Co-investment rights – on the map for good?

by Arbor Square Associates

Co-investments have been a topic of conversation in private equity circles for some time now and I’ve noticed how recent reports on the industry have been paying even more attention to this area.  A key theme in the latest edition of the Coller Capital Global Private Equity Barometer, published late last year, concerns the surveyed LPs’ views on co-investments and the fact this topic features so heavily in the latest release of this long-running survey (the data for which is compiled by Arbor Square) won’t surprise many private equity practitioners.  Indeed, the recent Grant Thornton Global Private Equity Report, entitled ‘A Time of Challenge and Opportunity’, found that 60% of the 156 surveyed GPs (from all corners of the globe) recognise the significance of offering co-investment rights in encouraging LPs to commit to private equity funds.

The attraction of co-investments to LPs is clear.  They provide a way for LPs to get more money into the ground faster and in a manner that avoids the level of fees associated with blind pools.  They’re not new, of course, but whereas in the past people used to talk about co-investments being used to super-charge returns, these days you’re more likely to hear about the ways in which co-investments can help to reduce LP costs.

However, despite the undeniable fact that co-investment rights are an increasingly important part of fundraising discussions, we often hear from GPs that LPs’ requests for rights often outstrip their actual appetite for, and indeed ability to complete, co-investments when they are presented with them.  Also, some GPs have expressed frustration that LPs are often not in a position to participate in follow-on funding rounds if such further injections of capital are required.

For sure, the LP community is a diverse one, featuring institutions with highly-differing levels of experience, sophistication and resource – some will always be in a better position than others to take up co-investment rights.  But in overall terms, the most recent Coller stats leave little doubt that LPs are taking co-investments seriously – which means GPs should too.  The Coller survey shows that just over half of LPs have co-invested with their GPs in the last two years, and only one in ten LPs has not been offered any co-investment opportunities in this period.  And they’re hungry for more – two-thirds of North American LPs and half of European LPs say they would like to be offered more co-investments in future.  What’s more, LPs do seem to be managing their co-investment programs actively, with a good proportion reporting that they have declined opportunities due to a lack of strategic fit or what they deem to be an unconvincing investment case.

GPs working on the road-map for the next fundraise need to make sure co-investment rights are clearly marked on.

Kevin McNally

Arbor Square Associates