Launch Orca
Request a call

Co-investing is for the 1% - The motivations for co-investing

As private equity has grown and matured, co-investments (CI) have become an increasingly popular topic among Limited Partners (LPs). Over the last decade, fueled by a low-interest-rate environment and a search for yield, more LPs have expressed interest in CI opportunities.

However, despite the enthusiasm, the reality is stark: only a small fraction of LPs who request co-investment opportunities will actually follow through, and an even smaller subset truly has the capability and motivation to do it effectively. In fact, co-investing is realistically suitable for just the top 1% of LPs.

The Reality of Co-Investing

I did also add, that the asset class had time and again proven adaptable and resilient and had a proven ability to thrive not least in times of uncertainty. And furthermore that Republicans traditionally had been pro business which had benefited the industry. 

Of the LPs who express interest in co-investments, fewer than 10% ultimately participate when offered the opportunity. The reasons for declining are varied and include:

  • Inability to meet strict timelines
  • Lack of resources, such as capital, staff, or expertise
  • Absence of an allocation or formal process for co-investing


Even among those who do participate, many are not adequately equipped for the complexities of co-investing. For some, their motivation may not align with the demands of CI, or they lack the necessary capabilities to evaluate and manage these investments effectively.

As a result, co-investing becomes a viable option for only the most prepared and capable LPs—the top 1%.

 

The Right Motivation for Co-Investing

While motivations for co-investing vary, not all are equally valid. Below, we examine some of the most common motivations, ranked from less valid to more valid:
     
  1. Fee Savings
    While reducing fees is a reasonable goal, it should never be the primary driver for co-investing. Fee savings are a bonus, not the foundation for a successful co-investment strategy.
    2.  
  2. Insight Into a GP
    Co-investing can provide deeper insight into a GP’s investment process, which may help inform future fund commitments. However, this requires the LP to have the resources to conduct both primary due diligence on the GP and simultaneous due diligence on the specific investment—often under tight timelines.
    3.  
  3. Customization of Exposure
    For LPs looking to fine-tune their portfolio exposure to specific sectors, regions, or strategies, co-investing can be a valuable tool—provided it aligns with thoughtful portfolio construction.
    4.  
  4. Faster Deployment and J-Curve Mitigation
    Using co-investments to speed up capital deployment and reduce the impact of the j-curve can be effective if done carefully. This approach can benefit newer portfolios in particular.
    5.  
  5. Good Risk-Adjusted Returns
    This is the gold standard of motivations for co-investing. A good risk-adjusted return, distinct from simply higher net returns achieved through fee savings, should be the primary objective of any co-investment strategy.
    6.  
  6. LPs Wanting to Be GPs
    This unspoken but common motivation is the least valid. For some LP teams, particularly at pension funds, co-investing offers a taste of being a “real” GP, complete with aspirations for carried interest or career advancement. However, this principal-agent problem can lead to misaligned interests and poor outcomes.

I think this topic alone would have merited a longer more thorough discussion. But unfortunately the panel was running out of time. 

So for my own account, also drawing upon discussions on other panels, I would add the following, which is worth considering for LPs and GPs:


The Path to Successful Co-Investing

For LPs genuinely considering co-investments, the first step is a thorough examination of their motivations. Are they aligned with the ultimate goal of achieving good risk-adjusted returns, or are they driven by less sustainable factors?

Once motivations are clear, LPs must assess their capabilities. Co-investing requires a robust team, extensive expertise, and strong governance. Without these prerequisites, LPs would be better served outsourcing to a specialist provider, even if it comes at an additional fee.

Next Steps

Co-investing, when done with the right motivations and capabilities, can enhance returns and add diversification to a portfolio. However, it’s not a strategy for everyone.

Future posts will delve into:

  • The prerequisites for co-investing
  • A framework for classifying co-investment opportunities
  • Key considerations for GPs when selecting LP co-investors

For now, LPs and GPs alike should remember: co-investing is a privilege, not a right, and should be approached with a clear understanding of its complexities.

Stay Illiquid & Stay Tuned!

More Insights

Insights

Sign up to keep up to date with the latest news and updates.

© 2024 Balentic ApS. CVR: 44034255. All rights reserved.

Privacy Policy   |   Terms of Service

The Balentic website and Orca are, and are expected to continue to be, under development. Consequently, some of the features described in this Overview and/or on the website may not yet be available or may work differently. Some features may furthermore not be available to all users.