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Private equity funds are sitting on record levels of cash. And yet delegates at an industry conference in Berlin are feeling the pressure to generate adequate returns and offer value for money to investors.
Major players agree that funds, known as General Partners (GPs), are being forced to address demands from investors piling record amounts of cash into funds as they seek returns when interest rates are at rock bottom.
"At the same time we have increasing demand, we have to realize that we have a real problem in GP delivery," said James Coulter, co-founder of US fund TPG.
"We are beginning to see a challenge to the basic fund structures we've become very comfortable with." Investors are hunting returns. That helped undeployed capital, or dry powder, hit a record $1.2 trillion in 2014, according to market research firm Preqin.
Last year alone, funds including Hellman and Friedman, Permira and Bain Capital raised around $422 billion, according to Thomson Reuters data.
But the availability of cash brings its own problems.
Once investors have committed capital to a fund, they are generally charged fees even though the money has not yet been invested, meaning the pressure is on to spend.
That has already forced up prices as multiple funds chase a limited number of acquisitions. Global average exit multiples hit 12 times core earnings (EBITDA) last year -- the highest since 2008, according to Thomson Reuters data.
"Prices are as high as they ever were," said Ralf Huep, General Manager at Advent. "There is ample capital to be invested and a lack of target companies. The dry powder is too much for what (the industry) gets going every year."
"BACK TO THE FUTURE"
Investors, or Limited Partners (LPs), are already asking for change, managers said, for example by demanding that fees be paid only on capital deployed. And pension fund giant CalPERS said in January that it would slash its number of private equity managers by over two-thirds in a cost-cutting drive.
Sovereign wealth funds (SWFs) sitting on enormous amounts of cash are also wielding increasing power. Such funds accounted for 14% of capital invested in private equity in January 2015, up from 6% five years previously, said David Rubenstein, co-founder and co-CEO of Carlyle.
"The exponential growth of SWFs will put them in a stronger position to seek changes from GPs," Rubenstein said.
Delegates said funds needed to be creative and suggested a number of answers to the situation, including buyout houses being more flexible with their terms, or co-investing, where LPs work alongside a fund to invest directly into an asset.
"The question is not whether the money will be invested, but if it will be invested sensibly," said Wendelin Thoenes, Investment Manager at Allianz Capital Partners. "Therefore it is important that there is proper alignment of interest between GPs and LPs."
Guy Hands, chairman and chief investment officer of UK fund Terra Firma, said that GPs once more putting their own capital into funds as they did at the dawn of private equity could help.
He added that the firm was putting 1 billion euros ($1.14 billion) of its own cash into investments, of which more than half was his own money, to applause in the room.
"What the small organisations were doing in the 1970s, 80s - I think that's the way to go," Hands said. "Private equity needs to go back to the future."
