Traditionally, private equity investments such as buy-outs have been investment vehicles open to a restricted asset class—usually large pension funds, insurance firms, and university endowments. Recently, however, private equity fundraising platforms are looking to high-net-worth individual investors to supplement capital funds previously almost exclusively comprised of institutional investors.
Individual investors have, in the past, been excluded from the private equity game largely because of vast amounts of capital required to buy-out entire companies and an uncertain return-on-investment horizon. Institutional investors, like university endowments, are much better suited to make a substantial initial investment and to survive the lifecycle of private equity investments, which typically seek to profit from the sale of the acquired company within three to five years. Previously, wealthy individuals seeking to invest in private equity funds did so by way of “feeder funds” offered by large banks, such as JP Morgan Chase and Wells Fargo & Co. or other intermediaries. The feeder funds pooled the investment commitments of several individuals, which were then invested by the banks that had access to large private equity funds.
But feeder-type funds often provide access to only a small portion of private equity funds, missing out on lesser-known opportunities and leaving investors unsatisfied. In response, several large asset managers such as the Carlyle Group and Kolberg Kravis Roberts have recently experimented with granting access to individual investors in an effort to tap into the “virgin territory” as a source of capital for private equity funds. The targeted individual investors are those who meet a certain qualification level of liquid assets—often between $1 and $2 million in liquid net worth. To qualified investors, Carlyle, for example, provides access to its private equity fund portfolio in exchange for 1 to 2 percent of their capital plus 20 percent of profits yielded, along with highly lucrative annual management fees. These rates are considerably less than those offered by traditional feeder-fund type access avenues to private equity for individuals. Some firms, such as iCapital, grant individual investors that meet the definition of “qualified purchasers” access to lesser-known private equity funds for annual fees below 1 percent.
Most private equity firms that are opening the doors to individual investors are doing so on an experimental basis to assess the demand and profitability of this change to the private equity capital structure. While acquiring more capital and increased management fees obviously provides ample incentive to a private equity firm to include the investments of wealthy individuals in its already-massive funds, it remains to be seen whether the model will be effective for all involved going forward.
Private Equity Firms Alter Capital Structure Granting Access to Individual Investors (PDF)