
Australian LPs and co-investment: Willing partners
The difficulties NZ Super encountered with its now-defunct global direct investment unit offer pointers for Australian LPs looking at how to resource and structure co-investment programs
The shortest journey from Auckland to New York with Air New Zealand takes 18-and-a-half hours and includes a 90-minute layover in Houston. Investment professionals at NZ Super found time and distance too great an obstacle when looking for direct deals beyond their home market. But asking North American managers to make the same journey in reverse has become an integral part of the New Zealand sovereign wealth fund’s efforts to develop deeper relationships with portfolio GPs.
NZ Super is a big believer in separately managed accounts (SMAs) due to the flexibility they allow. The LP wants control over the allocation of capital and risk, whether that means having an opt-out that could cause reputational damage or being able to flex capacity up and down according to how it perceives the opportunity set. It also likes to include a provision requiring overseas managers to visit New Zealand at least once a year. The visitors don’t necessarily have to be private equity dealmakers: NZ Super is just as interested in having senior research personnel address its entire investment team on sectoral trends.
Communication and knowledge-sharing are a consistent theme when institutional investors from Australia and New Zealand discuss what they want from deeper relationships with GPs. Referring to thematic elements that crop up during the investment process, Will MacAulay, an investment manager responsible for private capital at HESTA, says: “The more we can bring those out in a systematic manner and apply them to other parts of the portfolio, the better.”
They also flag up secondments as a part of this extended dialogue. Spending time on the ground with portfolio GPs can be an important educational exercise for junior members of investment teams. But there’s also a sense that it contributes to a broader understanding of the manager. To put it another way, the more touchpoints LP has with GP, the better.
Australia is something of an anomaly within the global institutional investor community. It is the world’s fourth-largest pension market with A$3 trillion ($2 trillion) in assets yet the average allocation to private capital fell from 12% to 4% between 2013 and 2016, despite outperforming all other asset classes. The discrepancy exists largely because more attention is directed to the fees external managers earn than to the returns they produce. Co-investment can help bring down the cost of private equity, but LPs need to find a way to get exposure to the asset class that works for them.
While the trend among larger players is to bring more investment capabilities in-house, private equity is the most complicated and expensive to master, and therefore often the last to be addressed. But if LPs want to build co-investment programs that amount to more than outsourced arrangements – which may do little to address risk and cost concerns – address it they must. Several superannuation funds are bulking up their teams with professionals who have experience in this area. Talent doesn’t come cheap, though, which means it is difficult to do anything global in scope and meaningful in scale.
NZ Super makes for an instructive example. The group started consolidating GP relationships several years before most of its Australian peers and ended up trying to dispense with the third-party manager model completely and pursue deals on a solo basis. Being so far away from most of the target assets proved challenging – for example, NZ Super was shown deals but feared adverse selection because there was no relationship at fund level. Last year the international direct team was disbanded.
“You could say that after consolidation and the attempt at internalization, we are now back full circle and looking at our options in terms of new GP relationships and how we can do more of a co-investment model,” says Hamish Blackman, portfolio manager for external investments and partnerships at NZ Super. The emphasis on deeper, more holistic manager relationships by Australian LPs suggests they aren’t bold enough to believe that embarking on a similar endeavor would deliver a different outcome.
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