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I've been advised that using a gatekeeper is a good way of investing in private equity. How do I choose one?06/08/2001. Source: Westport Private Equity Limited. Mark Drugan 
 From Mark Drugan of Westport Private Equity: With the advent of the Myners report, the private equity industry is set for a period of strong growth. Institutions that even a year or two ago were dismissing private equity as a high-risk distraction are now beginning to look at the asset class seriously.
The evidence of consistently strong performance is widely accepted and, perhaps most important of all, the actuarial and advisory professions have been forced to develop an interest after years of burying their heads in the sand.
With private equity's sudden rise to prominence, it is quite natural for those new to the asset class to ask: ‘How do I find out about private equity and how do I find someone to help me?' The answer is to appoint an experienced specialist adviser or ‘gatekeeper'.
First and foremost it is important to understand the role that a gatekeeper fulfils. Initially, at least, this is largely an educational role. Private equity really is unlike other asset classes. It is long term (typically ten years or more), real investment in real companies. It is comparatively illiquid, although with broadly predictable cashflow characteristics, and it cannot be measured in the same way as the more conventional assets. Not only can it provide long term out-performance, it can, in the longer term, also become a cash-generating machine that provides additional asset diversification.
A gatekeeper should help the client to set realistic, achievable portfolio objectives and to develop a strategy that is designed to deliver the desired results within acceptable risk parameters. A ‘pure' gatekeeper (one that does not operate funds of funds) will then guide the client towards those managers most likely to deliver the required returns. In practice, almost all gatekeepers operate funds of funds that aim to achieve all of the above, providing external accountability, minimising administration for the client and ensuring continuity of stewardship.
As with any asset that rises to prominence rapidly, a number of instant experts surface as if by magic. These people typically believe that compiling a league table of historic performance or reading 1,001 placing memoranda will enable them to select a portfolio of private equity funds that will deliver returns to the client. Unfortunately, as many institutions with memories of private equity in the 1980s will testify, the mistakes are out there waiting to be made. Private equity is a people business that requires deep insider knowledge.
So how do you choose the best gatekeeper for your investment?
Meet several gatekeepers and take the time to get to know them. Believe it or not they are not all the same. Look at the team, its experience, motivation, stability and continuity. Is this the team that produced the track record? Does the team even have a track record? Bear in mind that you will be entering into a long-term relationship and that you should get on with the people, too.
Look at the track record since formation (returns since inception); these will be the most reliable guide to performance. Performance over one, three, five and ten years mean little in a private equity context. Is the performance based upon a consistent, repeatable investment philosophy?
Check for potential conflicts of interest. Is the manager running a direct investment programme alongside a fund of funds? How does this affect manager selection? How are investment opportunities allocated between clients/funds? Have they matched their obligations to clients with their ability to invest in top quality funds?
Look at the fees. These are important, because a gatekeeper in either the ‘pure' form or a fund of funds guise adds another layer of cost. Bear in mind, however, that because private equity can produce a wide range of returns that selecting the right gatekeeper is more important than selecting the cheapest.
Finally, a few pointers on how not to select a gatekeeper.
Don't use a desk-based consultant with six months' experience who is now a private equity ‘expert' (there are plenty around - they can smell the fees).
Don't just look at the track record over the past three years (or five years, etc).
Don't assume that all gatekeepers are the same and select the biggest and/or the cheapest.
Don't use consultant-led beauty parades. The consultants are still learning - at varying paces - about private equity. Very few will be able to add value to your selection process.
Westport Private Equity is a leading private equity fund of funds manager and specialist adviser with over €500m under management. Westport's team of professionals concentrates on selecting top quality European and US private equity managers for its funds of funds and bespoke client portfolios.
Mark Drugan is responsible for building proprietary information and reporting systems, for the last eight years he has focused fully on new investments, portfolio monitoring, client servicing and the production of the annual BVCA Performance Measurement Study.
mark.drugan@westport.uk.com
© Westport Private Equity Limited 2001
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