Limited partners in private equity funds should be wary of putting managers under pressure to deploy capital – that is the conclusion of new research published today by eFront, the world’s leading alternative investment management software and solutions provider.

eFront’s research shows that there is an inverse correlation between the level of capital deployed during the first year of a fund’s investment period, and its eventual performance.

Looking at US LBO funds of vintage years 2000 to 2010, on average, funds deploy more capital in the first year (29%) than during each of the following ones. Years 2 and 3 are roughly at par (20%) and the amounts decline consistently thereafter (Figure 1). At first glance, the recent increase in pressure from fund investors to deploy capital would not imply a radical change of behaviour from fund managers.

Figure 1 - Yearly and cumulated capital calls of US LBO funds (vintage years 2000-2010)

However, a deeper look shows that the amount deployed in Year 1 fluctuates, from 14% (vintage year 2010) to 38% (2000). Surprisingly, the capital deployment in Year 1 does not seem to be connected with macroeconomic conditions: the coefficient of correlation with US GDP growth is only 0.19. However, there is an inverse correlation, of -0.32, between the amount of capital deployed in Year 1 and the overall performance of funds (Figure 2). This correlation increases as funds mature, with older funds (2000-07) showing a stronger inverse correlation of -0.46.

Figure 2 - TVPI and 1-year PICC of US LBO funds (vintage years 2000-2010)

This analysis raises some important conclusions on drawdowns, demonstrating that under pressure from investors, fund managers might have less freedom to select the best opportunities over time. Even though fund managers usually have a pipeline of potential investment opportunities when they raise new funds, there is no certainty about when these opportunities will materialise. Putting pressure on fund managers to deploy capital could thus lead them to execute investments they would have normally decided to pass on.

Interestingly, Figure 1 shows that a significant amount of capital is called after the usual end of the investment period of LBO funds. In Year 6, 7% of the committed capital is called on average. The most obvious reason associated with an extension of an investment period is that fund managers struggled to deploy capital during the usual five years.

Figure 3 - Multiples on invested capital of European and North American secondary funds

Surprisingly, funds of 2000, 2001 and 2010, which deployed respectively 102%, 98%, and 90% after five years still called 15%, 11% and 9% of the committed capital in Year 6. In theory, at this point, the remaining capital to be drawn to pay the management fees during the divestment years would be insufficient. The logical conclusion is that fund managers decided to use the provision of their fund regulations, allowing them to recycle early distributions operated during the investment period to effectively invest up to 100% of the committed capital. This is clearly the case for 2000, 2001, 2008 and 2010.

Another explanation is that some fund managers might execute buy-and-build strategies. Fund regulations in effect prevent new investments after the investment period, but usually, allow reinvestments in existing portfolio companies, including to support acquisitions.

Tarek Chouman, CEO of eFront, commented: “This analysis debunks some common assumptions about drawdowns. One of them is that fund investors have put an increased pressure on fund managers to deploy more capital faster. Given the fact that most of the fund regulations cap the capital deployed in any given year at 25-30% of the committed capital, it is difficult to see how much further fund managers can go in that respect. What is also clear from the analysis is that having the freedom to deploy or not is an important tool to invest for fund managers.”

(Source: eFront)

Money laundering represents the fifth largest economy in the world and equates to 3% of global GDP.

Leading defence and security organisation, BAE Systems has set out six criminal types responsible for money laundering around the world, to help global businesses understand the motivations and modus operandi of criminals targeting their business. The company hopes to help businesses fight the significant threat posed by financial crime.

Accounting for almost $2trn each year[1], money laundering is having an increasingly devastating effect on societies around the world. The criminals behind money laundering are finding ever more sophisticated ways of disguising their activity. Research shows that money laundering activity has a significant impact on society as it drives up property prices and increases taxes and insurance premiums while also funding other criminal activity such as the drugs trade and international terrorism.

BAE Systems’ subject matter experts analysed customer data to identify the people most commonly involved in money laundering. They are:

1. The Source – White collar fraudsters and organised crime gangs making illegal profit from their crimes. As a result of operating outside the law they need their money ‘cleaned’ before it can be used.
2. The Leader – Leaders are clinging to power and stripping their country of wealth to line their own pockets. Their outcast status causes the Leader to resort to subterfuge to hide their funds and spend money on the things that keep them in power.
3. The Bystander – Bystanders don’t facilitate crime but are happy to turn a blind eye while their mysterious client lines their pockets.
4. The Watched – People on international watch lists who could either be corrupted or facilitate corruption for a price.
5. The Shark – Sharks enable crime by helping move illicit funds through the banking system, profiting themselves along the way.
6. The Shop Front – Legitimate-looking businesses that exist to launder money, catering specifically to criminals.

Rob Horton, Head of Financial Crime Solutions EMEA at BAE Systems said: “In today’s digital world, criminals are constantly exploring new ways to find and exploit loopholes in legitimate channels to make the proceeds of crime look like legal tender. But the real issue isn’t simply the illicit money, it’s the wider impact of these criminal acts. Money laundering keeps hospitals, schools and libraries from being built as the proceeds of crime contribute nothing to the public purse. Launderers are also bending the property market, pricing first time buyers out of many cities. And the profits of money laundering are the cause of organised crime across the world, from drug trafficking and gun smuggling, to fraud and modern slavery.

“The fight against money laundering needs a new era of collaboration between the financial services industry, government and technology and compliance specialists. Understanding the motivations and modus operandi of the people behind it is the critical first step. Businesses need to understand the enemies they face in order to successfully protect themselves against them.”

(Source: BAE Systems)

[1] https://www.unodc.org/unodc/en/frontpage/2011/October/illicit-money_-how-much-is-out-there.html