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Aligned Interest
A New Standard for Private Equity Firms and Hedge Funds
The interest of an investor and that of a Private Equity’s or Hedge Fund’s partners has almost always been aligned. If the investor received a good return on their investment, the firm’s partners who were responsible for creating the return were rewarded for their performance with a percentage of the firm’s carry or performance fee in their yearly bonus check.
About 2-3 years ago we noticed, as we have mentioned on this site, that the idea of carry and who received a percentage of the carry kept drifting lower down the leadership chart of many firms. Suddenly, the smart and forward thinking firms were offering a percentage of the carry or performance fee to VPs and even Senior Associates. This compensation structure allowed these progressive Private Equity and Hedge Fund firms to be extremely competitive in the hiring and retaining of employees as the industry grew more competitive. At the same time these firms were spreading the alignment initiative more widely throughout the firm. Not only were the partner’s aligned with the investors’ interest, now the majority of fund’s employees are aligned towards the same goal.
What we have seen occur this year and really since late last year is that this alignment of interest throughout the majority of a firm, has almost become mandatory for many investors. Those firms that do not offer this compensation structure have found raising assets in this tough economy to be even tougher if not impossible. After the near crash in the economy and the large numbers of fund failures, the investors are looking for ways to protect themselves or at least buffer themselves from future failures. The most sophisticated investor sees that one way to accomplish this is to ensure the Private Equity or Hedge Fund firm they are investing in has goals that are aligned with theirs and that those goals are congruent and well embedded across the entire firm and its culture.
Since this movement towards alignment has taken hold, especially during this economic downturn, I believe it will most likely do nothing but grow and strengthen as our country and global economies begin to turn upwards and improve. I also believe we will see far fewer special dividend deals that became the rage after the internet bubble. Though these special dividends did reward the investors they almost always rewarded the funds and the funds’ partners more highly. Additional the idea of employee alignment thru the concept of carry participation might one day reach the entire firm, even today many firms now offer carry participation to 2nd year Associates.
In conclusion, I would add ‘Total Aligned Interest’ as one of the new rules that has come from this economic downturn that must be added to the longer list of unwritten guidelines which must be followed when trying to raise assets and succeed in this space.
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