Valuing Private Equity
Copenhagen Business School; Columbia Business School; Centre for Economic Policy Research (CEPR)
Columbia Business School - Finance and Economics
Shanghai University of Finance and Economics
NBER Working Paper No. w19612
We investigate whether the performance of Private Equity (PE) investments is sufficient to compensate investors (LPs) for risk, long-term illiquidity, management and incentive fees charged by the general partner (GP). We analyze the LP's portfolio-choice problem and find that management fees, carried interest and illiquidity are costly, and GPs must generate substantial alpha to compensate LPs for bearing these costs. Debt is cheap and reduces these costs, potentially explaining the high leverage of buyout transactions. Conventional interpretations of PE performance measures appear optimistic. On average, LPs may just break even, net of management fees, carry, risk, and costs of illiquidity.
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Number of Pages in PDF File: 64
Date posted: November 9, 2013