Big private equity managers ruling the roost

Ten private equity firms account for nearly 60% of the $1.5 trillion in total assets under management for the 50 largest firms, according to year-end data collected by Pensions & Investments.

Private equity, for the purposes of P&I's data collection, was broadly defined as investment in companies, either equity or private debt or credit. Seven of the top 10 private equity firms were publicly traded companies and most of the top 10 reported hedge fund and tradable assets as part of the debt/credit portion of their assets under management to keep consistent with regulatory reporting.

Looking at private equity assets alone, the 10 largest firms accounted for 55% of total private equity assets in the most recent survey, down six percentage points from Dec. 31, 2012, the last time P&I collected private equity data. (That listing excluded debt and credit.)

As fundraising has gotten easier, the largest private equity firms are taking in billions of dollars in commitments — but for separate funds dedicated to various strategies, including credit and growth investments as well as regions such as Africa, Mexico, Japan and the Middle East. Even smaller firms are raising larger funds and expanding into new strategies and locales.

But it might be harder for private equity managers to provide the same excess returns that brought investors back to private equity after the financial crisis. Eye-popping valuations for companies are making it difficult for private equity executives to make investments in companies that will produce outsized returns, industry insiders say.

Apollo Global Management LLC, New York, topped the list with $149.5 billion in total private equity assets. Assets of its private equity business — not including debt and credit businesses — were $41 billion, up 8.6% from $37.8 billion as of Dec. 31, 2012. Part of the boost in private equity came from the Dec. 31, 2013, close of Apollo's flagship fund — the $17.5 billion Apollo Investment Fund VIII.

However, Apollo's private equity business was dwarfed by its credit business, which accounted for $108.4 billion in assets, up from $64.4 billion at year-end 2012, according to Apollo's Securities and Exchange Commission filings. As of Dec. 31, Apollo had uncalled commitments of $22.4 billion in its private equity business and $8.7 billion in its credit business, according to its year-end 2014 earnings report. Part of the massive increase in Apollo's credit business came from its 2013 acquisition of the U.S. annuity business of Aviva PLC, which added about $44 billion of assets under management.

The Blackstone Group LP, New York, was second on the private equity list, with $146 billion, split evenly between private equity assets and debt/credit. Its $73 billion private equity business was up 43% in the two years since the last P&I survey.

Blackstone's credit business mostly comprises GSO Capital Partners LP, with $72.9 billion as of Dec. 31. Its hedge fund business is separate from both its credit and private equity businesses. Blackstone's private equity division includes its “tactical opportunities” business, which invests in global illiquid assets that fall outside its other alternative fund strategies. Tactical opportunities had raised $7 billion as of Dec. 31, according to Blackstone's year-end earnings report filed with the SEC.

Blackstone began raising its seventh general private equity fund, Blackstone Capital Partners VII, at the end of 2014. The New Jersey Division of Investment, which manages investments for the $76.8 billion New Jersey Pension Fund, Trenton, already has made a commitment, up to $50 million as part of a $1.05 billion in commitments to numerous Blackstone funds and separate accounts.

The Carlyle Group, Washington, was No. 3 with $123.8 billion in total private equity assets. Its private equity business was $89.2 billion, up 67.4% from $53.3 billion two years earlier.

Carlyle has seen strong growth in the past two years, with 30% and 23% appreciation and in the firm's buyout business in 2013 and 2014, respectively, according to SEC filings. While distributions to limited partners also were high during the period, in 2013 the firm closed its latest flagship fund, a $13 billion U.S. buyout fund that was well over its $10 billion fundraising target. In 2014, Carlyle's private equity business closed on $8 billion in commitments including its fourth Asia buyout fund.

Rounding out the top 10 private equity firms were Kohlberg Kravis Roberts & Co. with $98.6 billion, Ares Management LP with $75.2 billion; Oaktree Capital Management LP with $70.4 billion; Fortress Investment Group LLC, with $67.5 billion; Bain Capital LLC with $65 billion; TPG Capital LP with $62.2 billion; and Ardian with $45 billion.

Over the past two years, most private equity firms were selling everything they could get their hands on as valuations rose. Indeed, prices achieved such heights in 2014 that it was a much better time to sell than buy, industry executives said.

“Last year was a great time to sell. (General partners) sold everything that wasn't nailed down,” said Andrea Kramer, managing director at Hamilton Lane Advisors LLC, a Bala Cynwyd, Pa.-based alternative investment consultant and money manager. “There was a lot of money coming back to (limited partners) and burning holes in pockets.”

During the two-year period since P&I's last survey, fundraising became much easier as investors reached for returns in a low-interest-rate environment and private equity firms took the opportunity to raise new funds.

According to Hamilton Lane data, private equity returned an annualized 13.4% for the 10 years ended March 25, vs. 8.4% for the Russell 3000 index for the same period.

Jeff Meeker, managing director and head of product management at Hamilton Lane, added that private equity has been outperforming the public markets “in any environment” over the long term.

Ms. Kramer said there were “lots of private equity managers raising funds. It was less of a have and have-not world. For LPs, it was more of a matter of "how much do you have in your pocket?' and "how much can you deploy to a fund?'”

Now managers are in the good news-bad news situation of raising money they will have difficulty investing. And investors are becoming wary that they might be committing capital to managers that won't be able to generate expected returns.

So it's become “a what-have-you-done-for-me-lately environment,” Ms Kramer said.

“If you put more money out before you get cash back, some of the cash out will be in fees. That's one of the reasons co-investment is so big, it is to mitigate that J curve,” which keeps returns steady, Ms. Kramer said.

Mr. Meeker called co-investment one of “if not the fastest growing areas of the private equity market.”

One thing “LPs look at co-investments for is diversification, to control the pace of investing and for lower fees,” he added. The downside is that investors are unsure whether they are seeing deals because GPs are unable to raise a fund or need additional capital for a particular deal, Mr. Meeker said.

“We worry about some investors having a bad experience,“ he said.

Middle-market private equity firm American Securities LLC closed its latest fund at its $5 billion hard cap on Jan. 13 with only four months of fundraising, said Michael G. Fisch, American Securities president and CEO. (American Securities is ranked 31st on this year's private equity listing; the latest fund is not reflected in that data.)

“Private equity is the highest-performing asset class, and since limited partners like higher returns more than lower returns, we were fortunate to be fundraising last fall,” Mr. Fisch said. “It was helpful we had some of the attributes investors were looking for, including a stable team, middle-market focus, clearly defined strategy and long track record.”

On the flip side, it has been very difficult for private equity managers to make investments, said Sanjay R. Mansukhani, senior manager research consultant in the New York office of Towers Watson Investment Services Inc., a subsidiary of Towers Watson & Co. “It's been expensive to buy,” Mr. Mansukhani said. “Deployment (of capital) has been very deliberate.”

All the sales by the private equity firms are creating distributions of capital flowing to limited partners, which are trying to invest with “attractive managers,” he said.

The “fundraising cycle has gotten extremely short for the best managers,” Mr. Mansukhani said. It's easier for managers to raise money because investors are committing more to the asset class. “There is a lot of demand for the better managers because distributions make the decision to invest a heck of a lot easier.”

The demand is allowing private equity managers, especially those that focus on the middle market, to raise “a pretty substantial amount of capital,” for some exceeding their prior funds, he said.

All of these managers have benefited from the distributions asset owners have received and investor belief that their investment strategies are “scalable,” which means the managers can still provide promised excess returns over the public markets even though they are collecting larger capital commitments, Mr. Mansukhani said.

Some of the selling is the result of private equity managers “catching up” from a lack of exits after the financial crisis, said Anthony D. Tutrone, New York-based managing director, global head of the alternatives business at Neuberger Berman. ”There's still a big backlog of companies needing to be sold.”

“Our exits have been very, very strong,” he said. ”But it's tough to put money to work.”

However, leveraged loans are less available, which could make it more difficult for private equity firms to get the debt they need to invest, Mr. Tutrone said.

The longer private equity firms hold onto capital commitments without investing it, the greater the likelihood for lower returns.

So Neuberger Berman executivesare more interested in investing in growth areas where leverage isn't necessary because they are not taking control positions. The firm's executives believe there are good opportunities in certain industries, he said.

And he predicts buyout firms will have to make changes in how they invest, acquiring companies in which they can make operational changes rather than buying cheap and selling high, Mr. Tutrone said.

Neuberger Berman — which manages funds of funds, secondaries and co-investments — is No. 22 on P&I's list.

Another factor affecting private equity assets is rising equity markets, which have given the net asset values of private equity portfolios a boost, Mr. Mansukhani said.

Middle-market firm The Riverside Co., ranked No. 46 in P&I's survey, has focused on the smaller end of the middle market for its entire 25-year history, said Bela Szigethy, Riverside's New York-based co-CEO.

“We have not needed to change our strategy because small companies offer the best opportunity for improvement and revenue enhancement and there is an endless amount of them,” Mr. Szigethy said.

In January, Riverside closed the largest private equity fund since the firm's inception, $1.5 billion Riverside Capital Appreciation Fund VI, which was 50% above its $1 billion target.

While some firms have been raising larger funds, others have been accumulating similar total amounts of commitments in smaller, targeted funds that expand into new countries and regions and strategies, especially debt and credit, said Hamilton Lane's Ms. Kramer.

“Another key trend is that assets are growing across geographies and other kinds of strategies. It's been a boon for private markets managers,” Ms. Kramer said. “Now, credit is increasingly an area of focus for investors and they are doing it out of closed-end funds, which are private equity-structure oriented.”

This expansion is, in part, necessary to give managers to provide the returns investors have been promised from the asset class.

“It's an increasingly challenging world for them (general partners),” she said. “Private equity firms are starting new funds in a broad mix of new strategies and geographies within their platforms. The big one is credit with energy increasingly becoming a sub-component today.”