Private equity funds report their highest portfolio valuations while raising a new fund — a trend that has raised suspicions that firms inflate performance figures in order to better attract capital.
But new research suggests that peaks in net asset value around fundraising periods may just be a sign of strategic timing on the part of the general partner, rather than an indication of foul play.
In a study of 136 buyout funds with vintage years between 1996 and 2010, Niklas Huther, assistant professor at Indiana University's Kelley School of Business, concluded that there was no evidence of inflated valuations.
The data was supplied to Huther on an anonymous basis by a large, international limited partner. He used it to compare "low reputation" funds — those without a solid track record to encourage investor commitments — with "high reputation" funds.
After examining the quarterly performance reports of both types of private equity funds, Huther found no statistical difference in how they reported interim NAVs, suggesting that less reputable funds were not exaggerating performance to compensate for their lack of good reputation.
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Instead, Huther said that the observed peak in portfolio valuations around fundraising could be due to general partners strategically raising a new fund after successful investments. Noting that private equity performance is not consistent throughout a fund's life, he argued that general partners, particularly those without a strong reputation, are simply opportunistic about when they raise money.
"Instead of strategically manipulating performance estimates, they might time fundraising to true estimates of strong performance," Huther wrote.
Declines in NAVs after fundraising are because general partners "cannot systematically repeat good outcomes," he added.
"Those investing in a new fund might not get paid what they expected," the author concluded, "but can expect what they paid for."