Why “Alignment” is the Rodney Dangerfield Feature of Private Equity (PE) – It Gets Little Respect, by Marc A. Gineris, Incyte Capital Managing Partner

DALLAS, TX – January 15, 2017 – Limited Partners (LP’s) in private equity often talk of requiring alignment with their General Partners (GP’s). General Partners similarly are quick to claim strong alignment with LP’s through their fund structures and reputations. In reality, however, authentic alignment among LP’s, GP’s and Management is rarely fully achieved in PE funds today and the argument rages on with little true advances on the theme.

Human nature and investor psychology are believed by many to be far better predictors of investor behavior and investment success than arcane sector themes, complicated fund structures and the like. In practice, fund managers and investors should and do act in their own self-interest. Taken to the extreme, human greed is ultimately enduring. It follows then that the alignment of greed, self-interest and information is the most authentic way to best serve the interests of all parties. Achieving ultimate alignment in this way, however, is deemed of secondary importance, somewhat crude, extreme, pedestrian and ultimately unwarranted in the current private equity environment. And thus the lack of true respect for alignment reigns on.

The approaches to alignment listed below indicate the most and the least effective ways of achieving authentic alignment among LP’s, GP’s and Management. While it is admittedly difficult to pursue the “most” effective approach listed in all cases due to fund charter constraints, unique requirements or prior practices among managers and investors alike, the closer one comes to the most effective practice, the more likely alignment will be a major factor in determining “alpha” or superior returns to the market – and in achieving harmonious LP, GP and Management relations.

MOST EFFECTIVE

General Partners invest their own
capital in size (10 percent or more)

Limited Partners do not impose a
five year or other investment horizon on
investment realizations

General Partners endeavor to keep
structures simple and easy to understand
rather than complicated

Management is expected to invest
its own capital – can be assisted
by loans, modest grants, incentives

General Partners decide in collaboration
with Management on when to exit

Dilutive events to Limited Partners and
Management are pursued with care
and strong communication

LEAST EFFECTIVE

General Partners use carry and fees
as their investments, not new capital

Limited Partners expect returns
within five years or a set time period

Funds and securities structures are
complicated and therefore considered
sophisticated – but not transparent

Management invests its experience and
time, but not its own capital – ultimately
creating an incentive to take outsized risks

General Partners decide rather than
Management on when to exit

General Partners routinely pursue
dilutive events in the normal course