Middle market blues

High fees are putting investors off, but smaller players are harder to find, writes Yuri Bender. Swiss-based LGT Capital Partners, recently selected by Fortis Bank to manage a portfolio of private equity funds to boost the Belgian-Dutch institution’s balance sheet, is witnessing a preference for mid-market buyout opportunities among large-scale investors. Venture capital has been the loser in recent asset shifts, according to LGT. “Investors tend to feel uncomfortable with the multi-billion pound buyout funds, which collect very high fees,” says Tycho Sneyers, head of business development at LGT Capital Partners. Unfortunately for high net worth individuals, it is the large buyout funds, managed by houses such as Carlyle Group and Warburg Pincus, which have the best brand names at the top end of the private investor market. “Wealthier individuals know these funds and it is easier for them to get access. If they don’t want to go for a fund of funds route, then they go for the big name buyout funds. Mid-market opportunities are much harder to find,” says Mr Sneyers. The problem with the larger buyout funds, says Mr Sneyers, is their stronger correlation to public equities: “The larger funds often depend more on the IPO window to a much greater degree than the smaller end of the market.” Typical examples of the mid-market private equity funds invested in by LGT’s fund of funds are Orlando Special Situations in Germany and Chequers Capital in France. But it would take a canny, internationally-minded adviser to locate and access these funds and put together a syndicate capable of raising the minimum investments. “These smaller players are typically well beyond the radar screen of most investors,” says Mr Sneyers. “Even big pension funds would not know of them. British pension funds, for instance, are not in this region. But our fund of funds has them on the books.” LGT points to a dedicated due diligence process used to select funds. This looks not only at the track record and previous success of the external managers, but also at the size and prospects of the particular market segment on which the managers concentrate. Performance comparisons can be a key sticking point for private equity investors. “There is not much transparency in this market,” sighs Mr Sneyers. “But we have years of experience, of collecting information. We ask for track record information from each individual manager. Then we put this into perspective. We compare it to their relevant peers.” Schroder Ventures, which controls an investment trust called SVIIT – listed on the London stock exchange – and a separate Dublin-listed private equity fund of funds it manages for the Schroders investment management group, advises diversification. “Most investors can benefit from an allocation to private equity, but if the rest of their portfolio is weighted to the Nasdaq, for instance, they shouldn’t rush towards early stage buyouts, but go for something totally diversified,” says Alice Todhunter, head of marketing at Schroder Ventures. The Dublin fund of funds, which contains E242m, invests in a whole range of vehicles, including those concentrating on large buyouts, mid market, life sciences and early stage buyouts. SVIIT, its better-known sister fund, is the best performing investment trust in relation to its peer-group over the last five years. The pooled structure allows a E20m or E10m initial entry for a single fund to be reduced to E125,000 for a high net worth individual player. Permira, a fund in which SVIIT invests, has done extremely well from the sale of a majority stake in do-it-yourself chain Homebase to retail and financial services group GUS. The Ł900m (E1.4bn) sale has triggered a cash return of more than five times the original investment. Permira previously backed the buy-out of Homebase from supermarket chain J Sainsbury in March 2001. For SVIIT, the latest transaction means a Ł109m windfall from an initial outlay of Ł20m. SVIIT expects its net asset value per share to surge 57 pence as a result. Schroder also points to the substantial discount at which investors can currently buy assets through this fund. This comes from the peculiar structure of investment trusts, which allows funds to trade at a discount to net asset value. In 1996, when the fund was formed, all SVIIT’s investors were institutions. Now, at least a quarter are private investors. “Going from zero to 25 per cent in seven years signals there is a demand for private equity products in the high net worth market,” says Ms Todhunter. “We are there to give the market the benefits they need – lower minimum investments and liquidity. They want to be able to sell holdings when they need to.”