This article is sponsored by Viteos Fund Services and first appeared in the December/January issue of pfm.
Private equity fund managers are always keen to know what matters to their investors other than fund performance. Ranjan Mishra, Viteos Fund Services, senior vice-president for private equity, says in their recent survey LPs are differentiating and identifying GPs that are able to provide better quality of service. Viteos conducted its PE investor survey to understand where an LP’s needs are being met by GPs and to find out which areas LPs are seeking improvement in their fund managers.
Are LPs comfortable with administrative fees being charged to the fund?
Ranjan Mishra: The survey shows LPs see a difference in investor service when outsourced to fund admin versus funds that are self-administered in-house and are either using enterprise technology or using Excel for their work. LPs are also seeking transparency and independence on areas such as allocation, reporting and notices coming out to them.
LPs are twice as likely (62 percent) to accept third-party/independent fund admin costs charged to the fund compared with self-administered funds (31 percent). Further, most LPs are indifferent to third-party administrative charges with respect to management fees. This clearly shows that LPs are increasingly comfortable to accept fund admin fees being charged to the fund when outsourced.
How are firms being pressured by profitability?
RM: LPs are not only taking a harder stance in negotiating fees, including in areas such as management fee on invested versus committed capital; they are also seeking more granular expense reporting. Today many of the expenses that are passed on to the fund help reduce costs for the GP but impact profitability. With pressure on fee and expense reporting and granularity gaining ground, many of these types of allocations will be negotiated and/or questioned by LPs, if they have not already done so.
Further GPs – particularly those that are self-administered, are building in-house teams as well as the infrastructure and technology related to operations – are finding fewer LPs accepting such costs being allocated to the fund. So the question really is for the GP to say, ‘Do they want to build the team in-house and incur that cost, versus having a robust service which could be charged to the fund?’
Why do LPs feel that expense reporting needs improvement? And what does it suggest when LPs are satisfied with investor and financial reporting?
RM: This is slowly gaining ground among states like California, which passed the alternative investment transparency bill this year. Other states like Washington and Virginia also have transparency laws. Colorado took a small step in the direction of transparency as part of a pension reform bill.
While large GPs and funds may not be affected immediately, smaller and new launches are increasingly having limited options in not accepting the expense transparency requirements. LPs eventually are seeking to reduce the expense allocated to the fund, which impacts the performance of the fund and eventually the returns to the LP. The survey shows that more than 65 percent of LPs seek improvement in expense reporting.
The survey also shows that more than 60 percent of the LPs are satisfied with investor and financial reporting. However, timely reporting continues to be an issue. Additional areas that are gaining ground include reporting related to the underlying portfolio.
Are LPs likely to be repeat investors at PE firms? Will they participate in the firm’s new round of fundraising?
RM: For most businesses, 70-80 percent of the revenue comes from existing, repeat customers. Private equity is no different when raising funds for subsequent funds. Raising funds from new LPs is not only difficult but expensive, and those costs have to be borne by the GP. The survey shows that, for 86 percent of LPs, investor services are part of the important criteria for re-investing. And 35 percent of LPs consider it crucial.
The data also show that, of the 70 percent of LP surveyed, each typically invests in more than 10 GPs. We are seeing that LPs compare GP not only based on performance but also on investor services. In some cases LPs have created benchmark reports or scorecards. GPs may want to avoid a scenario where fewer LPs reinvest in existing subsequent funds because of inadequate investor services.
While the survey covers a few more areas, we have summarized three key points. For one, LPs are clearly differentiating and identifying firms that are able to provide better service, reporting and customization. Two, LPs are aware and recognize that a GP who chooses to be self-administered using manual processes and Excel are not as advanced as funds which employ third-party fund administrators.
LPs are also more likely to absorb this cost in the fund when the quality of the services is better. Lastly, the quality of service has a direct correlation to reinvestment in subsequent funds, and hence the cost of raising funds is reduced, which is a key contribution by the CFO.
For the survey, go to viteos.com.