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The Case for Co-Investments and Secondaries

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The Case for Co-Investments and Secondaries Private markets webinar The case for co-investments and secondaries Deborah Wardle Alternatives Investment Director Chason Beggerow Global Head of Co-investments and Secondaries Benjamin Baumann Partner, Co-investments and Secondaries March 30, 2021. For professional investor use only. Mercer’s alternatives platform Co-investment and Secondaries Team Global Private Markets Investment Team* North America Europe Asia/Pacific 49 professionals 25 professionals 9 professionals c c c c c Chason Beggerow Benjamin Baumann Sam Gibbens Dusan Senderak Evy Carroll Felix Jaeger Global Leader Partner Principal Senior Associate Senior Associate Associate Co-Investments & Secondaries Co-Investments & Secondaries Co-Investments & Secondaries Co-Investments & Secondaries Co-Investments & Secondaries Co-Investments & Secondaries Richmond Zurich Minneapolis Zurich Richmond Zurich *Number of private markets investment professionals as of February 28, 2021, including the six professionals named above. © 2021 Mercer LLC. All rights reserved. 3 Co-investments © 2021 Mercer LLC. All rights reserved. 4 Co-investments: The WHAT and the WHY Co-investments What are they? Co-investments are private equity investments into a single company Why they exist? as opposed to a diversified blind • Co-investment opportunities arise pool portfolio such as a primary when a private equity manager private equity fund identifies an attractive transaction that requires the private equity fund to • Investments are made alongside a invest more equity than its private equity fund that is also diversification or other limits allow. investing and exiting at the same time and price. • Rather than passing on an attractive opportunity or partnering with a • Investments are made either directly competitor, private equity fund into the target company or through a managers prefer to syndicate the commingled vehicle or special excess equity investment required to purpose vehicle (SPV). The investment their funds’ investors or other strategic manager of the private equity fund partners. sponsoring the investment is typically also the investment manager of the SPV. Allocations of co-investment opportunities of a specific investment managers are usually unpredictable. Therefore, for investors to be able to build a diversified pool of co-investments, a large and established network across fund managers is required. © 2021 Mercer LLC. All rights reserved. 6 Define j curve (Becky stiff providing disclaimer) Reasons for considering co-investments Accelerated Potentially capital Potentially Diversification improved deployment/ lower fees and control net returns J-curve mitigation1 Closer Knowledge relationships transfer, Enhanced with investment transparency team retention managers and alignment 1J-curve © 2021 Mercer LLC. All rights reserved. 7 Co-investments: Market universe and selection Robust co-investment deal-flow ~20% ~75% Europe ~5% North Asia/ America Pacific ~180 ~110 ~30 Co-investment Co-investments sourced Co-investments (deals and opportunities screened on from more than 110 projects) completed for a global basis General Partners globally advisory and discretionary in 2020 in 2020 accounts in 2020 Note: Mercer Co-investment Pipeline Data for CY 2020 as of February 15, 2021. Our deep experience, extensive manager relationship network and robust due diligence process are important ingredients for the success of our co-investment efforts © 2021 Mercer LLC. All rights reserved. 9 Due diligence: key criteria Investment Manager Investment Manager Quality Investment Manager Fit • Highly rated manager by Mercer • Strategy, structure, sector, geography and size • Established organization and track record • Relevant track record and experience (similar deals, co-investments) • Team experience and turnover • Deal team quality and resources to execute investment thesis • Quality deal flow Investment Fit Company Market Transaction Valuation & Returns • Business and performance of the • Attractiveness of the market • Sources and uses • Comparable transactions target company • Cyclicality • Investment Manager’s rationale for • Return modelling – projections, key • Leading market position • Competitive landscape acquisition price & transaction assumptions and sensitivity analysis • Management team quality • Extraneous risks (headline, structure • Potential exit routes • Cash flow positive geopolitical, other) • Use of leverage • Fees and terms • Alignment of interests Client Portfolio Fit • Fit with sector, style, geography, current exposure, ESG • Pacing, vintage Legal and Tax Due Diligence • Standard legal review (SPV specific legal analysis) • Information rights / reporting • Tax due diligence • Governance rights (tag along, drag along, etc.) • Client specific side letters • Tax-related side letter clauses © 2021 Mercer LLC. All rights reserved. 10 Co-investments: Implementation considerations Key factors for investors to consider in co-investments Broad and deep Efficient process and Need for discipline Other relationships with ability to execute, and consistency considerations investment managers dedicated resources Recognition that it is “co-investing” not “co-leading” © 2021 Mercer LLC. All rights reserved. 12 Potential risks to consider • In a portfolio with a more concentrated number of investments, a single investment’s returns can dominate performance, positively or negatively. • Concentration risk can happen across various dimensions (manager/industry/geography). The amount of Concentration risk capital invested per manager/industry/geography should be monitored. Many investors institute a maximum percentage of commitments across the entire portfolio that can be invested in any one dimension. • A successful active co-investment program requires dedicated investment professionals. Resource intensiveness • This can be costly and time-intensive. • Risk characteristics differ from fund investing, and co-investments could have a greater dispersion of Performance outcomes. • Performance can vary (based on approach or investment manager relationships, for example). • An investment manager could execute deals that are above its normal investment range. Adverse selection • An investor’s desired investment size can limit the opportunity set. • However, some experienced co-investors view adverse selection as more of a myth than a reality. • Executed well, co-investments can enhance investment manager relationships. Executed poorly, co- Manager relationships investments can damage relationships and hinder future fund access and co-investment deal flow. • Co-investments could expose investors to headline risk if a high-profile investment goes bad or develops Headline risk public relations issues. © 2021 Mercer LLC. All rights reserved. 13 Common co-investment implementation options Pros & Cons Resource Requirements + Simplified reporting Third-Party + Potential to pool deal flow + Ability to develop more fully diversified • No additional resources required Co-investment portfolios Manager - No discretion or ability to tailor - Additional layer of fees + Simplified reporting Fund-of-One / + Ability to tailor (portfolio and involvement) + Investor owns relationships with managers • Depending on structure, some additional Separately - Additional layer of fees resources Managed Account - Must rely on Investor’s relationships with managers + Fully tailored approach + Investor is responsible for decision Co-investment + Advisor assists in sourcing and diligence • Additional level of resources required Advisor + Lowest cost • Ability to react quickly - Must rely on Investor’s relationships with managers Overage/Co- investment + Fee advantages • No additional resources required Vehicles with - No discretion or ability to tailor Manager © 2021 Mercer LLC. All rights reserved. 14 Co-investments: Case studies Case study Co-investments with highly-rated investment managers European Buyout • The investment manager is the global leader in the design, engineering and production of digital sound mixing consoles . • The company combines hardware and proprietary software into mixing and processing equipment for a variety of applications including live music, television, broadcasting, theatre, corporate events, houses of worship and cruise ships. • The investment manager has established a strong global network of 150 distributors, serving over 90 countries. • In Q1 2020, the Company was partially realized, returning 2.7x MOIC to co-investors. In addition to private equity, Mercer has experience executing co-investments across all private market asset classes Fund manager shown is a sample of a firm that Mercer has performed due diligence on and it is not indicative of future recommendations or performance. © 2021 Mercer LLC. All rights reserved. 16 Secondaries © 2021 Mercer LLC. All rights reserved. 17 Secondaries: The WHAT and the WHY Secondaries What are they? A secondary private equity investment occurs when an interest in a private equity fund or position is transferred by an existing investor to another investor. They can provide liquidity to investors and investment managers in a traditionally illiquid asset class. Secondary Investment Manager © 2021 Mercer LLC. All rights reserved. 19 Motivation of secondary sellers A broad array of factors motivate investors to actively manage their private investment portfolios Portfolio Exit specific Administrative GP-Led Management Investments needs • Address asset allocation • Exit/reduce exposure to • Reduce number of asset • Generate liquidity or changes funds
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