Funds
Private equity firms: challenges to fund raising
Training course provider: OK. So you’ve had a chance to have a look at that article. Something interesting in there, David? Something interesting in that article? Ollie? Matt?
Training course provider: Yeah, it’s one of the points that’s coming out of there. Look, you’ve got you’ve… you’ve got your packs, and just keep that little chart in front of you – it’s slide eleven. Just keep that in front of you while we talk about this article.
Note, to access the article being discussed at this point in the course click here: Funds hand back cash and face up to a shrinking future.
Training course provider: Let’s just look at a couple of the… a couple of the extracts. Investors, towards the bottom there, investors putting much less money into buy-out funds, prompting private equity groups to raise smaller funds less frequently so their fee income is falling. In response, many are cutting costs by trimming staff. So I think we were thinking that being in private equity looks like a good deal because of these fantastic bonus arrangements; but just look at what this article is… is saying here. And then it goes on to say some things about the impact of those cuts; foreign ventures, new offices are being cut back. Fees are also being cut – we’ve talked about pressure on fees recently. Head hunters say the shrinking of private equity is likely to trigger unprecedented turnover of people within the… within the private equity industry, so there we go.
No exits/ realisations means no further funds available for investment
Training course provider: So… so let’s have a look at that; we’ve got that pack in front of us. What’s going on here? What’s going on here right now? Here we’ve got a cycle for a private equity firm; private equity firm raises funds, invests that money, manages those businesses over – in ideal times – three to five years, sells those out for a profit. David, what’s going on right now though? What’s impacting that cycle?
Delegate: They can’t raise the funds.
Training course provider: They can’t raise the funds.
Delegate: Which means they can’t invest.
Training course provider: Haven’t got money to invest. Yeah, no… no assets to manage, no sales, no profits; essentially we’ve got very rocky times for the private equity industry. And I think it’s the paper today actually has got reports about – I think I was talking to Matt about this – Permira here in the UK, Permira [see "Permira joins buy-out optimists with promise of 'wall of cash'"] saying that… to the British Venture Capital Association, at least the report was, that they’re thinking about floating a lot of their businesses with the rise in the stock market; and you can understand why. That is a route out of the problem; if they can get some quick realisations from floating some of their businesses on the stock market, then they might be back in business; but otherwise… otherwise I think we’re in very uncertain times for the private equity world generally. Any questions about what we see there?
Training course provider: The slide’s titled ‘how is success measured?’ and I think historically it hasn’t been about probably about the size of your yacht or which car you drive; it’s been about what size of funds you have under management. And some firms have played this game, historically, very, very well and have scaled up their funds under investment very, very quickly. And I think – I… I… I might be wrong, but I think Permira was one of the ones that’s done very well; raised funds. I think, I can’t remember the numbers exactly, it is on their website, they have increased over five years ten times: their funds under management has gone up by ten times. And you can think about what that might have done for their ability for their funds… sorry, their… their… you can think about what that increase and the size of their funds has done for their management fee, because I’m sure the percentage hasn’t… hasn’t adjusted itself; so they’re probably doing… have done, I’m guessing, very well on the management fee. And of course the other thing that they’ve got is the ability to participate in bigger and bigger deals and get more and more share of those carried interest arrangements. But what we’re reading in the article is that for the private equity world in general – for the private equity world in general, that whole cycle is at risk right now of grinding to a halt because they can’t get the realisations. Any questions about what we’ve covered there?
Private equity summary: what they do, what fees they charge, and where they get their money from
Training course provider: OK, so I’m just going to sort of bring this session for a close and then we’ll move on to look at a real buy-out and how that’s structured and learn some lessons there, but just this… this introductory session, to sort of bring it to a close… Matt, you had the answer for me right at the start; how do private equity firms make money for their investors?
Delegate: Buy low, sell high.
Training course provider: Buy… buy low, sell high; absolutely they do. David, what’s one of the ways that private equity firms make money for themselves?
Delegate: By carry.
Training course provider: By these carried interest bonus arrangements. Ollie, another way that they make money for themselves, the private equity firms?
Delegate: Erm… arrangement fees.
Training course provider: The arrangement fees, the monitoring fees and the management fees; so all sorts of ways in which they can charge fees and pressure there from investors. How is success measured? Well I would say historically, as I mentioned, it’s been the size of funds under management, but one of the things that’s threatening that model is the lack of realisations. Whose money is it? Ollie, I’m going to ask you; whose money is it?
Delegate: Pension funds.
Training course provider: Pension funds. It’s kind of yours, isn’t it? It’s kind of yours, generally; it’s yours; but pension funds, sovereign wealth funds, these are the types of people that invest in private equity. What do they do with it? Well I think we covered that, again, at the start. Matt’s got the idea; they’re investing in businesses hoping to sell-out at a profit. So there we go.
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