Private Equity Unchained

Transcription

1 Private Equity Unchained

2 Also by Thomas Meyer BEYOND THE J-CURVE (with Pierre-Yves Mathonet) J-CURVE EXPOSURE: Managing a Portfolio of Venture Capital and Private Equity Funds (with Pierre-Yves Mathonet) MASTERING ILLIQUIDITY: Risk Management for Portfolios of Limited Partnership Funds (with Peter Cornelius, Christian Diller and Didier Guennoc)

3 Private Equity Unchained Strategy Insights for the Institutional Investor Thomas Meyer LDS Partners, Luxembourg

4 Thomas Meyer 2014 Softcover reprint of the hardcover 1st edition All rights reserved. No reproduction, copy or transmission of this publication may be made without written permission. No portion of this publication may be reproduced, copied or transmitted save with written permission or in accordance with the provisions of the Copyright, Designs and Patents Act 1988, or under the terms of any licence permitting limited copying issued by the Copyright Licensing Agency, Saffron House, 6 10 Kirby Street, London EC1N 8TS. Any person who does any unauthorized act in relation to this publication may be liable to criminal prosecution and civil claims for damages. The author has asserted his right to be identified as the author of this work in accordance with the Copyright, Designs and Patents Act First published 2014 by PALGRAVE MACMILLAN Palgrave Macmillan in the UK is an imprint of Macmillan Publishers Limited, registered in England, company number , of Houndmills, Basingstoke, Hampshire RG21 6XS. Palgrave Macmillan in the US is a division of St Martin s Press LLC, 175 Fifth Avenue, New York, NY Palgrave Macmillan is the global academic imprint of the above companies and has companies and representatives throughout the world. Palgrave and Macmillan are registered trademarks in the United States, the United Kingdom, Europe and other countries. ISBN ISBN (ebook) DOI / This book is printed on paper suitable for recycling and made from fully managed and sustained forest sources. Logging, pulping and manufacturing processes are expected to conform to the environmental regulations of the country of origin. A catalogue record for this book is available from the British Library. Library of Congress Cataloging-in-Publication Data Meyer, Thomas, 1959 Private equity unchained : strategy insights for the institutional investor / Thomas Meyer. pages cm Summary: Until recently, strategy played little meaningful role in the management of illiquid investments, and what many investors call strategy has been more akin to tactics or learned reflexes. Even large institutions still appear to manage their private equity allocations on such a case-by-case basis. But the environment has changed and returns are no longer assured as they once were. Private equity and other illiquid asset classes have matured, as more players seek to deploy ever larger amounts in a market where opportunities necessarily become difficult to identify and access. The few principles that institutional investors have relied on up to now have been anchored in a less competitive past. Private Equity Unchained deconstructs existing practices and provides insights into how to think strategically about illiquid asset allocations. In order to thrive in markets characterised by extreme uncertainty, investors must first accept the limitations of what is knowable. This begins by leaving behind many of those financial theories that institutions normally cling to as a safe harbour for managing risk. Once divested of such false comforts, investors will be in a position to identify their real options and take an active and strategic approach to alternative investing Provided by publisher. 1. Private equity. 2. Corporate governance. 3. Portfolio management. I. Title. HG4751.M dc

5 Contents List of Figures and Tables vii Acknowledgements viii 1 Introduction 1 2 A Neo-Classical Asset Class 7 3 The Repair Shop of Capitalism 16 4 Strategy Challenges 24 5 Strategic Asset Allocation 40 6 The Sky is Not the Limit 54 7 The Limited Partnership as Part of Humanity s DNA 62 8 Do-It-Yourself? 80 9 Economics of Private Equity Firms Objectives Performance Persistence Nobody Knows Anything Spreading Risks Thinly and Thickly Private Equity Risk Performance Measurement The Galapagos Islands of Finance The Locust and the Deep Blue Sea Don t Confuse Transparency with Intelligence Spreading Risks Part II Open-Ended Relationships Hard and Soft Power Real Options 235

6 vi Contents 23 No Plan Survives The Heavy Hand of Regulation Private Equity Unchained 267 Notes 273 Bibliography 290 Index 300

7 Figures and Tables Figures 3.1 Private equity as arbitrage Commitments to private equity by large institutional investors Institutional investing in private equity Concave relationship between fund size and performance Concave relationship for portfolio of funds Direct investments vs. investments through funds Incentive trade-off Subsequent funds drive private equity firm s economics Risk profile of private equity How much diversification? Diversification of capital calls (schematic) Private equity risk model Probability of fund closing depending on deviations from standard practices Development of dedicated resources Taking positions in the fitness landscape Managing the balance between growth, survival / exploration, exploitation / time horizon and slack resources Explore, observe, amplify and exploit Cost of data for superior decision-making Classification and exposure to risk factors (simplified examples) GP/LP relationship lifecycle model Managing portfolios of relationships Private equity programme value chain 252 Tables 19.1 Diversification dimensions 211

8 Acknowledgements Finishing a book is like returning home after having climbed a mountain. Looking at the completed script is an anti-climax and one wonders how one embarked on this journey in the first place. To a large degree this book builds on previous publications over the last ten years, so the thoughts expressed here are the result of the cooperation and discussions with the co-authors of these works: Peter Cornelius (AlpInvest Partners), Christian Diller (Montana Capital Partners), Didier Guennoc (LDS Partners) and Pierre-Yves Mathonet (ADIA). In this context I must also thank Yasuharu Hagi (MCP Group) and Kazushige Kobayashi (Capital Dynamics). Many ideas stem from the advice and conversations with other industry practitioners. I could list many people with whom I discussed the concepts explained in this book, but I at least should mention Guy Fraser-Sampson, Elias Korosis (Hermes GPE), Hal Morimoto (Astoria Consulting) and John Renkema (APG). I am extremely grateful for the support of my colleagues Philippe Defreyn (LDS Partners) and Jobst Neuss (European Investment Fund) and for the help of Tim Jenkinson (Professor of Finance, Director of the Oxford Private Equity Institute and head of the finance faculty at Saïd Business School, University of Oxford). I particularly thank Ross Butler (JRA Butler) for his critical review and his help in improving earlier versions of the manuscript. I also thank my endorsers, Colin Mayer (Peter Moores Professor of Management Studies at Saïd Business School, University of Oxford), Georges Sudarskis (Sudarskis & Partners) and Robert van Zwieten (Emerging Markets Private Equity Association). Acknowledgements would not be complete without expressing my gratitude to Peter Baker, Gemma d Arcy Hughes and Jamie Forrest at Palgrave Macmillan, without whom this book would never have seen the light of the day. Julie Rowbotham has done an outstanding job as copy editor and Francesca White as leader of the production process. I reserve the last acknowledgement to my most important supporter: once more, my heartfelt gratitude goes to Mika Kaneyuki, my wife and best friend, who is my strength and purpose in life. Luxembourg, May 2014