As financial markets continue to experience significant levels of volatility, investors looking to commit to the private equity asset class are facing a variety of challenges. LPs must chose not only when to make their next commitment to the asset class, but also which GPs to invest with and whether to re-up with existing fund managers in their portfolio or form new GP relationships.
Preqin’s H2 2012: Investor Outlook Private Equity reveals that 34% of LPs feel that gaining access to top-tier fund managers is the biggest challenge they presently face when seeking to operate an effective private equity program. With the private equity market in North America and Europe relatively saturated, selecting the correct GP to invest with in the current financial climate can prove difficult. Top performing fund managers are frequently oversubscribed, which means smaller LPs are unable to invest in certain funds. Macroeconomic uncertainty and liquidity issues were each named by 19% of investors interviewed as further challenges they currently face.
Investors have become more cautious and selective when making new private equity commitments, and will not solely re-up with existing managers in their portfolio if GPs have not performed as expected. A significant 85% of LPs expect to form some new GP relationships over the coming year. Furthermore, over one third (34%) of investors expect to increase the number of managers in their portfolio, with 55% looking to maintain their current number. However, it is important to recognize that although investors may not be looking specifically to decrease the number of GPs within their private equity portfolio, some LPs may look to exchange one manager for another if they have not met their expectations.
Within this competitive fund raising environment, it is important for fund managers to stand out from the crowd in order to secure commitments from LPs. A high proportion of LPs (68%) believe a GP’s past performance is the most important factor to consider when making new fund commitments. Many will not consider investing with a manager that does not have a good track record, despite other benefits that may be offered such as fee incentives or co-investment opportunities. Interestingly however, only 9% of LPs believe that the best way for a GP to stand out from the crowd is to offer a favourable fee and/or carry structure.
LPs will likely continue to be selective when making new fund commitments over the next 12 months and will look to invest with GPs that have previously performed well. However, a large number of LPs plan to invest with fund managers that they haven’t worked with previously, encouraging news for fund managers seeking new commitments from outside their existing investor base.