Private Equity – Semi-Annual Performance Report, Period Ending March 31, 2015
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TEACHERS’ RETIREMENT BOARD INVESTMENT COMMITTEE Item Number: 13 SUBJECT: Private Equity – Semi-annual Performance Report, Period Ending March 31, 2015 CONSENT: ATTACHMENT(S): 1 ACTION: DATE OF MEETING: September 2, 2015 / 30 mins. INFORMATION: X PRESENTER(S): Mike Moy, Pension Consulting Alliance POLICY This item is governed by the CalSTRS Private Equity Investment Policy, (Teachers’ Retirement Board Policy Manual, Section 1000, Pg. I-1). Due to the delay in receiving partnership data, the Private Equity report is lagged by one quarter. HISTORY OF THE ITEM On a semi-annual basis, in September and April, the Private Equity consultant reviews the performance report of the Private Equity portfolio. This report is critical to the monitoring and oversight responsibility of the Investment Committee. PURPOSE Due to the specialized nature of the private equity asset class, the Investment Committee has retained a specialty consultant and receives a specialized performance report on the asset class. While the report includes one-year returns, as a long-term investor coupled with the long-term nature of the asset class, the Investment Committee is encouraged to focus on the three-, five- and ten-year results because they are less volatile and more indicative of the long-term performance trend of the underlying portfolio. One-year results are less meaningful in an asset class where the typical holding period for a portfolio company is four to five years. Mike Moy of Pension Consulting Alliance, the Investment Committee’s private equity consultant, will present an oral report highlighting key issues across the CalSTRS Private Equity Portfolio. The portfolio data in the report is prepared by State Street Bank’s Private Edge Group with input from Pension Consulting Alliance; it is fully customizable to meet Investment Committee needs. Mr. Moy will use this opportunity to alert the Committee of any areas of concern, needed policy revisions, or issues that warrant further review. RECOMMENDATION Staff recommends that, upon the oral report from Mr. Mike Moy, the Investment Committee receive the report for the record. INV268 INV269 Attachment 1 Investment Committee - Item 13 September 2, 2015 CALIFORNIA STATE TEACHERS RETIREMENT SYSTEM (CalSTRS) 1Q 2015 SEMIANNUAL PRIVATE EQUITY PROGRAM REPORT: Open Session INV270 CalSTRS Semiannual Private Equity Program Report –1Q 2015 page 2 INTRODUCTION Private equity is a long-term asset class with performance results influenced by various factors. This report concentrates on several key exposures that contribute to performance results, including sector, geography, structure and vintage year. In addition, the broad industry trends highlighted herein may affect future performance results. -- EXECUTIVE SUMMARY -- PORTFOLIO HIGHLIGHTS . The PEP portfolio has outperformed CalSTRS’ customized benchmark and the Private Equity Industry Benchmark by 20 and 60 basis points, respectively, since inception, but has underperformed each of the other reporting periods. Effective July 1, 2014, CalSTRS replaced the Russell 3000 index plus 300 basis points with the State Street Private Equity Industry Benchmark for time periods less than ten years. Buyouts represent 65% of the PEP’s total exposure as of March 31, 2015, down from 66% six months prior. o Sub-asset class exposures are in line with targets. The PEP has been cash flow positive since 2011, providing $11.1 billion of net cash flows ($20.7 billion of distributions offset by $9.6 billion of contributions). The PEP has outperformed the industry median vintage year returnsin20of25calendar years analyzed and has placed in the top quartile in five vintage years. o PEP performance placed in the third quartile for the four year span from 2006 through 2009, a period of significant commitment activity. Sub-asset classes provided mixed performance results versus their respective private market industry benchmarks as of March 31, 2015. o U.S. Buyout has underperformed its respective benchmark over all periods evaluated. Approximately 52% of the PEP’s active commitments occurred during the 2005-to-2008 time period. Fund investments, at 93% (co-investments comprise the other 7%) make up the bulk of the PEP’s market value and have largely driven its returns. In the first half of 2015, CalSTRS’ private equity staff made 20 new commitments aggregating $2.4 billion. INV271 CalSTRS Semiannual Private Equity Program Report –1Q 2015 page 3 INDUSTRY TRENDS . U.S. private equity fundraising in 2014exceededthatof2013byroughly20%;a strong fundraising environment has continued through the first half of 2015. Fundraising is on pace to roughly equal 2014 levels, which were approximately $265 billion. Commitments to buyout funds totaled approximately $70 billion, which accounted for 72% of total U.S. fundraising activity during the first half of the year. Risk metrics in the U.S. leveraged buyout market were mixed during the first half, with an uptick in purchase price multiples (from 9.7x to 10.1x) and a slight decline in average debt multiples (from 5.8x to 5.5x). U.S. purchase price multiples continue to exceed those in 2007 while debt multiples remain slightly below 2007 levels. Venture capital deal volume was robust in the first half of 2015 relative to the same period in recent years, and venture capital IPO volume remained high. The outlook for distressed debt investment strategies continues to be mixed, as default rates remain very low but a turn in the cycle could materially increase the opportunity set. The S.E.C. has increased its scrutiny on private equity, particularly with respect to general partners’ fee and expense allocation practices. This issue has garnered significant media attention though it is unclear yet whether it will result in greater transparency. INV272 CalSTRS Semiannual Private Equity Program Report –1Q 2015 page 4 Private Equity Program Performance Against Benchmarks As of March 31, 2015 Since 1-year 3-year 5-year 10-Year Inception CalSTRS PEP 7.3% 12.4% 12.8% 10.6% 13.5% Private Equity Industry Benchmark* 9.8% 13.4% 14.3% 12.7% 12.9% (for periods less than 10 years) Custom Benchmark** 15.7% 19.8% 17.9% 12.5% 13.3% (for periods 10 years and longer) Excess Returns v. Private Equity Industry Benchmark (2.5%) (1.0%) (1.5%) (2.1%) 0.6% v. Custom Benchmark (8.4%) (7.4%) (5.1%) (1.9%) 0.2% *Utilizing State Street Private Equity Industry Index (Total) ** CalSTRS custom benchmark, maintained by PrivateEdge, is the return of the Russell 3000 Index + 300 basis points (from and since July 1, 2008); previous periods for the PEP index consists of the 90-day Treasury Bill rate for contributions less than three years old and the Russell 3000 Index + 500 basis points. Source: Priv ateEdge, PCA analysis Summary of Changes in Investments As of March 31, 2015 $ Millions Number of Capital Capital Capital Market Total 1 2 3 Investments Committed Contributed Distributed Value Value4 Mar. 31, 2015 342 $50,258.4 $40,551.3 $43,008.5 $20,248.6 $63,257.2 Sep. 30, 2014 347 $48,676.4 $39,608.7 $40,044.5 $21,612.2 $61,656.7 Six-Month Change -5 $1,582.0 $942.6 $2,964.0 ($1,363.6) $1,600.5 1. Number of Inv estments represents only active investments (both partnerships and co-investments). 2. Includes the impact of exchange rates for international partnerships. 3. Includes capital contributed for management fees called outside of CalS TRS ' capital commitment. 4. Includes capital distributed plus market v alue. Source: Priv ateEdge, PCA analysis . The PEP returned $1.9 billion of distributions over the last 6-month period, a primary driver in the decline in market value INV273 CalSTRS Semiannual Private Equity Program Report –1Q 2015 page 5 Actual vs. Target Allocation by Investment Category As of March 31, 2015 $ Millions Percent of Percent Long-Term Market PEP Market Unfunded Total of PEP CalSTRS Target Investment Category Value* Value Commitments** Exposure Exposure Target Range Buyout 13,580 67.1% 5,207 18,787 64.5% 70% 50-85% Venture Capital 1,393 6.9% 653 2,046 7.0% 5% 5-15% Expansion Capital 2,646 13.1% 1,672 4,318 14.8% 10% 5-15% Distressed Debt 2,414 11.9% 1,173 3,587 12.3% 15% 5-20% Mezzanine 214 1.1% 192 406 1.4% * Market v alue is actual as of March 31, 2015 and is based upon the actual strategy of the partnership; secondaries and international are included in buyouts; co-inv estments are based on company inv estment strategy. * * The table includes all commitments made through the end of the reporting month. Source: PrivateEdge, PCA . As of March 31, 2015, CalSTRS’ actual investments were in line with the current ranges set by the Investment Committee. Buyouts continue to represent the greatest total exposure at 64.5% of the PEP, down slightly from 66.5% as of September 30, 2014. Given the material exposure to buyouts, future performance improvements may be dependent upon relatively robust merger and acquisition activity and potential exits via the public markets. Allocation to venture capital increased to 7.0%, up from 5.9% six months prior, as additional commitments to venture capital were completed. INV274 CalSTRS Semiannual Private Equity Program Report –1Q 2015 page 6 PEP Annual Commitment Activity and Market Value 8.000 As of Marc h 31, 2015 1.8% $ Billions 7.000 6.9 1.6% 1.5% 6.5 Vintage Year Commitment Vintage Year Market Value1.4% 6.000 1.3% 5.4 1.2% Percent of Industry Commitments 1.2% 1.2% 5.000 4.6 414.1 10%1.0% 10%1.0% 4.000 0.9% 0.8% 0.8% 3.2 0.7% 3.000 2.8 0.6% 2.9 2.6 0.6% 0.6% 0.6% 2.4 2.3 0.6% 2.000 1.8 1.9 1.4 0.4% 1.3 1.2 1.2 1.1 1.000 0.7 0.9 0.8 060.6 02%0.2% 0.5 0.0 0.000 0.0% 2004 2005 2006 2007 2008 2009 2010 2011 2012 2013 2014 Q1 15 Source: PrivateEdge, Thomson Reuters, PCA Analysis .