Over three-fifths of institutional investors have chosen not to invest in a private equity fund as a direct result of unfavourable fund terms, according to a Preqin study.
Data from Preqin’s forthcoming 2014 Private Equity Fund Terms Advisor suggests that private equity fund managers are not doing enough to appease their institutional backers with regards to the fees they charge.
Management fees, traditionally charged at two per cent of capital committed to a fund each year, are mostly used to cover the operating costs of a fund manager. Investors, however, have been calling for these fees to be reduced, and a greater emphasis placed on performance-related fees, in an effort to improve the alignment of interests between fund managers and investors.
Management fees have consistently been named by investors as the area in which alignment of interests can be most improved in Preqin’s historical investor surveys.
One in ten investors now strongly disagree that interests between fund managers and investors are properly aligned, the highest level to date. A further 27 per cent of investors also slightly disagree that interests are properly aligned.
Investors based in North America are particularly dissatisfied with the current alignment of interests, with 42 per cent disagreeing that interests are properly aligned, compared to 24 per cent of Europe-based investors.
Larger investors, those with USD2bn or more in assets under management (AUM), feel that interests are not properly aligned, with 40 per cent of these investors stating so. In comparison, 29 per cent of investors with less than USD2bn in AUM said the same.
Investors named the payment of fees on capital that has been committed but not yet invested as the second most important area in need of improvement after management fees, with 39 per cent of respondents indicating this.
Competition in the fundraising market is high and with so many competing funds, investors can afford to be selective; 30 per cent of our surveyed investors have rejected a fund based on its fund terms and conditions in the last six months alone.
“Preqin’s latest survey of investors in private equity had many positive takeaways; investors are generally pleased with their private equity portfolios at present, given strong performance, and remain committed to the asset class,” says Christopher Elvin, head of equity products at Preqin. “One area, however, that investors are still not satisfied with is the alignment of interests between fund managers and investors, particularly when it comes to management fees. Although Preqin has witnessed the average level of fees charged to investors come down slightly in recent years, investors clearly still think there is more that can be done on this front.
“With the number of private equity funds in market competing for investor capital still at record levels of over 2,000 vehicles, it is important that fund managers structure their funds in a way that instantly appeals to investors. Given the high proportion of investors that have told Preqin they have rejected funds due to their terms and conditions, fund managers need to acknowledge the demands of their investors and be aware of the terms offered by their peers to ensure a successful fundraise.”
