There’s a paradox in private equity that many don’t like to acknowledge. How is it that, on the one hand, capital is backing some of the most groundbreaking innovation in the economy, transforming how we communicate and sending rockets into space; while, on the other hand, the managers of that capital are in many cases themselves still powered by the same basic Microsoft Office applications that have been in use for decades?
Speakers at the recent SuperTechnology Europe virtual conference tackled this conundrum, citing several reasons for the industry’s laggardly tech adoption. One is the complexity of procurement processes, particularly for large institutions and especially those with public funding. Another is simple risk aversion. The fact that private equity is a heavily regulated industry can make it challenging to accept additional risks by taking the lead on tech adoption, which can throw up an array of new compliance and security challenges.
It is not only GPs that have relied on old ways of doing business. “I was investing in private equity funds for 20 years and trying to do my job with inadequate tools, with emails and in PowerPoint and dealing with unanswered voicemail messages. We used to laugh that even the web browsers weren’t up to speed,” said Claire Commons, COO and Head of Strategy at Palico. “As investors, we had fallen behind.”
LPs may have seen little incentive to integrate new tools when the old ways of doing things had been working so well, especially in what remains a highly qualitative, people business like PE.
Then 2020 came along and changed everything. Connecting with managers online over videoconference and using e-signature tools were born out of necessity. There is no going back now. “These are the positives that COVID has brought about, said Bjorn Tremmerie, Head ICT and Business Angel Investment at the European Investment Fund.”
“When we invest in a fund, the only asset that we can really do due diligence on is a team. We cannot do analytics on a piece of source code or a product. So the human component and the interaction are important,” said Tremmerie. “We’ve embraced Zoom calls for our due diligence meetings, although I have to admit it works better when we do re-ups and engage with existing managers.”
Few LPs would be willing to commit long-term capital to a team they have never met in person. But before backing an entirely new fund, investors first have to find those opportunities, this search process, and the ability to make introductions made possible by technology.
“A lot of institutions are starting to look at their stable of managers and there’s a huge secular trend towards backing newer teams. Technology is just one more tool in the toolbox to do any kind of engagement and evaluation,” said Commons. “And for a group like emerging managers where it’s like finding a needle in a haystack in terms of matching what you need as an investor to the huge pool of options out there, it’s a really powerful tool for that funnel management of going from discovery to that first meeting.”
Even in cases where an LP has heard of a firm through the grapevine, that doesn’t guarantee awareness of a new fund being launched or that the firm has been able to communicate their story to the market in a compelling way that will win the confidence of investors.
“Sometimes you listen to drug commercials on TV and you literally have no idea what disease they’re curing,” added Commons. “Whether it’s Palico or other channels, podcasts, webinars, or tech platforms [GPs need to think about] how to stand out and tell their story.”
While physical meetings will never be fully replaced, everything points to a hybrid future for PE in which technology will increasingly be used to match LPs with new funds and enable them to break the ice with managers. This can then be followed up with a fly-in visit to shake hands and read the room.
“Physical meetings are still needed. However, I think we have all made the most of this COVID period and technology has made it possible to speak to a broader team. It’s been more inclusive. In particular you can speak to more junior people,” said Ellinor Scrhewelius, Director Investor Relations & Business Development, Verdane. “You can meet analysts, associates, directors, principals, all levels of the organization. And as an LP you don’t typically bring ten people with you to carry out on-site due diligence, but with virtual meetings, you can have more people attend.”
Tremmerie concurred that interviewing analysts has huge value as “they give great insight on how a partnership works”, which is so critical for LPs, who need to understand the alignment of incentives and motivations within a firm. At the European Investment Fund, efforts are being made to drill down even further, using analytics to improve the decision-making process around committing to new funds. One of the major challenges in times of abundance is understanding who is really deserving of capital. It’s often said that a rising tide lifts all boats, and with asset prices steeply appreciating it can be difficult to see which boats are worth boarding.
“Currently, the venture capital market is rather buoyant. So how do you separate the wheat from the chaff?” asked Tremmerie. “If we apply analytical tools to the tonne of data that we’re sitting on and to our portfolio, that definitely brings out interesting patterns. However, there is always the caveat that if the people in the firm change, your data may not be as relevant anymore.”
Again, PE is about people and relationships. That will never change. But that human element is increasingly intersecting with technology in new and exciting ways, reshaping the fundamentals of fund origination, communicating with managers, understanding what makes them tick and how likely they will be able to create value in a rapidly evolving world. This requires PE stakeholders to stay on the cusp of technology to become better investors.
“There’s a lot of really interesting innovation out there,” said Commons. “I would definitely recommend both LPs and GPs to continue, as part of your work, really researching and asking: what are the new and innovative tools that can help me do my job better?”