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Unquote
  • LPs

European LPs bullish on 2024 PE fund vintages – Coller Capital

  • Harriet Matthews
  • Harriet Matthews
  • 12 June 2023
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European LPs are optimistic on the prospects for 2024-vintage private equity funds, with 71% expecting a stronger outcome for these vehicles, according to Coller Capital’s Summer 2023 Barometer.

The consensus is largely positive on 2023-vintage vehicles, too, with 51% of the LPs surveyed expecting these to see stronger outcomes. There is less consensus around this, however, with 19% saying they expect them to be weaker, versus the 5% of LPs who said the same of 2024.

This overall positive view of coming vintages is reflected in LPs’ appetite for allocations. “One thing that has stayed the same is LPs’ ongoing interest in maintaining or increasing allocations – there is continuing buy-in to private equity,” said Iyobosa Adeghe, partner at Coller Capital. “They have positive expectations around PE as an asset class, including forward-looking expectations on returns, with a greater portion of investors reporting returns of more than 16%.”

While LPs are aware of the positives around private equity, the survey also revealed that the majority of them are planning to increase their exposure to private credit and infrastructure.

“Private credit and infrastructure are of real interest as LPs think about near term allocations – the current market is a little volatile, so there are benefits to having exposure to contracted cashflows in the case of private credit, or inflation-linked cashflows with infra,” Adeghe said. “Private credit exposure is more interesting than it would have been a year or two ago, which could lead to a change in allocation for some LPs. There is less cash coming back to LPs, so there is concern about how near term commitments will be funded. We see a lot of secondary portfolio transactions being done to make up for this.”

Fundraising focus
Today’s tough fundraising environment is reflected in a number of questions in the survey, including LPs’ current motivations for turning to secondaries market. Fewer LPs are now selling on the secondary market to lock in returns, with just 21% citing this as a reason they expect to sell in the next two years, versus 61% who expected to sell for this reason in the Winter 2020-21 Barometer. Increasing liquidity and rebalancing portfolios are more popular drivers of activity, with 77% and 8% of LPs, respectively, citing these.

Against this backdrop, more than half (56%) of LPs said that they considered incentives to be important when committing at first close, with almost as many (44%) classing them as not important.

“It’s not surprising to see that investors are split on this,” Adeghe said. “The real value-add is in the upfront selection and negotiation, including early bird discounts and side letter provisions on ESG. That is the only time at which an LP has real leverage, so it’s important to a big cohort to secure something favourable. But a strong fund will probably be seen to be a strong fund irrespective of whether the management fee is higher or lower by a small amount. So it’s somewhat a philosophical thing. What matters most at the end of the day is the investments made.”

Creating value
With the private equity industry steadily acknowledging that it can no longer rely solely on financial engineering and organic growth to generate returns, the survey provides confirmation from LPs that they are seeing better performance from investments that are focused on buy-and-build. Of the LPs surveyed, 64% said that buy-and-build investments had performed better than organically focused investments.

“Buy-and-build is a strategy that LPs have seen value in, versus simply buying an asset and relying on baseline organic growth and financial structures,” Adeghe noted. “This speaks to the need for real operational involvement on the part of GPs. Ultimately, in terms of what drives value for a deal, higher interest rates should not be an overwhelming factor in returns. But M&A has been slowing since of the back end of last year, and some mega-deals are not going to be done, full stop. Many LPs expect drawdowns to slow, with GPs implementing more measured deployment.”

When it comes to sectors, healthcare, IT and business services are viewed by LPs as the most attractive areas for PE investment in the next two years. Energy also featured in the top 10 sectors, with 69% highlighting renewable energy but less than half (49%) highlighting hydrocarbons, putting it in second-to-last place above consumer (21%).

“Hydrocarbons are quite low on LPs’ list of attractive sectors, while renewable energy is much higher,” Adeghe noted. This has consequences for LP secondaries activity, he added. “We do see real appetite among certain LPs to sell exposure to energy funds, and pricing for those funds is impacted by ESG concerns.”

Meanwhile, large-cap buyouts and mega-buyouts have fallen out of favour versus the Winter 2017-2018 Barometer. Just 25% of LPs said they saw good opportunities for GPs in this area in the next two years, with 11% saying the same of mega-cap buyouts, down from a respective 66% and 47% in 2017-2018.

LPs continue to be keen on exposure to strategies including mid-market buyouts, special situations/turnarounds and lower mid-market buyouts, with 80%-plus citing these in the current Barometer and the 2017-2018 edition.

Due diligence drive
Almost three quarters (72%) of European LPs have stepped up the level of due diligence that they undertake on potential fund investments over the last two years, versus 64% in the Asia-Pacific region and 48% in North America. Travel is also firmly back on the agenda for LPs, with 80% saying they expected to travel for fund commitment due diligence in the next year.

Alongside this, differences in attitudes to ESG were showcased by the survey. In Europe, 75% of LPs already have dedicated ESG personnel, versus 21% in North America. Of the North American LPs surveyed, 73% said they had no plans to add dedicated ESG personnel. In spite of this, more than three quarters (77%) of LPs said they did not expect GPs to change the emphasis placed on ESG in spite of the US ‘Anti-ESG’ movement.

ESG and due diligence are closely linked, particularly when it comes to ESG, Adeghe said. “In practice, across the board, LPs are doing an appropriate level of diligence given their mandates and the requirements set by their respective Investment Committees. One factor that will drive the difference for European LPs is the heightened focus on ESG – what falls under that banner and the views about it are evolving. European investors are more inclined to have this as a core part of their processes and are more likely to have specialists on the team focusing on this.”

The Barometer survey contains the views of 110 LPs across North America (40%), Europe (40%) and Asia (20%). The research was conducted from 13 February to 31 March 2023 by alternative assets research specialist Arbor Square Associates.

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