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Electra's battles shouldn't overshadow private equity potential

The Electra investment trust should be counted a private equity success, as the sector is handed a welcome boost from a new listing.

Electra's battles shouldn't overshadow private equity potential

Electra Private Equity (ELTA ) – to my mind the flagship fund of the listed private equity sector – is back in the firing line as Sherborne investors’ Edward Bramson and Ian Brindle try once again to get themselves appointed to Electra’s board without explaining why anyone thinks this is a good idea.

I think it would be a great shame if they succeeded in their aim, but the vote will presumably be closer than it was last time as Sherborne owns a few more shares than before.

Assuming they fail, my hope would be that Sherborne distributes its Electra holding to investors in Sherborne and some of them, recognising how much better off they would have been buying Electra shares than Sherborne shares, will hang onto their new investment while Electra’s brokers place the balance – avoiding the need to shrink the fund. We’ll have to wait to see.

As I have said before, Electra deserves to survive in its current form because it has been a success story of the listed private equity sector. The sector was much diminished by the events of the credit crisis and even today, some six years later, quite a few funds are in wind-up mode.

Raising fresh capital for the sector is hard for two reasons: the tendency for private equity funds to trade at a discount and the timescales involved in getting money invested and then harvesting it, which can take a decade or more.

Unfortunately, many investors lose faith with funds while they are in the middle of this process.

Newer funds that looked promising both in terms of return and capital structure, such as the two Better Capital trusts (BCAP and BC12 ), have run into problems, which has not helped.

New listing shows promise

However, June’s listing of Apax Global Alpha (APAX ), which raised fresh capital of €300 million (£222 million) from investors to expand a pre-existing unquoted fund, is a good indication that many investors still like the sector and its diversification benefits.

Apax is a well-known and well-resourced private equity firm that has been around for over 40 years and has been investing in buyouts since 1993.

Apax employees had exposure to various Apax private equity funds, other related investment vehicles and direct co-investments in companies held by other Apax funds through an unquoted vehicle called PCV Lux SCA.

They had the idea to list this fund, allowing these investors liquidity if they wanted it, giving outside investors the chance to access Apax’s funds through a listed vehicle (they say for the first time but there is a French closed-end fund called Altamir that also does this job). It raised fresh capital for the fund so it could invest in the new opportunities that Apax was creating.

PCV had stakes in four Apax funds, 15 direct investments in debt securities and 12 listed equity investments and, at the end of March this year. This was valued at €580 million (after providing for all the fees and other payments associated with APAX’s listing).

When pre-existing funds get listed it can presage a rush for the exit that leaves the fund trading at a substantial discount not long after launch. However, the investors in PCV, including Apax Partners chairman Martin Halusa, who was listed in the prospectus as the largest individual shareholder in the fund prior to admission, are locked in on terms that let them sell between 10% and 20% of their holding a year, but only a year after APAX’s admission.

Ambitious targets

APAX’s aim is to generate shareholder returns of 12-15% per annum and pay a 5% dividend, once it is fully invested. The prospectus does not say so but I am guessing this will be paid out of a mix of realised capital gains and investment income.

Paying a dividend in this way is a good way of returning capital to shareholders at asset value. It is a policy that has been adopted by a number of private equity funds.

The manager gets a base fee of 1.25% and a performance fee of 20% of returns, subject to an 8% hurdle on all the investments that are not already paying Apax a management fee. That way, APAX is not paying multiple layers of fees, which seems fairly reasonable.

At the end of June, the invested portfolio was split roughly 50:50 in limited partnership funds and direct/indirect investments.

About 60% was in North America with the rest spread across the world (Apax’s newest fund, Apax VIII, created in 2012, was global).

There is a bias to technology, telecommunications, services, healthcare and consumer companies. The investments date back as far as 2005, though the vast bulk of the portfolio has been invested since the global financial crisis.

Unsurprisingly, most of the new money APAX had just raised was still sitting in cash at the end of June and so the portfolio was 65% invested. They have been achieving some realisations this year and with these come valuation uplifts but the whole industry will be wondering whether the pace of initial public offering and mergers and acquisitions activity will slow markedly now post August’s market wobbles. At least if the market does weaken, it will make it easier to deploy its cash pile.

On our numbers it is trading at a discount of 9.4%, narrower even than Electra’s 11.1%, so it is no bargain but may be one to watch.

James Carthew is a director at Marten & Co. The views expressed in this article are his and do not constitute investment advice.

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Aviva scraps plan to cancel preference shares

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