GP-LP relations: Trust issues

The Reputational Risk in Private Equity Report, published by IAG and Thompson Taraz, which the aforementioned headline was used to promote, is no exception.

Nine in 10 GPs surveyed suspect LPs of taking meetings even though they have no intention of investing and eight in 10 said LPs are not truthful about their reasons for not investing. There is also substantial support for the notion that supposedly prospective investors request information only to benchmark other funds.

While no more than about one quarter of LPs who participated in the survey admitted to the latter two charges, a comfortable majority said they have taken meetings with fund managers despite already knowing they would not invest.

In addition, the report reveals predictable differences of opinion on the quality of fund reporting. GPs give themselves 3.9 out of 5 on reporting, overwhelmingly believe LPs are getting all the information they need; LPs give GPs 3.3 out of 5, and less than half think their information needs are met in a timely fashion.

Context is helpful here. First, this is a global survey so Asia accounts for a small portion of the GP and LP sample. Second, pension funds made up one third of LP respondents, with family offices on 18%, and insurers, endowments, banks and fund-of-funds in the low teens.

The LP breakdown is particularly important. Most of the capital going into professionally-run, US dollar-denominated funds in Asia comes from investors based outside the region. Few have any representation here and a significant proportion rely heavily on intermediaries - fund-of-funds, separately-managed accounts and other advisory relationships - when deciding which GPs to back.

As a result, the intermediary constituency in this and other emerging markets has a particularly loud voice. Not all GPs like this, and the fund-of-funds come in for particular criticism from Asia-based managers.

Their alleged transgressions are legion, but here are some common sound bites: Those guys can't raise any money, they come to meetings just to collect gossip; fund-of-funds refuse to give us access to their LPs; they hound managers for allocations, pushing funds beyond the ideal size; they are aggressive on terms, I wish I could avoid doing business with them.

That said some fund-of-funds are singled out by GPs as beacons of industry respectability, untarnished by any of the criticisms listed above. It is difficult to think of a single group that is universally acclaimed. In many cases, managers will reserve praise for fund-of-funds that backed them when they were starting out and remain on the LP roster to this day.

Fund-of-funds will continue to play a role until a critical mass of international LPs is comfortable enough to enter Asia directly. Even then, they might retain mandates from mega LPs that want exposure to smaller managers but are unable to go below a certain check size. Whether the primary mode of entry in 10 years' time is still a comingled fund product remains to be seen.

Given the relative youth of Asian all LPs want to get to know managers before committing to them. This involves taking meetings when there is no chance of an allocation and requesting information that is ultimately used to benchmark managers across the region.

While some institutions may prefer obfuscation to honesty when explaining their decision not to invest, this approach doesn't help anyone. How, for example, can GPs improve their reporting capabilities and governance if LPs doesn't explain why they aren't up to scratch? Beyond that, sharing information and building relationships is part of Asia fundraising, and it applies to the region's nascent LPs just as much as nascent GPs.

At last month's AVCJ Forum I took a look at the schedule of LP meetings that an Asian PE firm had set up for the week. My eye settled upon a particular institution that is fairly new to private equity. "Really?" I asked. "You're not going to get any money from them. At least not this time around." The investor relations executive replied: "I know. It's for the fund after this one."

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