By Christopher Faille
It’s been a slow week in Lake Woebegone. But it has been enlivened some by the August edition of the “Private Equity Spotlight” newsletter from Preqin, the research and consultancy firm, with an article on “Breaking Down Performance: Performance Data and the Importance of Fund Selection.”
This article makes the Keillor-esque observation that “not all funds can be ‘top quartile’.”
Much of fund selection is a constant search by investors and their advisers for the managers who really are top quartile, in the hope (although of course without ever the guarantee) that they will stay there. This search requires not just a casual use of a computer search engine but a willingness to drill down into the figures, and this article seeks to give us something of a tutorial in that.
It begins with the observation that the one-year rolling averages of private equity funds’ IRR indicate that the downturn that began in 2007 and generated such panic by the autumn of 2008 reached a nadir in March 2009.
PE is still attractive. Indeed, whole-industry performance figures show a stronger rebound than do many other investment types.
But everything depends on selection. First, there is the necessity of selecting a strategy, and different PE strategies have produced markedly different results. Real estate oriented funds took the biggest hit from the 2008 crisis. As of December 31, 2010, the median return of real-estate PE funds for a 3-year period (that is, the shortest possible period that would include 2008) was deep in negative territory, roughly -12 percent. If you went back five years, the median return for such funds would show up (barely) in the positive numbers.
Mezzanine funds were much less drastically affected by the crash than RE funds. Their IRR was 8.6 percent in 2010, considering that as a stand-alone year. The three-year performance was lower but still well in the black (above 5 percent). Their five-year IRR is above 15 percent.
Buyout funds do somewhat better in the three-year performance than real estate funds (staying in the positive numbers) though not as well as mezzanine funds. The gap between mezzanine and buy-out fund performance narrows a bit when one extends the time horizon to five years.
Some Top Managers
Beyond an investor’s decision to invest in PE, beyond the decision on the type of PE fund, there is the selection of a manager. There has been a very marked spread between the best and the worst performing PE managers. This is the context in which the article notes that “not all funds can be ‘top quartile’.”
Preqin selects buyout funds for some further statistical drilling in this article. It offers a top ten list of buyout fund managers that “have consistently outperformed the benchmarks assigned to them.” At the top of the list are two European managers, Altor Equity Partners (Sweden) and Waterland Private Equity Investments (the Netherlands). Each of these two has achieved a top quartile rating for every one of its funds that meets Preqin’s criteria for rating, and thus each gets the highest possible score of 1.00.
Waterland also has the best performing 2006 vintage fund, the Waterland Private Equity Fund III, with a net IRR of 32 percent.
Although the article doesn’t pursue this point, some investors might be interested in the way particular alumni from Altor have spread out over the asset management landscape. Pontus Petterson, for example, formerly an associate with Altor, was a principal with Kohlberg Kravis Roberts from 2007 to 2011, and most recently has become a principal at London-based Cinven. Martin Grotenfelt, formerly a senior associate at Altor, is now a Partner at Intera Partners, in Helsinki, Finland.
Four firms earn a 1.33 quartile ranking, two from the U.S. (Ares Management and Charlesbank Capital Partners) and two from the U.K. (Inflexion and TowerBrook Capital). Ares Management, headquartered in Los Angeles, has the best performing 2008 vintage fund, the Ares Corporate Opportunities Fund III, with a net IRR of 34.7 percent.
Ares Management also has interests in real estate. It has the Ares Commercial Real Estate (ACRE) investment team, headquartered in Chicago, and it only quite recently announced the acquisition of Wrightwood Capital’s investment platform, in the process taking on 40 professionals who, at Wrightwood, have been providing capital to the U.S. commercial real estate sector.
Charlesbank Capital Partners is based in Boston, and was spun off from Harvard Management Group in 1998. It focuses solely on the middle market, where it believes the underpriced opportunities are to be found. It recently attracted attention with the purchase of DEI Holdings, a designer of consumer high-performance audio products, with debt financing from General Electric Capital and OPY Credit.
More than 5,600 Funds
The quartile rankings come from Preqin’s Performance Analyst database which, the article says, contains performance data for more than 5,600 PE funds headquartered around the world.