01
Too much value is taken
off the table
For decades private equity have been able to portray that by providing the opportunity, liquidity and connectivity; the value left for sharing with management can only be modest. Typically just 10-20% is shared between all of senior leadership and that range is often further eroded when priorities, interest & charges are applied. With connectivity often over-sold, liquidity often overpriced (loan notes at 12%) and the entry-price set by the sponsor, the “value-add” by traditional sponsors can sometimes be underwhelming – leaving management to be the forcing factor in success.
02
Management arrive last
Many fund strategies are built years before any funds are deployed. The fund therefore prospects for new deals based on parameters which could have been defined many years previous. Once a fund finds deals, they then devise a strategy that best enables return of a quantum required to placate investing LPs. They then look to back-fill that deal with management optimally placed able to deliver the strategy chosen by the fund. With management the single most likely factor to influence success it seems counter-intuitive that they would be the last party to any opportunity.
03
Change is inevitable
92% of funds are closed-end funds – these funds have a fixed period to deploy and return fund investors their money. Forcing growth and enhanced performance in a discrete period of time requires often very fundamental changes to invested businesses. Those demands become inflated further as the price paid for assets increases.
In a 2019 study, private equity firms were found to have changed their CEO & CFO no fewer than 78% of the time before exit. Is that more likely a result of underperformance or unfair expectations? When management carry all of the risk is it right that they also share in such a narrow portion of the rewards?
04
Lack of differentiation
With no credible alternative available to management and a constant clamour of emerging talent seeking the equity participation and perceived CV-enhancement of joining the private equity community, management have little option but to accept the status quo and perform to maintain favour with sponsors.
With no credible alternative threatening private equity, there is no incentive to change. Whilst the market is ever-more saturated with new funds, the fact they all operate with management in broadly the same fashion ensures the industry can continue to maintain a one-sided position which leaves management an unprotected and under-rewarded commodity.