fee. Vincent set up a structure that invests the unfunded commitments in the same public equity index it uses as its benchmark. This avoids charging clients fees on uncalled capital.
Summation uses public equities as a benchmark for overall portfolio performance, rather than a private equity composite. This informs the fees paid to Summation. “That’s how the endowments do it, but there isn’t a single private equity product where people only charge carry on alpha. We think we are the very first ones to do that,” Vincent said.
The fees charged by the fund are a one-and-ten structure (that is, a one percent management fee, 10 percent carry) that’s based on this benchmark. The firm also co-invests alongside investment managers, which drives down the fees paid by clients.
Vincent structured Summation as an open-ended vehicle, which aligns with the long-term incentives of allocators, while providing options for clients to get out of the fund when appropriate. So far, the fund has made two investments, and expects to underwrite six investments annually.
