The world of asset management, particularly private equity, has changed enormously in the past 30 years, said keynote speaker T. Bondurant French, CEO of Adams Street Partners, during a Fireside Chat discussion with CVP Director David Brophy at the 2014 Michigan Private Equity Conference on Oct. 17. “When I started with Adams Street in 1980, I thought I was late to the venture business, which already had a 25-year history,” he remarked. “The changes since then have been nothing short of mind bending.” Adams Street Partners is a global private equity investment management firm.
Over the last three decades, the private equity industry has spread from the U.S. to every continent except Antarctica. Adams Street alone has investors in 33 countries. Today the industry is raising $400 billion a year (venture capital and buyouts combined) versus $7 billion in the mid-1980s. Managers, who once numbered in the hundreds, now number in the 10s of thousands globally. PE funds have gone from single digits to more than 250 globally during that 30-year time frame. “In 1980, venture capital was a prohibited investment for public pension funds in 40 of 50 states,” French remarked. “This restriction required numerous educational seminars and retreats to convince public pension investment staffs and state legislatures to rethink their rules.”
For other alternatives, such as hedge funds and real estate, the growth has been even greater. French reported that global assets under management in alternatives (private equity, hedge funds, real estate, commodities and infrastructure) hit the $7.2 trillion mark at the end of 2013. “With their premium fees, alternatives now constitute almost 30% of the total asset management industry revenues while comprising only 12% of industry assets,” he stated. “Alternative allocations, including private equity, now have become a mainstream part of institutional investors’ asset allocations.” Many investors have indicated they plan to maintain or increase their allocations to alternatives in the next three years.”
The drivers behind the accelerated adoption of alternatives are structural, rather than cyclical, forces, according to French. These drivers include:
- Concern with traditional asset classes in an era of increased volatility and macroeconomic uncertainty
- Changes in thinking about portfolio construction
- A desire for specific portfolio outcomes, such as inflation protection or volatility dampening
- A search for higher yield on behalf of institutional investors, particularly defined-benefit pension funds seeking to close their asset-liability gap
The mainstreaming of alternatives is driving a trillion dollar convergence of traditional and alternative asset management. “Mega-funds are now in an ‘arms race’ to expand across all alternatives through acquisitions and organic internal start-ups,” French said. “Within the private equity category, many firms have gone beyond buyouts to include secondary capability and primary fund-of-funds capabilities. Several firms have taken their management companies public.” This expansion of product lines by hedge funds, PE firms and traditional asset managers, who previously had well-defined niches in the investment management landscape, has contributed to a blurring of roles and heated competition for an overlapping set of client and product opportunities in the growing alternatives market.
Other forces also are impacting the asset management industry, especially private equity. Under the Dodd-Frank Act, increased regulatory scrutiny by the U.S. Securities and Exchange Commission has compelled private equity firms to devote more time and staff to documentation activities and preparation for SEC exams. “We now have a seven-person legal team, which has increased our costs,” French said. “The biggest regulatory burden is in the Europe Union where we have to register under the AIFMD (Alternative Investment Fund Managers Directive) in every single country. Institutional investors there are seeing dramatically reduced opportunities from U.S. private equity fund managers.”
Turning to the Midwest, French observed that the venture capital industry has seen an increased concentration of assets and shrinkage in the number of managers. He estimated the top 20 VCs control nearly 70% of the assets, following a “huge shakeup” in the industry. Angel investors, French noted, are becoming more sophisticated and taking on a broader role, and the proliferation of business incubators is driving the growth and development of start-ups in Chicago, Detroit, Ann Arbor and other locales. “The bio space is more of a level playing field here in the Midwest, where there are so many small bio companies,” he added.
Overall, French characterized private equity as a win-win-win scenario for companies, investors and nations. “It’s a win for entrepreneurs and management teams because they receive new equity capital,” he said. “It’s a win for investors because it has been a successful investment class. And it’s a win for countries because it creates jobs, wealth and goods and services.”