Orange County eyes direct funds as it advances larger PE program

Orange County Employees’ Retirement System plans to invest in more direct private equity funds, rather than through fund-of-fund vehicles, according to an investment presentation obtained by Buyouts.

For the past decade, Orange County’s $14.5 billion system relied largely on funds-of-funds to build out its PE program, a report by Meketa Investment Group says. Meketa’s presentation projected $450 million to $550 million in new PE commitments for Orange County this year.

The shift to investing in direct funds was driven partly by a new asset allocation that will increase the size of the California pension’s PE program over time. OCERS raised its target allocation to PE to 8 percent from 6 percent in January.

The retirement system held 5.36 percent of its assets in private equity as of July 31.

“A fund-of-fund approach would require larger commitments and take a longer time to reach the allocation target,” Meketa wrote.

Committing directly to PE fund managers could also reduce the costs of Orange County’s PE program.

Fund-of-funds managers typically charge OCERS an annual management fee of 0.4 percent to 0.9 percent of the size of each commitment, according to Meketa. That’s in addition to the management fee and carried interest charged by the general partners of underlying vehicles held through each fund-of-funds.

Directly investing in new funds shaves a layer of fees off the system’s costs, saving OCERS as much as a full percentage point in fees on each new commitment, a retirement system memo says.

Total fees

OCERS’s PE managers collected around $20.2 million in management fees in 2016, a report presented at the system’s investment committee meeting last week shows. Its GPs collected around $19.8 million as carried interest.

The report marks the first time Orange County included expenses outside the realm of management fees and carried-interest payments, according to the report.

In addition to the management fee, firms often bill their fund investors for legal or auditing services, as well as amounts for subscription facilities, administrative fees, placement fees and various other expenses. Those “other expenses” totaled more than $2.4 million within Orange County’s PE program last year, according to the report.

All told, the costs of Orange County’s private equity program represented around $42.4 million, an amount representing roughly 5.9 percent of the $719 million PE program’s market value, as of Dec. 31.

Orange County’s PE program was netting a 12.8 percent internal rate of return and 1.5x multiple since inception.

Action Item: Orange County’s investment program: http://www.ocers.org

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