Before going direct, go local

As investors that have traditionally served as fund investors look for more direct and co-investment opportunities in the region, the same lesson applies. You need a stable, local presence to make it work.

Talking to AVCJ about the California Public Employees' Retirement System's (CalPERS) Sacramento-based approach a couple of months ago, one industry participant put it thus: "We see these guys come off the plane and they're half dead. They are here to do due diligence on co-investments but are in no state to work productively. If you can't invest in the infrastructure, you will make mistakes."

This message was reinforced last week during an FT conference panel on institutional investors' strategies. Participants included Mark Delaney, CIO of AustralianSuper, and Peter Chen, senior principal at Canada Pension Plan Investment Board (CPPIB).

Explaining why AustralianSuper decided to open an office in Beijing, Delaney made two points. The pension fund already has considerable exposure to equities in the US and Europe and is considering a rebalance in favor of China, and executing this strategy responsibly means relying on more than the word of third-party advisors and fund managers. AustralianSuper also has sizeable domestic investments, many of which are resource-related, and understanding how these might perform means understanding China, the primary source of demand.

CPPIB, meanwhile, is known for its willingness to put resources on the ground in Asia and for having a proactive attitude towards direct investment. Strip out the large-scale infrastructure transactions from the pension fund's corporate private equity activities and it seems that only one of these reputations is merited. Yes, CPPIB does employ about 20 investment professionals in Hong Kong, but so far the co-investment deals it has pursued have been limited to transactions executed in tandem with portfolio GPs.

Nevertheless, CPPIB offers competitive compensation packages and doesn't appear to be hemorrhaging talent. Chen told the conference that taking an appropriate long-term view towards investment in Asia wouldn't be possible without having resources in Asia.

Coller Capital's latest global private equity barometer found that there is no shortage of interest in direct investment among LPs. Two-thirds of respondents said they now commit capital to companies on a co-investment or stand-alone basis, up from 35% six years ago. Over 40% expect their direct investment levels to increase in the next three years. Only 6% envisage a decrease.

The underlying logic is sound - lower costs and potentially higher returns - but every time the size of a commitment to one particular deal goes up, so does the risk factor. In these circumstances, it is really wise to rely on a fund manager's word alone when looking at a co-investment opportunity? There have been situations in which GPs have pushed deals onto LPs in order to finish off a fund, stepped outside their investment comfort zone and needed bailing out, or become so focused on a transaction that they are blind to flaws that emerge during negotiations.

Even if an LP knows it has to make a tough call on a deal, can the investment professional responsible get it right after a 14-hour flight from its headquarters and with little background information picked up from local sources?

Everyone wants to do direct investments but not everyone has figured out how to do them right.

• Tweet  
• Facebook  
• LinkedIn  
• Google plus  
• Save this article  
• Send to  

• Topics
• LPs
• Investments
• Direct investment
• Co-investment
• Asia
• LPs