Separate Accounts Grow But Some Wary Of Trend

Most recently, the California Public Employees’ Retirement System committed $500 million to The Blackstone Group. The same week, Buyouts reported that the New York City Comptroller’s Bureau of Asset Management had committed $600 million and $250 million to separate accounts with Apollo Global Management and Golden Tree Asset Management, respectively.

Those deals followed a couple of blockbuster accounts announced late last year, when the Texas Teachers’ Retirement System committed $3 billion each to separate accounts with Apollo and Kohlberg Kravis Roberts & Co., and the New Jersey Division of Investment committed $1.5 billion to Blackstone. In July, the Municipal Employees Retirement System of Michigan committed $750 million across two separate accounts with The Carlyle Group and its AlpInvest subsidiary.

Large limited partners get better terms and exposure to a broad array of investments while holding the line on the number of GPs they work with. For sponsors, the arrangement is a way to quickly boost assets under management.

A source close to Carlyle told Buyouts the Washington, D.C. based firm, which recently went public, is open to more separate accounts “on a very select basis.” And Larry Schloss, the chief investment officer of New York City Comptroller’s Bureau of Asset Management, recently told Buyouts that the pension system aims to have six to eight separate managed accounts for opportunistic credit strategies.

“For the big new asset managers that are emerging, they need an understandable, fairly transparent stream of revenues that are diversified and seen as safe if they are going to support their stock price in the public markets,” said Colin Blaydon, the director of the Center for Private Equity and Entrepreneurship at the Tuck School of Business at Dartmouth, who has been involved with private equity since the 1980s.

So far the trend has mostly been limited to the biggest guns in the industry. But sources suggest the majority of large limited partners are discussing such arrangements with sponsors that are a cut below the mega-firms.

More than one limited partner has proposed a separate account with Leonard Green & Partners, which is in the midst of wrapping fundraising for its sixth fund, but the firm declined to pursue such an arrangement, according to a source. Similarly, limited partners have asked executives with Thomas H. Lee Partners if would pursue separate accounts when it hits the fundraising market again, which is more than a year off, according to another source.

“We’re probably most comfortable, in terms of the best alignment with all of our LPs, not to have these kinds of separate accounts and would focus on doing it only in extraordinary circumstances where the world decided that’s the direction the industry going in,” said a senior executive with a firm that’s raised more than $15 billion over its lifetime.

The separate accounts come in a variety of flavors. On behalf of New York City Apollo Global and Golden Tree are pursuing credit opportunities, while on behalf of MERS AlpInvest is targeting secondary deals and co-investments, among other strategies. 

Some LPs question whether buyout firms can adequately manage potential conflicts arising from managing both separate accounts and typical funds backed by several limited partners. And some question the soundness of committing to a certain fund in part because of a cut on fees.

“To me, that seems to be a dangerous proposition,” said Marc Bonavitacola, partner and head of U.S. private equity for SVG Advisers, a manager of funds of funds. “You may be getting it cheaper, but you may not be getting the best in every strategy.”

And there is a sense that the large public firms might reach their limit soon. Executives at Apollo Global Management indicated in a recent earnings call that they’ll basically be digesting their existing separate accounts before pursuing large new accounts. A source close to KKR noted that these accounts demand a sizable amount of resources to negotiate and manage.

“I don’t think you’d find any firm that’s not going to do it, but I don’t think there’s any firm that could do a whole lot of them,” this source said, adding that the universe of LPs who can offer billion-plus commitments is relatively small. 

Many in the GP community, meanwhile, rue a trend that decreases fees. The managing partner of a buyout shop that manages more than $10 billion said his firm isn’t interested in separate managed accounts. “Would you voluntarily cut your pay?” he asked.