Andrew Lebus: Capitalising on the global boom in private equity

Private equity refers to investments made through private transactions in companies that are not public. Private equity managers hunt for high quality companies, at attractive valuations, and take influential or controlling positions. According to Preqin’s 2018 report, the market globally is worth approximately $2.83 trillion (£2tn).

The common thread connecting private equity strategies is the optimisation of a business’s capital structure to align the private equity investors’ interests with those of the company’s management, combined with a long-term investment horizon and support for a company’s executive team. Often this may include appointing senior members of the management team and directors to the company’s board.

Private equity investors work very closely with the company’s management to accomplish both strategic and operational change to transform the company’s value.

Once the value creation plan has been achieved, the company can be positioned for a profitable sale. This can be in the form of a sale to a corporate buyer or a secondary sale to another private equity firm, or by means of an initial public offering.

How to Invest

Capital in the private equity industry is managed predominantly in illiquid non-listed structures. Investors may invest directly in a private equity fund; however there are often very high minimum investments in those funds and people are typically expected to lock their capital in for a long time – usually ten years – making them either not suitable or inaccessible to many retail investors. So how else can retail investors seek to tap into private equity? There are several routes, each carrying its own opportunities and risks. Investors should always consider the respective advantages or disadvantages and remember that, as with any investment, past performance does not indicate future results.

Those who seek to reduce risk through diversification, while still benefiting from the specialist research and analysis of a professional investment group, could look to access private equity through a fund-of-funds. This is a fund that carefully selects and invests in multiple funds.

This type of fund allows for greater diversity of exposure by: type (of funds); stage (the stage of an investee company’s life cycle at which the investment is made); vintage (the year when a fund is launched) as well as geography and sector.

Such diversification should help mitigate the risk of loss from any one manager or company.

Fund-of-funds can invest in several ways: Primary funds, new funds where the investment opportunities are not yet specified; secondaries, whereby existing interests in private equity funds are purchased; and equity co-investments, investing directly into companies alongside private equity managers.

One of the advantages of investing in secondaries is that upfront fees will have been paid, and distributions from the fund will be returned sooner. Typically there are very low or no fees for co-investments.

As mentioned, there can be significant barriers to entry for retail investors seeking to tap into the opportunities presented by private equity. However, one way is by buying shares in a listed private equity investment trust, such as Pantheon International Plc (PIP), which is the longest-established private equity fund-of-funds on the London Stock Exchange.

An investment trust is a closed-ended investment company that is listed on a stock exchange. Shares in an investment trust are bought and sold in the same way as any other publicly traded share with investors benefiting from the administrative simplicity and increased liquidity. Through an investment trust, retail and institutional investors can more easily gain access to participate in a managed, globally diversified portfolio for the minimum price of one share. In addition, the capital gains that arise and are retained within an investment trust structure are not subject to corporation tax.

For investors looking for attractive risk-adjusted returns over the long term, private equity has strong credentials and can offer significant diversification benefits when added to a wider portfolio of assets.

Andrew Lebus is manager of investment trust Pantheon International