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LPs drive growth in customised mandates

The evolution of the relationships between Limited Partners (LP) and General Partners (GP) is driving an increase in separately managed accounts (SMAs) and co-investments, according to the latest research by Private Equity at London Business School (LBS).

In the report – What you pay and what you get…The evolution of fund terms, fundraising and returns in Private Equity – which was produced with support from private equity investor Adveq, researchers from the LBS used Preqin’s fund term and performance data to analyse how changes to fund terms have impacted performance and fundraising. They developed a database of 1,748 unique funds belonging to 1,134 private equity firms for the period between 1998 and 2015.
One of the main findings of the report is the increase in separately managed accounts and co-investments in the industry. The search for yield and more specific investor requirements are redrawing the terms of the traditional LP-GP relationship. According to the report, GPs now display a more favourable attitude to offering flexible fund terms to help clients better meet these requirements. 
Interestingly, while transparency at the fund level has improved, the analysis shows that the growth in SMAs and co-investments has led to more limited disclosure of fund terms in the sector. The lack of obligation to make information public in these discretionary arrangements makes it difficult to assess and understand the correlation between fund terms and performance.
The report also documents that fund size is strongly correlated with fund fees – larger funds tend to charge less, while the research shows that funds are not trading management and performance fees off against each other. Where management fees are higher, carry tends to be higher and in certain cases the hurdle is lower. While one might expect that funds offer various fee packages in an attempt to differentiate their offering, the authors of the report found that funds are simply cheap or expensive..
The report also finds evidence that the size and the lifespan of a fund play a critical role in fundraising. Larger funds seem to receive more funding than they originally anticipated and funds with longer investment periods – more than five years – seem to fall short of their initial funding targets.
The data also shows that small discounts, often offered by listed funds, shorten fundraising periods, while bigger discounts are not viewed positively. In addition, the report suggests that unusually low carry makes investors suspicious and makes fundraising targets harder to achieve.
Michael G Jacobides, Associate Professor of Strategy and Entrepreneurship, London Business School, says: “Our analysis shows that price variability in the industry is not associated with success. What you pay, in terms of proportion that goes to fees, doesn’t reflect what you get in terms of returns, even after you adjust for segment, strategy, etc. For instance, while big (and publicly listed) funds may find it easier to attract capital, they don’t necessarily show superior returns. This highlights the complexity of factors at play in the setting of fund terms and how they impact fundraising and performance in the industry.”
Sven Lidén (pictured), Managing Director and Chief Executive Officer, Adveq, says: “The private equity industry has evolved rapidly in recent years and that has transformed the way LPs and GPs interact with each other. In this dynamic environment, keeping pace with changes and responding to investor needs is the only way to stay relevant and grow.
“Adveq’s agile approach reflects the trend highlighted in the report. We have evolved from the traditional fund-of-funds model to one that offers clients customised mandates in the shape of co-investments and managed accounts to meet our investors’ diverse requirements.”

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