GPs shift focus from returns to protection

Post-financial crisis, GPs in private equity and real estate, including large asset managers, are increasingly shifting focus from generating returns to protecting investors.

“The larger asset managers are really, really focused on protecting the capital that investors give them,” Greg Lapham, managing director at BlackRock Asset Management, highlighted on the opening panel at Private Equity International’s Private Fund CFO & COO Seminar this week in Hong Kong.

“Since the issues of 2008, the legislation that has come into play has been focused on protection of investors and it does not consider returns. So it is getting harder to maintain returns as your costs are going up.”

Private equity firms have been dealing with increasing compliance requirements, including the controversial Alternative Investment Fund Managers directive (AIFMD), which has forced managers to reassess their processes when it comes to evaluating risk and transparency.

One delegate agreed with Lapham’s assessment, saying, “I think there is a shift from returns to protection. Returns are obviously important, but I think protection [has] become priority number one especially because of the compliance and regulation [requirements] and also simply because of the difficulty of [pricing]. So I think priority number one is to convince our investors that we will be a safe house.”

He adds, “I think the challenge sometimes to our industry is that the return expectations are disconnected with what is achievable.”

However, while not all agree that the focus has shifted from returns, ensuring your investors’ capital is safe is increasingly critical for private equity firms.

“I don’t think there is a shift in terms of protection, I think the focus is still on returns,” Ashish Patil, chief financial officer and chief operating officer at India’s Nalanda Capital, said.

“If you are managing someone else’s capital, the onus lies on you to have had [systems] in place from the day you started managing that particular fund. You shouldn’t need to be told to do X, Y and Z. If you have it right from the onset, that gives enough confidence to LPs that you are doing the right things – and if you [are], that is 50 percent of the game in terms of fundraising.”

Patil highlighted such requirements as independent valuations, independent custodians and independent fund administrators as some of the things that are becoming regulatory requirements that firms should already be implementing for their investors.

Nevertheless, despite firms noting the importance of doing this to protect their investors, some requirements are unnecessary, Leonard Wei, chief operating officer at Arch Capital Management, argued.

For example, the requirement of having an independent custodian, who would usually be responsible for safekeeping a customer’s securities, is not always relevant, Wei says.

“What am I going to do with a custodian? We don’t deal with securities per se. The only thing I might actually hold that is a security are the share certificates of the companies I own down the chain at the project level. So if I’m not actually dealing in securities, we actually become a victim of the AIFMD’s apparent `one-size-fits-all' prescription.”