Abstract
In this paper, we provide original evidence on the economic role of placement agents as the financial intermediaries between general and limited partners in private equity. Our research is based on 902 private equity funds raised over the period of 1990 to 2011. This data shows that general partners hire placement agents to provide funding for approximately one tenth of the private equity funds they manage. The multitude of services provided by placement agents adds value to both general as well as limited partners. We find a positive impact from the placement agent’s relative fees on a fund’s performance. Similar to other financial intermediaries, the costliness of the placement agent decreases with the investment amounts committed by the limited partners. The fee levels are determined by negotiations with a general partner as well as by the phenomenon of free riding. Further, we find that placement agents do not take advantage of the heterogeneity of the fund’s returns and the potentially high benefits of successful investment picks. Namely, they predominantly prefer to charge their clients fixed fees. We conclude from our findings that limited partners succeed in picking better performing funds because they invest relatively higher amounts of their available allocations of private equity into the funds that yield higher returns.
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Notes
Around $125 million was paid to ARVCO, Tullig, Wetherly Capital, and others (source: CALPERS webpage). ARVCO was run by Alfred Villalobos, who served on the CALPERS board from 1993 to 1995 and later became a placement agent. Villalobos was paid more than $58 million in commissions by private equity and real estate investment managers to help them win the CalPERS contracts to manage about $4.8 billion worth of the fund’s securities from 2005 to 2009 (Los Angeles Times 2011; Perenews 2010).
SCM, an independent Swiss institutional investment advisor for private market investments, surveyed 368 closed-end private equity funds. Our data indicates that in 2007 there were 20 funds raised where a placement agent was involved (13.7 % of all funds raised in 2007), while in 2009 there were no funds raised where a placement agent was involved.
Source: Fortress Group.
This process usually takes up to 3 months. For instance, the private equity firm Permira, which keeps fundraising in-house and does not hire placement agents, was asked to complete 140 due diligence questionnaires for one or their fundraising rounds (Mills 2005).
In order to respect the confidentiality of both organizations that provided the data, the names of specific organizations have intentionally not been disclosed.
A multiple is calculated as “cash out + remaining value” divided by “cash in.”
“Top earners among intermediaries dealing with CALPERS.” (Los Angeles Times 2010).
As costliness depends on carried interest, we should by specification be careful about the endogeneity, as it depends on fund perormance. Bacause of the low importance of carried interest in remuneration schemes of placement agents (see Section 7.2), this issue is of minor concern.
Our data set shows much less frequent use of placement agents from the SCM survey results mentioned earlier (i.e., 10 vs. 52 %). The potential reasons are: 1) Our data set contains a large percentage of buyout funds that only use placement agents in a low percent of cases; 2) the SCM is European-based, while the two LPs from our data set are US-based; and 3) the SCM is a private investment advisor with a clear focus on attracting more customers. There is a limited scope of transparency in the sample bias and methodology in the SCM survey.
The net IRR is calculated based on the actual dates of cash flows and quarter-end valuations. The IRR calculation includes interest paid, if applicable.
Differences are not statistically significant.
Funds established up until year 2005 (incl.). Most of the committed capital has been invested, and the IRR and multiple data are meaningful.
For the funds established from 2006 onwards, the IRR and the multiples are not meaningful, nor are they indicative of future performance. The capital committed has not yet been fully called and invested.
We have checked the robustness of our results by using a quintile regression, which confirms our finding (not shown here).
We also test the same model specification by using the percentage of committed capital by an LP in relative terms to the total fund size, but no significant relation was disclosed (not reported).
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Acknowledgments
We thank Ludovic Phalippou, David K. Musto, Gregory-Allen Russell, Paul Calluzzo, Janis Berzins, Jonathan Moore and the anonymous reviewers of this journal. We also thank the discussants in the research seminar at University of Ljubljana Faculty of Economics, the 25th Australasian Finance & Banking Conference, and the 2013 Midwest Finance Association Annual Meeting for valuable comments and suggestions about how to improve our work. All mistakes remain ours.
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Appendix
Appendix
Return distribution in the modified data set 1 measured by a multiple
Return distribution in the modified data set 1 measured by IRR (in %). Note: Due to missing IRR data, 76 cases were removed
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Rikato, M., Berk, A.S. Costliness of Placement Agents. J Financ Serv Res 48, 263–287 (2015). https://doi.org/10.1007/s10693-014-0206-6
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DOI: https://doi.org/10.1007/s10693-014-0206-6