Direct investment: Embracing the unorthodox

QIC has A$14 billion ($10.4 billion) under management in global real estate and more than A$5.8 billion in infrastructure. Such assets can generally be relied upon to deliver a combination of consistent yields and long-term value appreciation, and QIC's investment professionals actively support these objectives.

The group has a further A$5 billion in private equity, although unlike real estate and infrastructure, which are 100% direct, QIC continues to commit to PE funds managed by third-party managers. It also co-invests with managers on a direct basis. On the domestic front, meanwhile, there are situations - typically where a company requires a long-term partner - in which QIC is happy to go solo.

QIC is unusual among Australian LPs in the depth of its private equity resources. However, the notion of an LP taking the lessons it has learned in real estate and infrastructure programs and applying those to private equity is anything but unusual. Many Australian institutional investors - although not QIC - got their first taste of private equity through fund-of-funds and then moved through the gears to fund commitments. As they look to build their direct exposure it is logical that these LPs would turn to the strategies and human resources set-ups that have proved effective in other asset classes.

This does not mean that all Australian LPs now want to do deals themselves and operate independently of GPs. For most, co-investment still means downstream syndication of deals that are too big for funds to digest alone. But as they consider how to tap into particular investment themes, the more sophisticated are finding that traditional private equity structures are not necessarily the best answer. Co-investment, while generally desirable, doesn't have to come alongside a blind pool fund under either a make-your-bet or a pro rata model.

It was in this context that the LP panels at the AVCJ Australia & New Zealand Forum were peppered with references to deal-by-deal arrangements, pledge funds, evergreen funds, and bespoke fund-of-one platforms. Australia represents the most forward-thinking LP base within AVCJ's geographical coverage, so such shifts in thinking are worth noting (and fall in line with the views of sophisticated institutional investors globally, with whom we also engage).

Bain & Company's latest global private equity report cites a study by placement agent Triago that estimated $161 billion of "shadow capital" was invested in PE on an annualized basis in 2015, equal to 26% of traditional capital during the period. "Co-investing alongside a GP is continuing to grow in popularity with LPs," Bain observes. "This shadow capital does not figure in the totals raised by PE funds, but it is having a big influence on GP-LP relations and the evolution of the industry overall. LPs like co-investing because anteing up additional capital can buy them access to an elite GP - or squeeze concessions from one with middling performance - by putting money in its new fund and then writing another check that lets the LP ride shotgun with the fund while paying a far lower fee to the GP, taking a smaller bite out of returns."

This is sound analysis, but what form did this shadow capital take? And what form will it take in the future? The answer, for most LPs, is more of the same. They like co-investment, and they don't have the internal resources to do more than join a post-deal co-investment syndicate. Meanwhile, those that can become deeply involved in co-investment, likely as co-underwriters, will be the forefront of innovation in this field. It doesn't signal the end of the GP - AVCJ has written about the growth of deal-by-deal fundraising in Asia, a trend also apparent in developed markets - but the way these managers raise capital will change.

This may mean LPs deploy capital more efficiently in opportunities that require a non-traditional approach, such as investments that do not fit the traditional PE fund lifecycle. At the same time, though, the larger the amount of capital raised in the shadows, the harder it is for other investors to get a sense of where it is flowing and who it represents.

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• Topics
• Australasia
• LPs
• Fundraising
• QIC