Preqin's Mark O'Hare discusses the advantages and disadvantages of subscription credit facilities in the private capital industry today.
Subscription credit facilities: angels or demons? A legitimate and valuable tool for managing liquidity and streamlining transactions in a competitive market, or a cynical ploy for massaging IRRs? The debate continues in private equity and wider private capital circles.
As is often the case, historical perspective is helpful. Private capital operates in a dynamic and competitive environment, as GPs and LPs strive to achieve superior net returns, through good times and bad. Completing deals and generating the positive returns that LPs expect has never been more challenging than it is today, given the availability of capital and the appetite for attractive assets in the market. Innovation and dynamism have long been an integral aspect of the private capital industry’s arsenal of tools, comprised of alignment of interest; close attention to operational excellence and value add; over-allocation in order to meet exposure targets; new investment structures to meet LP requirements, including co-investments and separate accounts; secondary transactions to increase liquidity; and yes, the intelligent use of leverage.
Most of these tools have pluses and minuses. Used appropriately and to the right extent, they have been proven to increase the LP’s risk-adjusted net returns; used indiscriminately or to excess, and they can be a recipe for problems. As humans we tend to proceed not by ‘grand design,’ but by trial and error, which by definition tends to ‘overshoot’ before settling on the most favourable equilibrium.
Where are subscription credit facilities today in terms of this ‘optimal equilibrium’? Are they still a positive development for the industry, or have they passed that point and are being used to excess? The honest answer is none of us truly knows at present. But we do know the tools that we need in order to find the answers: transparent data, combined with thoughtful communication and debate.
Preqin’s raison d’être is to support and serve the alternative assets industry with the best available data. We have therefore been gathering data on subscription credit use by private capital funds, the first tranche of which is now available to customers on the Preqin Pro platform. At this stage the information is limited to a binary ‘yes/no’ as to whether each fund uses subscription credit facilities or not. Over time we will be adding further information using, as always, a combination of public data and information shared by our customers and contacts across the industry. Thank you in advance for your support in helping us generate the data to help the industry.
We hope that you will find this brief report helpful in understanding the growing role of subscription credit facilities in the industry. The report contains a summary of some of the headline data drawn from Preqin Pro, combined with the perspectives and insights from three partners from across the industry: McGuire Woods, ILPA and Fitch Ratings. We are grateful to them for their insights.
To find out more about the usage of subscription credit facilities in the private capital industry today, please take a look at our recently launched report.