Private Equity vs. Hedge Funds

SECA Presentation SECA May 24th, 2005 Christoph Rubeli, Partner Private Equity and Hedge Funds

Table of Contents 2

I. Convergence of PE and HF

II. Differences between PE and HF

III. Future return expectations Convergence of PE and HF

Convergence of Private Equity and Hedge Funds? YES! 3

ƒ U.S. PE firm The Carlyle Group set up its own HFoF to diversify its business. Rubenstein (founder): "I believe all the large private equity firms will offer them. Buyout funds and hedge funds may eventually converge.“

ƒ PE firms Bain Capital, The Blackstone Group and Texas Pacific Group have also set up HF or HFoF of their own. Apollo Advisors LP and Madison Dearborn Partners LLC are also said to explore the HF business. Capital Z Investment Partners already has been investing in both asset classes since 1998.

ƒ Managers of takeover funds and hedge funds increasingly compete for the same assets. HF manager Highfields Capital Management made a $3.25bn bid for Circuit City Stores Inc., the No. 2 U.S. electronics retailer. BO firm Kohlberg Kravis Roberts & Co. was part of a group that outbid HF to acquire U.S. power generator Texas Genco Holdings Inc. for $3.65bn.

ƒ Partners Group added a hedge fund business to the private equity activities with the acquisition of managed account specialist S.A.I.S. Group in 2001.

ƒ Convergence mainly at level of alternative asset manager, increasing competition at deal / target company level. Convergence of PE and HF

Example for convergence:

The Blackstone Group 4 Convergence of PE and HF

Convergence in Private Equity and Hedge Funds? NO! 5

ƒ MAN RMF sold their PE business Westport PE Ltd. to Capital Dynamics

ƒ Abry Partners LLC (PE firm) ditched their HF business

ƒ One year ago, Carlyle Group sold its HFoF business Rock Creek to lead manager Afsaneh Beschloss

ƒ Many private equity firms like e.g. Thomas H. Lee Partners LP and GTCR Golder Rauner LLC have no plans to start their own HF business anytime soon. Convergence of PE and HF

Trends 6

• As a long term trend, the asset management industry will split into: alpha providers (skill based) and beta providers (index funds, ETFs, derivatives).

• Index products to grow in Europe and Asia: currently US 38%, UK 25%, CH 20%, NL 18%. ETFs are at $300bn = 4% of all funds capital. We expect the world to follow the US.

• There are 9,000 HF with $1 trillion of investments, compared with 3,000 PE funds with $275 billion of capital (uncalled commitments) that's yet to be deployed. Competition for PE funds from HF to buy companies will continue.

• Years ago private equity buyers were almost ignored in an M&A situation, but now there is hardly an M&A deal where financial sponsors are not involved. Some say the same will happen with hedge funds.

• For hedge funds to compete effectively in the private equity arena, additional / new skills need to be acquired / integrated. Legal framework / incentives give hedge funds an edge on private equity. Private Equity and Hedge Funds

Table of Contents 7

I. Conversion of asset classes PE and HF

II. Differences between PE and HF

III. Future return expectations Differences between PE and HF

Differences between PE and HF 8

Widely perceived differences in HF and PE:

ƒ Hedge funds: ƒ loosely regulated investment pools, with the risk of becoming more regulated (which could reduce profits and erase some synergies) ƒ buy and sell securities rather than entire companies ƒ typically rather passively wait for stock prices to increase after certain events (lack of skills/experience for active turnaround management) ƒ (have at least in the past) typically acquire minority stakes only ƒ have a short-term focus

ƒ Buyout funds: ƒ more restrictions than HF due to regulations or market standard clauses in LPAs ƒ try to actively boost the performance of the companies they acquire through majority stakes, i.e. control deals with strategic and operational involvement ƒ can hold assets for as long as 15 years. ƒ PE returns have been higher in the past and are expected to be higher in the future than HF returns. Differences between PE and HF

HF are currently mainly seen in

PIPE deals 9

HF have typically a better set-up for Private Investments in Public Equity (PIPEs) than PE firms. Example for HF firms doing PIPE or distressed PE BO deals: ƒ BayStar (among others famous SCO deal) BayStar after a hint from Microsoft invested USD 20m and Royal Bank of Canada USD 30m in October 2003 in SCO enabling it to proceed with the USD 3bn copyright infringement lawsuit against IBM originally filed in March 2003. SCO was alleging that the computer giant illegally incorporated Unix software code, which SCO owned right to, into the open-source Linux operating system. In April 2004, BayStar told SCO that they want their money back because “SCO's management was traveling too much and spending too much when it should have been concentrating its efforts and resources on its legal strategy.„ Because the management didn’t change, BayStar desinvested most of its money. The start of the trial was postponed by SCO from April 2005 to September 2005. ƒ Cerberus (several buyouts) ƒ Highfields (hostile bid for Circuit City) ƒ Och-Ziff (participated in ManU takeover) ƒ Steel Partners (long term activist shareholder) ƒ York ƒ Atticus ƒ Perry Private Equity and Hedge Funds

Table of Contents 10

I. Conversion of asset classes PE and HF

II. Differences between PE and HF

III. Future return expectations Future return expectations

There is no “all-weather” strategy for PE investing 11

Overview of returns of different stages of private equity investments.

In calendar year 1996, EU BO has achieved the highest IRR, US VC is second, etc. In 2002, however, US VC was the worst-performing segment.

Thus the most successful segment (region & stage) shifts from calendar year to calendar year.

1995 1996 1997 1998 1999 2000 2001 2002 2003 2004 US VC EU BO US VC US VC US VC EU VC EU BO EU BO US BO EU BO 54.5% 44.4% 30.6% 18.3% 181.3% 48.5% 2.6% 0.8% 27.0% 24.9% EU VC US VC US BO EU BO EU BO US VC US Mezz US Mezz US Mezz US BO 29.6% 42.9% 24.3% 16.1% 70.3% 24.4% 0.8% -4.8% 13.8% 17.3% US BO US BO EU BO US BO EU VC US Mezz US BO US BO US VC US VC 28.9% 32.9% 22.1% 16.0% 52.5% 16.4% -10.4% -6.6% 10.8% 14.5% US Mezz EU VC US Mezz US Mezz US Mezz EU BO US VC EU VC EU BO US Mezz 19.9% 30.2% 12.4% 12.3% 35.2% 13.3% -30.1% -27.6% 2.4% 9.2% EU BO US Mezz EU VC EU VC US BO US BO EU VC US VC EU VC EU VC 5.1% 15.6% 10.6% -9.9% 29.0% 0.0% -30.6% -29.3% -6.3% 7.3%

Partners Group expects PE returns to slightly decrease in the coming years. However, a total return of 5% above public market performance is still realistic.

Source: Partners Group analysis, based on Thomson Venture Economics data as of 31.12.2004 There is no data for EU Mezzanine. Future return expectations

Relative value approach in private equity investing (H1 2005) 12

ƒ Determine relative under- or over-weighting of specific sectors (regions and stages)

ƒ Choose best segment (primary, manager secondary, direct investment etc.) Future return expectations

There is no “all-weather”

strategy for PE investing 13

Overview of returns of different stages of private equity investments.

In calendar year 1996, Emerging Markets has achieved the highest return, Global Macro is second, etc. In 2000, however, Emerging Markets was the worst-performing segment.

Thus the most successful segment (region & stage) shifts from year to year.

1994 1995 1996 1997 1998 1999 2000 2001 2002 2003 2004 Short Bias Global Macro Emerg Markets Global Macro Futures/CTA Long Short Conv Arbitrage Global Macro Futures/CTA Emerg Markets Event Driven 14.9% 30.7% 34.5% 37.1% 20.6% 47.2% 25.6% 18.4% 18.3% 28.8% 14.5% Emerg Markets Long Short Global Macro Emerg Markets Long Short Emerg Markets Short Bias Conv Arbitrage Short Bias Event Driven Emerg Markets 12.5% 23.0% 25.6% 26.6% 17.2% 44.8% 15.8% 14.6% 18.1% 20.0% 12.5% Futures/CTA Event Driven Event Driven Long Short Eq Market Neut Event Driven Eq Market Neut Event Driven Global Macro Global Macro Long Short 12.0% 18.3% 23.1% 21.5% 13.3% 22.3% 15.0% 11.5% 14.7% 18.0% 11.6% Risk Arb Conv Arbitrage Conv Arbitrage Event Driven Risk Arb Conv Arbitrage Risk Arb Eq Market Neut Eq Market Neut Long Short Global Macro 5.3% 16.6% 17.9% 20.0% 5.6% 16.0% 14.7% 9.3% 7.4% 17.3% 8.5% Event Driven Fixed Inc Arb Long Short Eq Market Neut Global Macro Eq Market Neut Global Macro Fixed Inc Arb Emerg Markets Futures/CTA Fixed Inc Arb 0.7% 12.5% 17.1% 14.8% -3.6% 15.3% 11.7% 8.0% 7.4% 14.1% 6.9% Fixed Inc Arb Risk Arb Eq Market Neut Conv Arbitrage Conv Arbitrage Risk Arb Event Driven Emerg Markets Fixed Inc Arb Conv Arbitrage Eq Market Neut 0.3% 11.9% 16.6% 14.5% -4.4% 13.2% 7.3% 5.8% 5.8% 12.9% 6.5% Eq Market Neut Eq Market Neut Fixed Inc Arb Risk Arb Event Driven Fixed Inc Arb Fixed Inc Arb Risk Arb Conv Arbitrage Risk Arb Futures/CTA -2.0% 11.0% 15.9% 9.8% -4.9% 12.1% 6.3% 5.7% 4.0% 9.0% 6.0% Global Macro Futures/CTA Risk Arb Fixed Inc Arb Short Bias Global Macro Futures/CTA Futures/CTA Event Driven Fixed Inc Arb Risk Arb -5.7% -7.1% 13.8% 9.3% -6.0% 5.8% 4.2% 1.9% 0.2% 8.0% 5.5% Conv Arbitrage Short Bias Futures/CTA Futures/CTA Fixed Inc Arb Futures/CTA Long Short Short Bias Long Short Eq Market Neut Conv Arbitrage -8.1% -7.4% 12.0% 3.1% -8.2% -4.7% 2.1% -3.6% -1.6% 7.1% 2.0% Long Short Emerg Markets Short Bias Short Bias Emerg Markets Short Bias Emerg Markets Long Short Risk Arb Short Bias Short Bias -8.1% -16.9% -5.5% 0.4% -37.7% -14.2% -5.5% -3.7% -3.5% -32.6% -7.7%

Source: Partners Group analysis, using the Tremont HF indices, monthly data as of 31.12.2004 Future return expectations

Relative value approach in

hedge fund investing (Q2/2005) 14

ƒ Determine relative under- or over-weighting of specific strategies

ƒ Choose best sectors (Long/Short, Event Driven, Global Macro etc.)

Q2/05E Q1/05 Q4/04 Q3/04 Q2/04 Q1/04 Q4/03 Q3/03 Q2/03 Q1/03 Long/Short Equity Equity Market Neutral Convertible Arbitrage Risk/Merger Arbitrage Event Driven Global Macro Futures Trend

Fixed Income Arbitrage Distressed Securities Short Sellers relative value outperformance marketperformanceE:expected underperformance

ƒ Partners Group expects HF returns of around LIBOR +5%

ƒ Volatilities are expected to increase to 5-6% p.a. (higher leverage, increased notional exposure) Contacts 15

Partners Group Partners Group Partners Group Partners Group Partners Group (Alternative Investments (USA) Inc. (UK) Ltd. (Guernsey) Ltd. Zugerstrasse 57 Asia-Pacific) Pte Ltd. 126 East 56th Street 12 St. James's Square Elizabeth House 6341 Baar-Zug #36-01 UOB Plaza 1 11th Floor, New York London SW1Y 4RB St. Peter Port, Guernsey Switzerland 80 Raffles Place NY 10022, USA United Kingdom Channel Islands T: +41 41 768 85 85 Singapore 048624 T: +1 212 763 47 00 T: +44 20 7849 6364 T: +44 1481 711 690 F: +41 41 768 85 58 T: +65 6533 1586 F: +1 212 763 47 01 F: +44 20 7849 6200 F: +44 1481 730 947 F: +65 6533 1568 www.partnersgroup.net [email protected]

This document is not intended to be an investment advertisement; it constitutes neither an offer nor an attempt to solicit offers for regulated investments. The company does not accept liability for the results of any action taken on the basis of the information provided or any errors or omissions contained therein.