Private equity is a complex asset class, with intrinsic characteristics which make it appropriate only for savvy investors. With its low liquidity, long investment horizon and peculiar cash flow pattern, it requires professional management and a keen awareness of the risks and processes involved.
Performance in the asset class is to a large extent the consequence of a strong alignment of interests between the managers (general partners) at the private equity firm, the management teams at the portfolio companies and the investors (limited partners) in the funds. A large share of the compensation of both general partners and top managers is strongly linked to performance, i.e. a strong IRR at exit or various operational targets. Incentives in private equity are generally stronger, more focused, performance-driven and internally consistent than those available to managers in other firms or public institutions. These strong incentives, and the means to deliver on value creating strategies, unleash performance at all levels.
The growth of the industry, particularly in terms of fund sizes, has, however, adversely affected this alignment of interests, especially between the general partners and the limited partners. Larger fund sizes and fixed management fee structures have led to an imbalance between performance- and size-driven ...
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