Stock Market Soars, but Private Equity Fund Managers Retreat

Overseas LPs Ramp Up Pressure on GPs Amid Sluggish Returns

Management Fees Drop from 2% to 1.6%... Demand for Co-Investments Rises

Double Burden: Declining Commitments and Scarcity of Attractive Deals

There is an analysis that the pace of investment recovery by overseas private equity fund (PEF) managers has fallen short of previous levels, leading to stronger influence and pressure from fund investors (Limited Partners, LPs). It is becoming increasingly common for General Partners (GPs) to be asked to increase their own committed capital and to participate in co-investments where it is difficult to receive management fees.

According to Bloomberg on the 28th (local time), Orix, a Japanese financial conglomerate, stated in a recently published report that this 'shift in power' has resulted in GPs reluctantly lowering management fees in order to retain LPs. The report explained that this is due to the historically slow pace of capital distribution, with GPs returning investment proceeds to LPs at a much slower rate than before.

According to the report, the capital distribution ratio relative to industry-wide assets under management (AUM) fell to 6% last year. This is less than half the 10-year average of 14%. The report pointed out, "For LPs, the gap between expectations and reality widens year after year as there are no large-scale exits." Orix has not only managed private equity funds directly, but also provided acquisition financing such as leveraged buyouts (LBOs) used by private equity funds. This has enabled Orix to closely analyze the trend of buyout funds holding onto their investments for longer periods.

While LPs wait with their funds tied up, GPs have been increasing their own capital commitments to new funds. According to Orix's analysis, in the past, GP capital commitments typically accounted for 1-2% of a fund, but this has now nearly doubled on average.

Fund managers are also reluctantly accepting lower fees. The report stated that the average management fee for buyout funds dropped to 1.6% in the middle of last year. This is not only lower than the traditional 2% level, but also the lowest since Orix began tracking the data. In addition, LPs are now demanding co-investments in which GPs do not receive management fees. In co-investment arrangements, LPs allocate additional capital to portfolios managed by their selected GPs. Since there are no deal sourcing or management costs, management fees are often significantly lower or nonexistent compared to general alternative investments. Orix explained that such demands have now become "a basic expectation for attracting institutional capital."

The reason GPs are unable to quickly return investment proceeds to LPs has been analyzed as the difficulty in increasing the value of portfolio companies. According to Orix's report, GPs that acquire companies are now expected to achieve 10-12% growth in EBITDA (earnings before interest, taxes, depreciation, and amortization) over five years. This is in stark contrast to the industry environment over the past decade, when even 5% growth was considered acceptable.

In Korea, some LPs have already begun increasing co-investments and ramping up pressure for capital recovery. The Military Mutual Aid Association is a prime example. Recently, it announced a 200 billion won commitment to a single manager, but only three firms applied. This is because, as a co-investment fund of funds, there were restrictions on investment strategy and lower fee rates. Since the fund invests directly into the portfolios of GPs that were committed to last year, the aim is to reduce management fees and maximize investment effects.

Other LPs, such as pension funds and mutual aid associations, have also been delaying or readjusting their investment plans in the first half of the year as capital moves into the stock market. Due to the sharp rise in the stock market, there has been a growing number of cases where funds previously parked in mutual aid association products are not being rolled over after maturity or are being withdrawn early. An investment banking industry source explained, "The PE industry is facing a double challenge: a decline in committed capital and a lack of clear investment opportunities to easily boost company valuations."

This content was produced with the assistance of AI translation services.