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Institutional investor profile: Ivan Vercoutere, managing partner, LGT Capital Partners

LGT Capital Partners has E2.6bn under management, E1.8bn of it committed to private equity. The firm manages fund of fund vehicles on behalf of the Leichtenstein Princely Family, runs special mandates for pension funds and has a separate vehicle, Castle private equity, which was launched in 1997. The firm is currently raising a fund of funds with a target of E150 to E200m and is expecting a final close by the end of the year. Ivan Vercoutere has worked in private equity investing for 12 years.

What type of investments do you make?
‘All our vehicles are fund of funds. But we don't call them fund of funds. We call them private equity programmes because it's more than going into blind pooled vehicles. For all of our programmes, we are looking for early cash flows and returns. To that end we spend a lot of time with our clients, to find an investment strategy that can be profitable earlier than traditionally expected in the private equity market. Consequently, we invest in primary funds as well as in secondary transactions. It's an overall private equity solution. So 50 to 60 per cent is invested in primary private equity funds. We are also very active on the secondaries market, buying out positions in some of the best funds being sold by institutions looking to rebalance their portfolios. We would also do up to ten per cent in co-investments.

‘We invest on a global basis in all sectors of the private equity market. Our primary objective is to achieve superior returns. As a result, we go for as large a sample set to choose from as possible to get the best returns. The US market continues to be the best market for returns, followed by Europe. But even with what has happened over the last five years, it's still a challenge to find great returns in Europe. You can get good returns - getting great returns is much, much harder.

What mix of investments do you have?
‘We look for a 50-50 mix between venture capital and buy-out. We would have liked to have done more venture capital in Europe, but it has been very difficult to find good venture capitalists. With hindsight, holding back because we couldn't find good quality people was absolutely the right thing to do. Many of the so-called venture capital firms we looked at over the last two years could not be considered to be tried and tested. VC is a very difficult business. You have to deal with regular failures and you really have to roll up your sleeves and get involved.'

Under what circumstances will you co-invest?
‘We tend to do co-investments later on in our investment period as a way of boosting our overall returns. So we make our primary and secondary investments and then build co-investments around that core of commitments. The companies that we invest in have to be either profitable already or be set to reach profitability within 12 months. But we'll only co-invest if there are the right opportunities available and we will only do it alongside top quartile fund managers.'

What do you look for in a private equity manager?
‘We look for teams that have a certain level of experience in that they have successfully managed one or two funds before and who have a proven track record. We look for a team that has worked together before. We also look for managers that have had success in following their stated investment strategy - that means sourcing investments, managing investments and then exiting them. Anyone with money can invest in private equity, but not everybody is capable of managing the investments and exiting them profitably at the right time. So we look for very bright fund managers who can assess their advantages in the market to pick up the best opportunities by arbitrage and by making the most out of inefficiencies.

‘We don't tend to go for the larger funds. They have a lot of capital, they all tend to look at the same large deals and so pricing tends to be much more efficient. It's difficult for one large firm to have any specific advantage over another in this type of deal.

‘Instead, we tend to look at the middle market. There is much more opportunity at this end of the market for great returns. The level of experience among managers is much more varied and that's where, if you can find the best teams, you can generate great returns. The inefficiencies in the middle market are greater. There are several exit opportunities as many of these companies can be sold to strategic purchasers, in some cases be taken public or sold to the larger buy-out funds looking for well run companies.'

How do you source your deals?
‘Through our network. We have a team of experienced private equity professionals and 14 different nationalities. That's very important in the context of what we're doing. All the big funds are pan-European. Some of them are based out of London and that's just not good enough. The middle-market deals are in Norway or Germany or in France. Many of them are never going to get to London. You need to be able to find that deal either by being on the spot or travelling to where it is. Middle-market deals are local and our challenge is to find good local teams. Some of them may never have managed institutional money before - they may have managed their own funds, or money from families. But if they have been doing them very successfully, it's a short step to managing institutional money. We look for those types of people.

‘Most other investors won't have heard of those people, they are off most people's radar screen. But with our international team, plus our support in local markets, we can find those people who are doing the smart transactions. If we find a good one, we'll become a lead investor in that fund. It takes a long time to source deals like this - it usually takes about a year. But you need to spend time with them to make sure that you are comfortable with the way they work, to really understand their track record. If they have never worked with institutions before, they won't have the slick presentation style that the big teams have. Big teams are very good at presenting themselves and they have a whole sales machine working for them. But it's not sales that we're interested in. Small teams are only good at one thing and that's investing. That's who we like to back.

‘The other reason it takes so long to invest in these teams is that we have to work so closely with them on their terms and conditions.'

Do you find that there are particular sticking points in terms and conditions?
‘The terms and conditions agreements are so important. They have to last for 12 to 15 years, if you take into account the extensions you often get at the end of the fund's life. Each team has its own characteristics and the terms and conditions should reflect that. But what's most important is that the interests of investor and manager are aligned. The fund manager should not be able to make money before the investor does. If times are bad, they should be bad for both parties, and if times are good, they should be good for both parties. The other thing is that the partnership should be properly governed. If I buy into a fund, I'm buying into the people. I don't expect key people to leave and then find that the second tier of people is taking over my investment.

‘Terms and conditions should ensure that investors have the means to protect their own capital.'

What do you think are the most exciting prospects for the future?
‘There will be an increasing number of good private equity teams in Europe - the problem will be finding them early. In the US, venture capitalists are concentrated into two areas - Route 128 and Silicon Valley. In Europe, they are all over the place - in Helsinki, Zurich, Milan, Frankfurt, Munich, London, Cambridge. So you really have to have your ear to the ground to make sure you find all the opportunities. You have to meet a lot of people.

‘All of Europe is exciting. It has potential. There is no reason why the European venture capital and private equity market won't be as big and professional as that in the US. It will take a few years to get there - more like ten years than five - but I can't see why it shouldn't get there. The limiting factor is the number of experienced professionals. It's just a question of time for the market to develop.'

What's your perspective on what has happened over the last few years?
‘Right now we're going back to the basics after a long period of forgetfulness. Capital is a scarce resource. It's expensive, especially private equity capital. What happened over the last couple of years was unreasonable and unprofessional. If you take Boo.com as an example, I just cannot understand how $125m could have been burnt. I don't just blame the managers of the business, I blame the venture capitalists that let that happen. They should be involved in the business, watching what happened to their capital, what it was being spent on and they should not have provided follow-on financing unless clear milestones had been met.'

What is the biggest issue for the private equity industry?
‘The industry needs to be able to manage itself, to stop things getting out of hand as they did over the last couple of years - especially in the US. Private equity had too much of a good thing then. Private equity investment per se is good, but if you have too much of it, it causes problems. The challenge for the industry is to grow at a measurable pace. Otherwise, we'll just see a repeat of some of the mistakes we've seen recently.

‘All market participants have a role in this. Limited and general partners need to learn how to manage the growth and manage expectations. We all have to take a step back. Also, an increasing amount of capital to be invested in private equity is serious capital - it's pension money, people's retirement capital. It is increasingly important for the industry to be controlled and prudent in the way that it allocates it.'

What advice would you give to an investor new to private equity?
‘Don't underestimate it. It is a risky business. It's a knowledge industry, but it's one based on information that is not readily available. To succeed in private equity, you need to exercise informed judgment.

‘You want to put early scores on the board. Start with a low allocation and build up. The first two to three years of investments will be the first to generate returns, so you'd better make your decisions carefully. The irony is that those first years are when you are still learning your way around the private equity market and are more prone to make mistakes. If you don't want to have a hard time of convincing your trustees and investment boards that you should continue to invest in private equity, you need to get help from someone who knows about the industry, either an adviser or a fund of funds that has a good track record. I would also suggest getting help from a manager or adviser whose interests are aligned with yours. Just as we insist on venture capitalists and buy-out managers investing alongside limited partners, pension funds and other institutional investors should require the fund of funds managers or advisers to also pony up capital and take a portion of the fees in the form of performance fees.

‘So really, the advice is to get a coach and learn as much about the industry as you can. To be successful, you really need to understand the difference between what makes a good private equity fund manager and what makes a bad one. It's a subtle difference in many cases, but it's a vital one. They all claim to be top quartile, but you have to get behind those claims. As we say in our office, leave no stone unturned.'

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