The following Wharton PE Conference coverage is from Daniela Stefovska, a first-year MBA student at the Wharton School. She sat in a panel about the future of private equity. Prior to Wharton, Daniela worked in the Global Treasury group of Merrill Lynch, where she helped create the Liquidity Risk Management platform.
Alternative Investments: Strategies for the Future
The panel kicked off by tackling the issue of whether PE was the problem or the solution to the current economic crisis. One of the participants drew the following analogy to explain attacks on PE for causing the crisis: “When a fight starts in a bar you don’t punch the guy who started it, you punch the guy you don’t like.”
The Blackstone Group’s Garrett Moran emphasized the important role PE plays in the economy by creating business value. The primary mechanism for value creation is the governance model which aligns management with owners and allows managers the ability to make decisions quickly and to drive execution and focus. Furthermore, Moran described PE as a “victim of its own secrecy,” having done a poor job of communicating its value to the general public. The industry’s PR focus to date has been mostly on regulators, perhaps there is a need to do more educational efforts targeted at the general public.
Next the panel discussed the topic of PE’s changing relationship with LPs. Sebastian Burdel, an investment principal with Coller Capital, shared some survey results revealing that while LP return expectations have decreased, their PE allocations are largely intact. The survey results also confirmed the shifting balance of power from GPs to LPs.
The biggest issues that LPs currently have with their PE fund managers are transaction fees and carry structure (deal by deal vs. whole fund) and Burdel believes that both of those will eventually go away. Chris Ip from the University of Pennsylvania’s Investment Office shared an LP’s perspective of the dynamic nature of asset allocation. While U Penn’s strategic asset allocation to the PE asset class is 12.5%, the current allocation is only around 6% as they are finding more compelling risk-adjusted returns in other asset classes such as credit hedge funds that also provide the necessary liquidity for a tactical bet.
Next MR Moran talked about creating value by driving operational improvements.
He gave an example of portfolio company Nielson, where Blackstone achieved $500mm in operating cost reduction by streamlining customer service. Another example was the creation of a non-profit cooperative that serves as a central purchasing group for all Blackstone portfolio companies as well as those of 14 other PE firms, which results in $200mm savings annually.
Lastly, David Ingles a partner at law firm Skadden Arps, circled back to the original question posed by the panel by showing how PE can play a key role as a solution to the current crisis, by injecting much needed capital into the financial sector. Ingles has spent the last two years advising PE funds on how to structure investments in struggling banks, an area which is a far cry from the typical domain of PE shops. The investing landscape is complex and ridden with numerous government regulations, including the requirement that investment are limited to 25%. If an investor acquires more than 25%, they would have to register as a bank holding company and would not be able to own anything else but banks. Other restrictions include only one board seat, significantly limiting the ability to drive value through governance. Thus typically value comes from attractive pricing at significant purchase price discount.