Editor’s Letter: Pension documents reveal LPs’ concerns in today’s market

Documents from Oregon Investment Council unveil some of the concerns LPs have in this hyperactive fundraising market.

OIC committed $500 million to Vista Equity Partners’ seventh fund, targeting $12 billion. Oregon said a cap on Fund VII is still under consideration.

Oregon has kicked $1.2 billion into six of the GP’s funds over the years.

Most interesting to me was a list of concerns Oregon staff had about the fund and factors alleviating those concerns. This is a routine part of Oregon’s investment memos when it commits to PE funds.

One concern was Vista’s sale of a minority stake in the management company to Dyal Capital in 2015. The issue with the sale is that a component of GP economics generated by Vista funds is no longer available to give incentives to the team, according to pension documents.

This is a common concern among LPs assessing new funds for potential commitments: that a portion of management fees and carried interest will flow to a third-party investor.

LPs back a specific manager based on a very detailed contract, and some years down the line a third-party suddenly comes in and assumes a portion of the agreed-upon economics.

LPs thinking about committing to a new fund are including questions about minority-stake sales as part of their due diligence.

Oregon labels this concern “imperfect alignment.” Because Vista targets a single sector, this could give rise to potential conflicts as multiple business lines may have an interest in a target company and cross-fund investments could be considered.

But — “Vista brings unique expertise and operational capability to the software space, which is the primary merit of the [Fund VII] proposition,” Oregon said. “Further, [OIC] benefits from a large, long, and collaborative relationship with this GP which allows for close oversight on the part of staff.” 

Oregon staff also has concerns about fund-size increases — perhaps the biggest concern among LPs today. Oregon said Vista is likely to pursue 20 to 25 percent fund-size growth above the $11.1 billion it raised for Fund VI in 2016.

Alleviating this concern is that Vista’s target software market includes around 100,000 companies with total enterprise value of $12 trillion. Of that, around 5,000 companies could be considered platform investments for Vista’s portfolio.

“Given the secular trends underpinning demand for software and data solutions, the GP projects growth in the addressable market at mid-teens CAGRs over the next decade,” Oregon staff said in the documents.

Indeed, the firm focuses solely on enterprise-software investments, tapping into what Founder Robert Smith calls the “fourth industrial revolution.” This is fueled by the ubiquity of computing power, expanding connectivity and the growth of the so-called Internet of Things.

“What Robert is saying is that we believe that the computing revolution — as radical as it’s been so far — is still just in its infancy,” Vista Principal Rene Yang, co-head of the firm’s small-cap strategy, told Buyouts in an interview earlier this year.

“The macro trends that he highlights are either still nascent or still in the steep part of the curve. At Vista, we believe they’ll unleash thousands of scalable and valuable new businesses.”