US Private Equity Market Could be Hamstrung by Capacity Issues

January 30, 2005 ( - A new Mercer Investment Consulting report asserted that recent private equity strength could lead to problems for new investors.

The Mercer report said that the problem is that the new institutional money pouring into the private equity space is competing for the limited capacity of the top-tier private equity fund executives so some investors may end up disappointed at the returns they can generate.

In this environment, the new private equity institutional players must evaluate the talent and track record of private equity managers and make extra sure that due diligence standards are met. The good news, according to Mercer’s first quarter Private Equity newsletter, is that those who can find excess capacity with top-tier private equity managers with significant experience and investment discipline should be rewarded with a high probability of generating strong returns.

In terms of performance, private equity markets generated strong returns in 2005, dominated by the small-to-medium buyout market sector, according to Mercer. Venture capital returns were buoyed by stronger IPO and M&A markets but continue to be plagued by the technology bust of 2000, which continues to be a drag on performance. Encouraged by robust investment activity and the realization of profits from investment ventures, the first three quarters of 2005 saw an upsurge in private equity fundraising compared to the same period in 2004, Mercer said.

This wave of new capital arises as limited partners boost alternatives targets or institute new allocations to private equity, a trend of the last few years that accelerated in 2005 and appears to be continuing in 2006.

“There has been a power shift,” said Caroline Aboutar, a Chicago-based senior consultant with Mercer IC who specializes in private equity, in the news release. “We’re seeing fewer examples of limited partners achieving investor-friendly terms. By contrast, there are more examples of general partners compressing fundraising schedules and insisting on solid commitments before limited partners complete formal due diligence.”

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