Back to School: Funds raised with placement agents underperform

Private equity funds that use placement agents to help raise capital tend to underperform those that raise money on their own, according to a new study from SEC, University of Oregon and University of California, Berkeley School of Law researchers.

“Anytime you see an intermediary in finance, you have to think to yourself, whoever’s hiring that intermediary’s paying something. The question is, is the benefit they’re providing covering their costs?” said Stephen McKeon, an associate professor of finance at Oregon who co-wrote the study.

That hasn’t been true in most cases, McKeon said. Adjusting for fund type and vintage, placement agent-backed funds underperformed agentless vehicles by 350 basis points, or 3.5 percent. In other words, a $50 million commitment to a placement agent fund will pay out $1.75 million less each year, the study said.

McKeon noted that the study is “not just telling a completely negative story on placement agents. There are also these areas where they do seem to be providing some value.”

For example, first-time funds raised with a placement agent outperform those that do not, according to the study. Also, placement agents with stronger reputations generally represent funds with better performance, in the aggregate, according to the study.

McKeon said weaker performance from funds raised by placement agents should not come as too much of a surprise since many firms hire placement agents because of problematic track records.

“The GPs who have a strong reputation, who have a [track record] for outperformance, they don’t need to bear that cost,” said McKeon, adding that hiring a placement agent “sends some signal” that “they’re not a very good fund, and they need someone to help them market more aggressively.”

Alan Pardee, co-founder and managing partner of placement agency Mercury Capital, said he was not surprised by the study’s findings, considering that about 75 percent of funds raised in 2011 used agents.

“If you have all agents and all funds … there are a lot of agents taking on the funds that will underperform,” Pardee said. “You will find more funds in agented hands than not.”

McKeon and the paper’s other researchers said they do not believe efforts to ban placement agents have merit.