In January, the city chose Credit Suisse Customized Fund Investment Group and StepStone Group to run the fledgling program, which has a target of 5 percent of the limited partner’s total $3.7 billion portfolio. In addition to working closely with these two advisers, pension fund staff will be reviewing specialist private equity firms and may present additional recommendations for board approval.
Credit Suisse Customized Fund Investment Group will work with the pension fund’s staff to create a diversified portfolio of private equity funds and a select number of co-investments. The program will likely include investments in leveraged buyout funds, mezzanine, distressed debt and venture capital, as well as co-investments.
According to board documents, one of the guiding principles of the program will be to invest in “fewer better managers.” The firm will be looking for managers who have competitive advantages gained through industry and transaction expertise, as well as regional dynamics that favor business development, acquisition and exit opportunities.
Credit Suisse Customized Fund Investment Group expects to build a private equity portfolio of three to seven commitments per vintage year, likely making six to nine co-investments over the next several vintage years as well. The document stated that total commitments of $40 million to $60 million annually could enable San Diego to reach nearly half of its targeted exposure level (2.5 percent) to private equity by about 2013. (The other half will be handled via investments made by StepStone Group.) Within the leveraged buyout category, Credit Suisse’s portion will be weighted toward middle and lower mid-market funds of up to $2 billion.
During the first active year of the program, three to seven pledges to special situations funds are likely, targeting areas such as such as distressed debt and mezzanine. Credit Suisse recommends allocating up to 20 percent of the program’s capital to co-investments.
During the first year of the mandate, Credit Suisse expects to make individual commitments of $5 million to $15 million. The lower end of the range is expected to be used for venture capital pledges, while the maximum would go to buyout opportunities. For co-investments, each commitment will likely be between $2.5 million and $7 million. International commitments will go to both developed and emerging markets outside the United States. Those investments can have an individual country or regional focus, or can be global.
StepStone Group expects to launch its portion of the program in the third quarter of 2009. StepStone will target total commitments of $40 million to $75 million in the first 12 months after launch of the program but has the flexibility to invest more or less in any given year. The actual amount will be decided by changing market conditions, changes in the valuation of the overall portfolio and the quality of funds in the market in any given year. In the early years of the program, StepStone will overweight investments that generate relatively early cash flow, such as secondaries, distressed and mezzanine, to reduce the J-curve.
In the first year of the program, StepStone expects to invest in three to six primary funds, with pledges ranging from $5 million to $15 million. The firm also expects to selectively commit to secondary opportunities, ranging from $1 million to $15 million per slug.
StepStone will target a broad range of private equity sectors including buyouts, growth equity, venture capital, mezzanine, distressed and secondaries. In 2009, the firm expects to overweight restructuring/turnaround and secondaries, given the particularly attractive market opportunity for these strategies, said the document. StepStone’s portion of the program will invest globally, mainly seeking opportunities in the United States, Western Europe and developed Asia. Also, StepStone expects to invest a small allocation over the next five years in emerging markets, including China and Eastern Europe. Funds that specialize in specific industries will be an important part of the portfolio. Currently StepStone likes the financial services, healthcare and energy sectors.