Key Points:
– Private equity firms have traditionally raised capital for a specific period of time, usually 10 years, from third-party limited partners (LP) investors.
– However, the global financial crisis (GFC) and other factors have made it more difficult for private equity firms to raise funds.
– To counter this, private equity firms are now striving for permanent capital, similar to the model used by endowment funds and insurance companies.
– Permanent capital provides a more reliable source of funding and allows private equity firms to invest for longer periods without the need for frequent fundraising.
– Some private equity firms have achieved permanent capital by acquiring or creating platforms that control long-lasting pools of capital.
– However, the pursuit of permanent capital also raises concerns about accountability and potential misconduct in the private equity sector.
– The ultimate goal of permanent capital is to become less dependent on the whims of LP investors and secure a stable asset base and consistent capital streams.
In the 1970s, leveraged buyouts (LBOs) were conducted on a deal-by-deal basis, which was a cumbersome process. To streamline the equity funding stage, LBO specialists started securing capital commitments from third-party limited partners (LP investors) for a period of 10 years. This created a more efficient and reliable funding source for private equity (PE) firms.
However, the global financial crisis (GFC) in 2008 had a significant impact on the private equity industry. Many firms struggled to raise funds, and LP investors became more cautious and selective in their investments. The GFC highlighted the vulnerability of private equity firms to market shocks and economic downturns.
To counter this, private equity firms started striving for permanent capital. The goal is to have a reliable and continuous source of funding that is not dependent on fundraising cycles. Permanent capital would allow private equity firms to invest for longer periods without being constrained by limited partnership agreements.
Private equity firms have pursued different strategies to achieve permanent capital. Some firms have created investment vehicles focused on market-leading, slow-growth companies, following a buy-and-hold strategy similar to Warren Buffett. Others have raised long-dated funds with extended time horizons, reducing the frequency of fundraising.
In addition, private equity firms have sought to reduce their dependence on LP investors by collecting fresh equity from outside sources. Some firms have gone public through initial public offerings (IPOs) or sold minority stakes in their management companies through private placements. These strategies provide liquidity and monetize the shares of the private equity firms’ executives.
A more recent innovation in the pursuit of permanent capital has been the acquisition or creation of platforms that control long-lasting pools of capital. Private equity firms have looked towards endowment funds, insurance companies, and retirement plan administrators as models for permanent capital. These institutions manage money over several decades and have regular cash inflows from various sources.
While permanent capital offers advantages to private equity firms, it also raises concerns. The private equity sector has been marred by claims of collusion, corruption, and inadequate disclosure of fees. The pursuit of permanent capital could weaken corporate governance and accountability, as private equity firms become less reliant on LP investors.
Ultimately, the goal of private equity firms is to become less dependent on LP investors and secure a stable asset base and consistent capital streams. The pursuit of permanent capital is driven by the desire to be impervious to the economic cycle and outside interference. However, it is crucial to maintain accountability and transparency in the private equity sector to protect the interests of investors.
