An Inconvenient Fact: Private Equity Returns vs The Billionaire Factory

published on July 13, 2020

You you you you you you welcome my name is Aram booty and I'm

Executive in residence at side business school University of Oxford I'm pleased that you're able to join us I have various social media platforms this is our 26th live webinar in this series leadership in extraordinary times the

Series was created by side business school as part of its response to the curve in 19 prices as you know the session will debate will be a debate that review for saludo Phillipos upcoming research paper which assesses

The fees charged by general partners in the private equity industry it has a fascinating title an inconvenient fact the private equity industry and the billionaire Factory I hear it has costs a spare online this topic is a very

Important one particularly because many pension funds who pension as around the world depend on endowments sovereign wealth funds and other entities that manage public funds that impact society have to depend on private equity funds

For example as wallbang treasurer from 2015 to 2018 and amongst other responsibilities I had oversight of the World Bank Group's 27 billion pension portfolio my team and I invested the funds through over 200 fund managers

Many of whom were private equity fund managers I saw firsthand both the diversification opportunities that PE funds provide and the immediate impact and value of any savings this is indeed a very important issue

Let me tell you how this one-hour event will be structured Ludo Filippo professor of Financial Economics at side Business School University of Oxford and author of this research will present the case he makes David Robinson professor

Of finance at Duke University will present counter arguments after their presentations we will take questions including from participants so please use the chat function on the platform that you're on a share the questions you

Want answered after the Q&A I will ask Chris flood of the Financial Times who has covered this industry and this topic extensively to give us his perspectives in the same style as with Oxford Union debates the house believes the PE

Industry loots our savings to mint billionaires and that should be stopped now let me hand over to Lou who's proposing thank you Luther very much I hope you can see my slides so it's that's

Interior motion that is being presented let me start with some facts the funds raised between 2006 and 2015 together return one point six dollars for every dollar they invested as of the end of 2019 which is the latest data we have

Our pension funds and endowments would have done the exact same amount by investing in American stocks but that private equity performance is similar to that of public equity maybe is not that shocking it is certainly different from

What every single marketing brochure says from what we hear again and again and again in any industry presentation that's for sure and it is certainly not why pension funds college endowments and galaga paying consultants for are

Providing free decreed year notice for bet all kinds of extra internal costs for pay of lawyers etc but here is the most shocking fact the carried payments that have been made to his very funds as of December 2019 the

Carry do is two hundred thirty billion now to be clear carry payments are not suppose to cover any sorts of operational costs it is a cash reward for good financial performance but of course we do not know the exact figure

Some pension funds have just started to collect this information over the last two three years and what they collect is typically you complete I don't think correction diamonds correct receive information alone so this is an estimate

This estimate is based on mostly conservative assumptions but most importantly very small carry than that paid even after 2006 because all the previous vintages collected carry as well two thousand five two thousand four

Etc if I were to add this all the vintages I would reach the number of three hundred and seventy billion and if I add to the US the rest of the world I would cruise past half a trillion mark again we are talking about cash payments

To individuals for good financial performance and we are talking about half a trillion dollar and as a side point and all of these payments are taxed at a much lower rate than income is in most situation in some stage you

Can just pay twenty percent on this in the UK used to be twenty percent as well and today in the UK it's twenty-eight percent much less an income tax rate if that is not called diluting then I don't know what is if that's not the most

Extraordinary wealth transfer of mankind then I don't know what is and the perfect irony is that private equity is marketed as alpha closed which I picture here for you for so what you have a visualization what we here the time is

If your patient is on the fret not problem alpha Claus is here for you all you need to do is invest more in private equity your university tuitions are burning no problem alpha Claus is here for you just invest in private equity

But it is Santa who's driving the Ferrari not a pensioners not our students the fact that no Tony Santa didn't deliver the presents is quite bad but on top of that it became a billionaire on the way and that probably

Adds some insult to the injury and the state of affairs hurt a lot of people it widens wealth inequalities and I think it is increasingly apparent even to economists but society with massive inequalities cannot function and it is

Worse than this wealth is how to justify even if you are comfortable with a pay for performance mantra which I'm not but even if you are here is not even performance to be rewarded for varies observed performance but the value of

All American it could be went up and if protocol if performance is going to be poor going forward most of these money will not be returned the half a trillion will be gone it is head I want and tell you lost how can we

Accept such contracts how can we not ask for these to stop and I will go further and I want you but stopping this is for the good of industry itself any industry needs a license to operate and probably even more so nowadays than

Ever before it's not even nice to be a billionaire in a society where people think you have stolen your money it's not nice do I do I not do I think it's really fair to them most of them are hardworking highly knowledgeable and

Individuals and they can contribute a lot to society we need them they're useful people it is also hurting when 95% of the people working in this industry one of billionaires there are tons of people out there working in

Smaller private equity firms and for whom it is difficult to make ends meet and the key reason for this is that the model is very expensive so the model needs to change but the model cannot change if people do not

Acknowledge with facts that I've just shown you because if people believe in alpha clothes then there is no need to rethink the model the model is great so let's not think about it but that's not the situation I love trying markets

I love pension funds and I love endowments the think of it as tough law I think there are the future I do not think public markets are modern solution they are not even available in most countries the future is people

Controlling companies in order to change for companies for the better to help society only private markets can do that and this noble effort should not be hindered by absurd compensation schemes on top of observed taxation schemes this

Normal effort should not be hindered by allowing Impostors to use all kind of window-dressing techniques to make people believe they're some kind of miracle workers we need to close all the potentials for conflicts of interest we

Need a level playing field we need the standardization of contract end of performance disclosure that will lower the cost of a model and there are many people working on different models but they don't get traction because it

Is still believed it's Santa Claus so we don't need to rethink the model these people need help these people on the right track we need sustainable private markets and this is why I urge you to vote in favor of the house motion thank

You later let me hand over to David for the counter position David you need to unmute yourself let's try that again thank you very much for having me thank you Ludo for the opportunity to bake with you on the

Important questions ludos just shown you how expensive private equity is and has argued that it's relative performance against public markets has been quite modest in spite of these high fees I certainly agree with Ludo that private

Equity is an expensive form of activist investing but Ludo skips over what private equity is actually done for the economy and for society and earning that carried interest Oscar Wilde said a cynic is a man who knows the cost of

Everything but the value of nothing Ludo is certainly the cynic here let's talk about the rest of the story here's some facts about private equity performance that are indeed inconvenient facts for the argument that Ludo is advancing

First let's talk about patenting firms patenting firms become more innovative not less innovative after being acquired by private equity they don't file any fewer patents and the patents that they do file end up having higher impact

Private equity back firms in the United Kingdom are more resilient during the global financial crisis and similar firms that were not PE backed private equity creates as many jobs as it destroys yes job losses go up in

Underperforming divisions inside private equity acquired firms but hiring also goes up in well performing divisions the latter outweighs the former moreover employees that remain in PE acquired firms build human capital faster than

Employees in similar non-p backed firms bottom line PE backed firms have better management practices we're not talking about anecdotes here we're talking about comparisons based on thousands of firms across 34 countries these better

Management practices end up creating efficiencies inside firms that benefit not only shareholders but also employees and customers indeed workplace injuries go down after facilities are purchased by private equity firms and I'm talking

Buy a lot if you took every workplace in the US and you made it safer by the same degree we'd have 800,000 fewer workplace injuries in the US every year look at fast food

Restaurants fast food restaurants got cleaner healthier and better maintained after PE acquisitions I'm not talking about McDonald's versus Burger King we're talking about comparing a private equity owned location to a franchisee

Location owned location of the very same chain and we're not talking about one chain we're not talking about an anecdote we're talking about 3400 restaurant locations across 118 restaurant chains firms do a better job

Reaching customers after private equity acquisitions of canned food companies we're talking about the stuff on grocery store shelves revenues go up revenues go up but not because the private equity backed firms have raised prices but

Because they've expanded their product offerings in their geographic reach I could go on and in fact I will post citations to back up each of these statements to my LinkedIn page later today but the point is private equity

Does not mint billionaires by robbing our savings it mints billionaires by making companies better better for shareholders yes but also better for customers better for employees every time a billion dollars if carried

Interest is generated five billion dollars of net returns have been created four billion of which have gone back to our savings coffers we can all point to individual anecdotes that put the industry in a bad light but it's

Dangerous to extrapolate from that to a general theory of what's wrong with PE and that's a critique that I would levy not just against ludos proposition but in fact against a broad range of policy initiatives in the US and abroad the

Second part of ludos argument is that their their performance the performance of private equity has been only modest relative to public markets the conclusion were implicitly being asked to draw is that P managers are somehow

Resting on their laurels in spite of their enormous ly high-powered incentives to do otherwise first I just want to point out that by connecting average performance to the sum total of performance-based compensation this

Argument overlooks the enormous variation in performance that we see in this market the spread between a great manager a good manager and a weak man in private equity is enormous orders of magnitude over what we experience in

Public markets but let's take a more granular look at this statement I want to make three quick points here first of all ludos very own numbers the ones that he's reported in his in his report conflate traditional buyout with real

Estate infrastructure and other types of private capital when he reports that the big four have only just beaten public markets if you look more carefully at his own numbers you'll see that the buyout funds have reliably outperformed

Public markets during this period but let's put that to the side second even if we accept the private equity has only barely matched public markets since roughly 2006 or so it's important to point out but the broader view of

History tells us a very different story my own work with bearish and SOI at Vanderbilt University has shown that buyout funds have earned about a three percent per annum excess return over the very long run that's a number that's

Been confirmed in a number of other studies similar numbers have been reported by Bob Harris Steve Kaplan and Oxford's own tim Jenkinson using different data sources in the ones i used so why then why is it that this

Post global financial crisis period in public capital markets has been so different when we think about the comparison of private equity and public equity since 2008 we have seen unprecedented levels of central bank

Intervention in public markets this quantitative easing which has been conducted on a coordinated basis by central banks across the globe has pumped trillions of dollars into capital markets and this is fueled the longest

Bull market in history in the US so instead of looking at public markets and private markets and concluding the private equity is somehow alpha Claus who stole in our Ferrari why aren't we recognizing that central bank

Intervention has placed a giant thumb on the scales of this relative performance comparison this brings me to that my final point of my argument why is it that private equity has outperformed public markets so consistently

Throughout its history here's where Ludo and I agree it's there's no alpha clause it is not because it offers a free lunch to invest who are lucky enough to be invited to get on board as I said the spread and

Performance between the top and bottom quartile funds is huge private equity outperforms public markets on average because investors in private equity are bearing the liquidity risk they are bearing risk in addition

To the risk that they face in public markets and they're compensated for it on average not just the you know we're talking about the risk that an investor will be asked to provide a capital call when they are ill-equipped to do so this

Illiquidity premium over the long historical period carries an excess return so to conclude private equity is meant and billionaires yes for sure but this has come at the benefit not at the expense of our collective savings

Perhaps it's it is outperform public markets somewhat less dramatically since the global financial crisis but let's not forget that this has been the longest bull run public markets have ever seen and that is due largely to

Central bank interventions I think that if you think the next 12 years going forward in public markets will look like the last then I think you should vote in favor of gluto but I think if you do you ignore a wealth of macroeconomic

Evidence to the contrary thank you you both have made very passionate and compelling arguments I would like to start the question and answer segment of this very important series by having each of you ask the

Other some questions but before that I want to encourage everyone who's sharing this opportunity on various platforms to keep the questions coming I will try and put them together and share them with Ludo and David David let me start with

You do you have a question for Ludo deaath questions for Ludo I do I do let me try it let me let me begin and thank you so so so Ludo I want to be constructive with my question because I agree with you when you say that private

What he needs tough love and I think you make an interesting point when you point out that during this long period of public market return you know strong bull returns it's been easier perhaps to generate good returns in private equity

So yeah maybe private equity has been sailing with the wind at their back during this last bull market run but you want to fix that by blunting their incentives to create returns and so what I want to ask you is would you instead

Be in favor of changing limited partner agreements so the general partners did not begin earning carried interest until they exceeded a floating market-based preferred return instead of what we now have which is customarily for general

Partners to begin earning carried interest after a fixed 8% return would you be in favor of a proposal like that instead of one that blunts their incentives to create value question I I've written the piece available on

Hsncom on my page what said what modifying the carried interest to do what it says it's supposed to do but if somebody wants to stick with a carried interest mindset III think that I'm not even sure that we need this carried

Interest obsession and we certainly do not need a symmetric contracts we sound like very dangerous contracts you imagine like you take Blackstone they have had a lot of carried interest and they have delivered high returns I guess

But what if all the funds now are not doing well they're not going to give the money back right of all the previous ones so it is like a very tricky system is a symmetric compensation and this idea we have it like we need to give

People like all these incentives always a lot of work hard they're not gonna like do great things I don't know I I work hard for my students to prepare my lectures etc and I don't get like an incentive fee for doing that the nurses

Of the hospitals are doing a great job and and even though we're not selling them looky there is one more person that dies of less when you will get 10,000 extra I don't know why we have this obsession with with like having carried

Interest so I don't understand why not everybody just works on on the basis of you know just reasonable compensation and doing the best we can and so if we go into that root of of saying you know you

Absolutely me the carried interest it could be an absolute one that they need me to be designed differently whereby somebody really take a stake in the company and turns whatever is there at the end of the year so if somebody like

Takes like the only investments in the fund that I have no problem with fried you make your own investments in the fund fund as well you do well from this badly you do badly on your investments is okay but carry the interest is

Different so that you get it if it goes well and then nothing happens if it goes badly and and and that that that's a bit tricky for community partners who have been a portfolio of options right if you have risk or displeased particularly

Funds you are buying a portfolio option and that can be extremely costly especially when there's lots of volatility so we said to what you need to but you just described is akita when you have the basket of options right and

So that's I think is what is really really tricky and it's it's a question to be answered that you're right that is very good which is we don't know if you know we found these billions like they wouldn't bring all these benefits to

Society I I tend to think that people are good people and they would work out just like I do that you do with our students and and and and we'll deliver bad anyway because everything is the right thing to do but we don't need to

Give I mean we're talking about staggering amounts of money we are not to get some some good reward we're talking about extraordinary amount so there's there's no question that we're talking about sums of money the likes of

Which you and I will never see will only read about and I and I totally agree with you the world is filled with with good people who you work for in the intrinsic motivation that they have seen good come from their actions but if you

Go back and you look at the early studies in the 1980s you looked at like the percentage of that how did the CEOs compensation change with respect to changes in the underlying company's value Hall and Murphy these earlier

Papers were finding it was like two or three percent then you bring in private equity operators who have much stronger incentives and what do you see you see tremendous changes in in corporate behavior and and

And I agree that it is I mean we can all come up with examples where there are bad outcomes but on average that is generated tremendous amount of efficiency that's benefited shareholders and the entire rest of society so I

Think I think it's important to remember that yet where one person is getting or a few dozen people are getting billions of dollars but millions and millions of people are are made you know better off as a result and that aggregation I think

Is I think we are blind to that that aggregation when we make this comparison III really be sympathetic to the other arrangement of a management teams if it's structured properly and so the paper was mentioning on modifying the

Carried interest to do what it's supposed to do is to say that the GPS with the LPS would assign the same contract that the management signs of the GP is not quite the same it looks a bit the same but it's not it doesn't

Have a same incentive effects so is really one was saying like we really is an incentive effect again I have doubts about that but if then if one says like we really need that more natural way to write it the current contract between an

LP and GP is not justified even Luda may come back to you for your own question I've got a lot of interesting questions coming from the various audiences on various platforms we have people from everywhere from India from Israel from

Holland from Italy from the UK from the US and many other places but I wanted to ludo have you respond to Adam Lee's a question we came from there from our youtube channel for you it says why do you feel and I think you've touched on

It but maybe you can be more specific why do you feel the pay for performance model is not a good one also would you still take issue with PE if the compensation model was reduced from 2 and 20 to say 1 and 10 or 05 and 5

Since we're on this issue of compensation I think the answer is similar to what I told David I'm not sure we'd meet and Carrie really but but even if we have some yeah it's move the fact that it's a

Symmetric what bothers me in a sense I don't mind somebody has like 50% carry but it needs to be symmetric so if people say you know if things go well I get half of you up home and I say okay and then things go badly you give me the

Half of me are you stolen from me it's like it's not what you think that the world is deterministic or you think it's luck if it's luck there is no need of is Carrie saying right because just like you guys we don't need that if you think

It's deterministic but when somebody – reveals you 20% it's like due to your skills purely and therefore they are entitled to let's say half of that when it's fine but that means that if they lose 20% so their fault so I'm a

Deterministic always luck but it cannot be like deterministic on the way up and bad luck on the way down so if people want to say look I take 50% of the returns then if it goes up by 50% but if it's on the way down I give you back 50%

But also there is another question that Toby Mishnah asked which is what the problem be solved by linking the performance-related rather than a static 8% hotter rate we could and we could have with like a cap

I think it would make sense because to go back to touch again on that question that David raised like all the last 10 years have been exceptional right our last 15 now it's 14 actually so so so when comparing if you could imagine if

The way we think about benchmarking in academia is that we think of somebody being being passive like a monkey that's usually how we portray so I say you just buy a company you hold it for four years you don't do anything when you sell it

Back when you buy it you buy it at a price multiple but it's similar to what publicly traded companies try that and when you sell it's the same thing so if you if the stock market went up by it by 50 percent over four years you held this

Thing if you hadn't done anything you would have gone up by 50 percent right so that's why we usually think that it did you know if you want to reward someone again if you believe in this in that sort of well then it's not so much

To date a closed public market equivalent if there is one out there right so in the us there are lots of knit cap companies that are traded small cap companies that are traded and so for leveraged buyout it seems like a very

Natural benchmark to use indeed so you could have at least part or with some bounce below all above but something linked to to public markets you need David what about your perspectives and and I think the issue around

Benchmarking is probably one that we should take natural question about that let me just make a couple of comments because I think this is very interesting and I think this is an important discussion we should be having so first

Of all you know I think I think ludos point is very interesting that you need to take a stand on whether it's luck or determinism that generated these this performance in the way you think about compensating it is going to depend

Perhaps on on which model of the world you have where I would push back on that is that I think it is a combination of skill and luck and I think we have to we set up we set up incentive systems on the front end and we have to live with

The consequences of them on the back end and and there are there are certainly going to come at the end of the day when the settling up occurs there's going to be performance that's paid for what but it's all there's also going to be

Performances paid for skill and so I think I agree that it's fruitful to think in terms of this distinction between skill versus luck but I think we have to acknowledge that we live in a world in which the two go hand in hand

And that and the reason I point that out is because I think it ties immediately into this next point about this relative performance this benchmarking it is bent you know as Ludo quite correctly points out it's been quite easy to make an 8

Percent return and a market that's been delivering consistently more than that for quite a long time so that's what I meant when I said in my question that you know private equities been sailing with the wind at its back but but let's

Think about let's think about why that is once you acknowledge that the premium that you earn private equity is a liquidity premium then it makes perfect sense because we're standing in the shadow of the

Largest liquidity intervention in human history is it any surprise that the liquidity premium in the current period might be lower than the long-run historical average so I think I just think it's important to take that

Perspective on this issue I do think that it would be fruitful to think to think more carefully about the appropriate ways of benchmarking these things and personally I'm I'm quite enamored of this idea of replacing the

Fixed 8 percent preferred return with something that floats relative to two markets and I think you know of course the Devils in the details here and you'd have to think about you'd have to think very carefully how you'd implement it

You probably want to implement it on a capitol call by capitol call basis so each time a limited partner made a capitol call to a general partner that capital got marked at the current value of the of the agreed-upon index and and

And compensation was paid base was paid after the index value was settled up against I think you'd want to be very careful how you did that but I I want to push back on this idea that we want because

Because levered buyouts look a certain way we want to move away from a broad index and pick like a you know a small growth index as the reference point because I think we also want to think about the opportunity cost of those

Capital calls where where do many large institutional investors draw the capital to meet the capital call a lot of times they do it by just adjusting their position and a broad public index because that's that's the place where

You can raise capital with it has the least price impact and so I think when we think about designing performance measurement systems we want to think yes about the risks about that you're bearing in relation to what you could be

Bearing elsewhere but I also think you want to bear in mind the underlying funding costs that the LP is facing and I think that moves you towards a broad index rather than a narrow index David but maybe you can also kneel mat

Dogo from whose chairman at silver fleet asks a question about benchmarks and he says will the S&P keep up an eleven point two five percent returns for the next ten years other questions in my mind around

Would it be different if the comparison was with MSCI world or if the base year Ludo was different from 2006 Ludo Ludo is very good at telling you how alternative benchmarks will adjust some of these these performance evaluations

But but my personal view is that if you just look at the Federal Reserve has over four trillion dollars on its balance sheet rights now before the financial crisis it had around 800 million dollars on its balance sheet

That money as you know it well I don't I don't understand how you get that kind of money out of the economy but you don't do it and and and have an eleven percent return and on the S&P 500 going forward it just can't happen

So liquidity is going to come out of the economy from central banks and when that happens I can't imagine that the liquidity premium that private equity will command over public markets can it must go up it's simply the monster I'd

Like to say so the 1011 percent of the S&P over last ten years is very important to know but it's not a historical aberration the US stock markets in about any decade since as far back as we can go

Burned about 10 percent a year and it goes for like any stock desires you can go like the easiest data to get is Ken's French website you go there you download all the US stock market by the size buy whatever you want and you will see the

Ten percent average return about that every like five ten years that you take you would get around ten percent the fiscal operations degree of liquidity that's been pumped into the market yeah that's right I come to adequacy so so

The ten percent has not been exceptional going forward it's almost impossible to get it because because the level of price is not I agree but but but the last ten years or ten percent is not something exceptional the

It is important as well to remember that that the SNP didn't do very well before 2006 but smoke up and mid-cap leader so ten eleven percent a year before 2006 so one thing I emphasize in this paper is Matt these two thousand six it's not

Really like a miracle here if you take a small cap mid-cap benchmark against private equity even in the paper by David where they had data from the 80s early 90s the only paper that has very old data on practically fund returns

When they chose a benchmark it was a bit more like small cap and mid cap the premium was already a lot smaller so so it is important that you know if we compare to smoke at mid cap practically as always always been in the ballpark of

His guys now if we take this MP 500ms yeah well now excetera will get to be the spread going back to equity I would need to understand a lot better what is liquidity premium is because it's a bit of his mysterious fame my understanding

One is an LP was supposed to get an equity premium because we gave his capital on demand at short notice to the GPS and so in in advance situation and the GP should just give a piece of cake as a reward for his liquidity provision

To the LPS now this cake was better that we v GP is did extremely well over the last fourteen years they generated 20% return bro Sophie's the problem is we they kept the anti cake so so say well they didn't

Give any liquid you premium to the LP is because of QE now became premium to help ease because of contracts are to a rhythm that way now we can we can bring the up even say we shouldn't have given such amorous contracts but but that's

You know the money was very snow back money was not there so they couldn't give it the growth of these returns in agree with me that both of you are extremely passionate about this topic and we can go on and on the whole day

There are few of a question that I want to touch on David you had made reference to issues around operational changes that B firms make to portfolio companies the Becky Pritchard saves you completely ignore the rule of financial engineering

And low tax rates in inducing inducing returns she she asks how do you address this there's also question around you know how do you differentiate between good and bad managers there are lots of questions so I keep your comments short

So I can get through many of my questions I'll try to be brief in response to Becky's question I mean I think I don't mean to ignore the fact that there is financial engineering in this market and that it generates it

Returns and I think the evidence is clear that the the private equity funds that generate the the stronger performance for their limited partners are the ones who more heavily engage in operational engineering not financial

Engineering and if you look across the market cycle what you see is that you know it gets easier and easier to apply financial engineering when credit conditions fees up and and you know in those those are disproportionately the

Deals that don't do as well so I think there's there's there's no question that there's a combination of operational and financial engineering I think I think the more holistic view is to is to recognize that rather than seeing them

As alternatives they're complements good financial engineering accompanies good operational improvement to strengthen incentives that does not at all mean that that every piece of financial engineering is you know is

Good and in fact I think you should ask yourself you know you can you can go out and buy financial engineering in the investment banking marketplace that should not command a high premium what should command a high premium is is

Going in and doing the hard work of fixing things that are broken that often is best done when accompanied with financial engineering because of the tax shields it generates and because of the discipline it generates but but I don't

At all mean to to sugarcoat that so I appreciate Becky's question David do you both want to talk about whether there's a difference and spread between great managers and below average managers have any joseph from a why are asked our

Question about the impact of the quality of people go ahead the issue is that we we give a lot of freedom we are fairly liberal in the way people can present their track records and alike in practically it is

Basically you know it's it's open bar so everybody stuff cotton everybody is amazing everybody like as with shiniest thing and you know so in a mutual fund research we playing for a lot of time about like survivorship bias before

Incubating with your funds doing all kinds of thing like to window dresser track record in private equities it is open bar so so what the means that everybody looks great and so an easy escape to the facts I've just presented

Is to say but I invested in top quartile guy so I should not really think hard about the issues that are here on the table and I think it's not true like not everybody is the court are you know investing in only top quartile managers

And it's not that easy to like detect with next top quartile etc just like in the stock market and and and so we should not avoid the important questions by you should not oh I'm above average so it's not about

About me we've had that for 40 years in which your funds when people kept on showing but the average active mutual fund was underperforming indices people kept on saying but I mean that's only with a good guy so is okay I think again

We should take these facts and say there is a problem here and let's address the problem by thinking of the Moldovan to be more resilient better design etc rather than saying it's okay let's ignore this design issue and because I

Must be the best half so I this is I'm very sympathetic to what I was saying here you know in in spite of how it might appear to the contrary I think that I mean first of all there is enormous variation in the average

Performance of different funds the spread and performance is as I said it's you know it's orders of magnitude larger than what you see from public equity managers so and so what that means then is is if you have an opaque ambiguous

Reporting system as saluto cause of an open bar then it because then there's tremendous scope to hide mediocrity behind a veil of apparent success there's no question about that I think I think that the the entire industry

Gee-gees like would be better served by having a more transparent reporting system and I think in and disclosure the impact of this work well and there's a lot of work that's going out there in the market to

Push for this I mean it's you know they're so I you know it's not like we're living in the darkness they're there there's a lot of work going on and there's you know lots of people who are very sophisticated and the way they ask

For performance data I have a few more minutes and I've got two other types of questions that I'd like to and I'll just share the two types one of them is on regulation it says is the regulation of PE strong enough globally I'd like both

Of you to comment the second is really around reference to value and society I think Emmie Chan from Brazil asks about you know what is you know really some thoughts about value to society and a landmark from a facebook platform really

Says okay we are in kovat times how do we balance the new model of profit profit driven corporations against a more environmentally and people centric type of approach for PE funds so those are the the you know the two questions

Are I'd like both of you to take we've got basically two minutes and you can take them in your closing remarks which I'll give you an opportunity to let me take my my closing remarks because actually that that final question you

Asked is something that I wanted to touch on in my closing remarks I think I do think that private equity has an important role to play and and in you know in increasing the size of the pie for a wide variety of stakeholders and I

Want to kind of speak to that at the end but okay what about regulation ludar do you or David want to say something in my regulation in the last min that we have I think it's an emergency to have a level playing roles and and

And and the argument of saying you know some people are doing that already and so and one should not forget that there might be a causality between people who have been shouting for 15 years and the regulation that has occurred and so 15

Years ago when I was talking about hidden fees in poverty Korea was shouted at because I was an enemy of yourself and it was terrible what I was saying it was all wrong cetera I took five years to do a research documented all the

Hidden fees etc and then by miracle the SEC came out and then and then shouted and then now when you ask people they say oh yeah that was something in the past it doesn't look very good but it's behind us now so it's so good right so

It's fun to say you know it's all good etc but we should we should not forget but this came because some hard questions were asked and because I was taught tough love at the bases until people are still using IR I would stop

Shouting but but but but I will be upset I think they still way a very very long way for having satisfactory level playing field we are nearly there in the mutual fund world we will have to converge to that it should be forbidden

For somebody to come on stage like David an eyewitness in a conference recently somebody coming on stage and say over the last 30 years we have 39 percent return and and that's why we raise the largest particular fun ever period you

Know it doesn't exist you're 39% this is PBS this is what you should be tasting MBAs do not do and and somebody should not be allowed to say things like this in public or in writing in SC findings for a matter so we we are very very far

Away from satisfactory situation and the usual answer to say lp's are sophisticated guys so it's all good let's let's just like turn a blind eye to of this now I think that's the wrong attitude we need to ask very hot

Question and the model is very very costly to run and any very interest rates are lower in the future expected returns are low in the future like David said the cost of the model is going to be more than ever a very important

Factor we need to think about how to run this model with a better cost structure and we will not be asking question seriously and why we are still believing in alpha clothes David can I start with you in terms of your closing

Remarks because we're now I can't believe we're almost towards the end of this I'll need to decide how we manage the rest of the questions but I didn't take so can we start with you David with your closing remarks and then Ludo

And then I will bring in Chris floor to give us his perspective since he's been listening over the last 45 or 46 minutes David sure thank you and again I'll conclude where I started by thanking both of you for having me

Here my conclusion will touch on some of the questions that were just raised in the previous round so I want to conclude by saying the private equity has not looted our savings to create billionaires it is

Created billionaires for sure you cannot argue against that but it is created billionaires by enriching our savings and it's done that by introducing radical change in the way business is conducted private equity executives on

Average are not thieves stealing our savings they are the midwives of technological disruption but you know I want to be very clear here I am quite sympathetic to many of the arguments that ludos making every time a

Billionaire is is minted it feels like the world has gotten just that much more unequal in terms of the distribution of wealth and this raises basic questions of human fairness and human decency and I think Ludo is a hundred percent right

To raise these questions but but I want to be clear minting billionaires and private equity is not the cause of inequality it is the consequence of it stopping it by blunting incentives will not bring about a more just world

Instead we have to address the causes of inequality not the consequences if we want to change them if we want a more fair and more just world we should not work to slow the pace of disruption we should not block the incentives of those

Who are empowered to bring it about we should go about we should work to make it more inclusive rather than bought their incentives the incentives of those who have created great wealth as a car of ushering in great change let's make

Those incentives available to a much broader set of people let's attack the unfairness that Ludo is implicitly calling out by making the PE community more open to historically underrepresented groups women people of

Color members of the LGBT community heck for that matter people who don't have the Ivy League or Oxbridge stamp of approval I think if we do that instead of destroying the incentives that have created billions of dollars in wealth

For society let's apply those very same incentives much more broadly so that this capitalism on steroids model that private equity offers can be applied to an even broader set of economic problems we know that people invest in that which

Looks like them so if we can spread this model much more broadly I think we'll get much more systemic change thank you David I think I'm not asking what David vote for and you can easily guess where I am

From my counter you I think fundamentally the some people have a view but there is a pie out there but can just like magically grow and there's some people who make it there like this wealth creator but just make the pie

Bigger and so then you you know you forgive that means I guess a matter of a pie can be bigger and even if there's some problems in the pond even either like some inequalities or things I guess okay because the pie can grow bigger and

Then the people who don't have much money would get a bit more and so it what your cool I hope I don't fireflies too much but but but there is this view out there my view is that it is probably some of that but but the pies is in my

View quite fixed and and so we need to fix the pie it's not like growth can just go on forever resources enough and limited when the company's revenue grows it came at the expense of some of the things many people got more stressed out

There might have been some people in other companies that have been sexted they can be you know incidents on the environment and cetera so I don't think like this magic growth and if we all have bad mood or be happier I think

And but that's not something that has been settled I think it's a very important research question that we really need to think harder about we tend to think in impartial equilibrium as we say in economics about if

Something is growing the defendants like magic it didn't come at the expense of anything else I I think we will have to carefully think about that these money but that's being transferred to his people didn't come from the sky from

Something that they had generated so you know it it makes it okay I did I miss misquote you David because I see what you're moving wait may I have may have 15 seconds to make it smaller than the minimal than 15 seconds I don't believe

The pie grows magically I believe it grows through hard work and the way you get hard work is by giving strong incentives that's all this is obviously a debate that will go on for a really really long time but I think that the

More we talk about this the more we reach agreement on how to do better going forward Chris Lord Chris flawed as I mentioned earlier is Financial Times a person who has covered this industry extensively

And this topic so I'm curious to hear Chris flood your perspectives having listened to Ludo and David and also based on your own work oh thank you very much thank you so I'm a reporter on Ft FM which is the fund

Management section of the Financial Times a no role is to find the most compelling investment management related stories globally professor Ludovic has helped me with at least 20 articles and have been some of the most interesting

And best read stories I've written during my 10 years on the FT FM team and it makes aphasia a rumor that I've never actually met the division person and we had established a productive remotes working relationship before such

Arrangements became necessary due to coronavirus so um I'm hugely grateful to his help his insights as inspiration but investors across the world or a real debt of gratitude to Allah Davich as

He's done more than n more than anyone that I can think of to challenge the myths that the PE industry has so carefully constructed for itself his work should encourage all investors to take a much more rigorous look at the

Role of private equity in their portfolios one of the fundamental questions raised by the VIX analysis is whether investors are being treated fairly by private equity managers now an answer to that question would not be

Complete without anyone taking a look at the risk warning that was published by the US regulator the Securities and Exchange Commission earlier this month with a very direct instruction to private equity equity managers to

Improve standards the SEC very clearly says that the private equity industry is feeling in its fiduciary duty to its investors it provides a lengthy I poppin catalogue of serious problems including investors being overcharged for fees and

Managers feeling to deal with multiple conflicts of interests and is essential to remember of course that the these costs are ultimately paid from the pockets of ordinary retail investors I look back through the stories that

Living has helped me with and one of the first issues he drew my attention to in 2015 is the extraordinary fact that most US public pension plans have no record of how much they have paid in carried interest and performance fees to private

Equity manager stretching back over decades this is an appalling failure of governance and it remains unresolved that have a estimated that the largest private public pension fund CalPERS had failed to disclose over a period of 25

Years had paid at least 5 billion and carried interest to private equity managers and that revelation when it was reported that in the ft led to a change of the law in California we're by public pension fund managers

Are never required to provide details of all payments to private equity managers CalPERS had to build an entire new reporting system to comply with these rules it eventually admitted they paid 39 billion and carried interest and

That this was an incomplete figure as some managers had simply refused to disclose how much they had been paid by CalPERS as explodes the myth that the private equity industries clients are sophisticated investors sophisticated

You understand every detail of the contracts they cite it also further emphasizes the fact that the transparency and disclosure standards of the P industry are wholly inadequate and in need of serious reform we all know

The problems with IRR and it's difficult to know if other performance measures are also being reported fairly well it stirs watson the world's largest advisor to pension funds is able to demand the private equity managers provide details

Of fund cash flows but this information is not in the public domain and private equity managers are determined to keep it that way change surely has to come because the US government has just provided permission

For personal public pension or pension plans 401k plans to invest in P there is simply no way the ordinary retail investors are going to be able to understand the performance metrics are used by the private equity industry and

This will eventually lead to a miss miss selling scandal asset managers are supposed to help as asset managers are supposed to help allocate capital efficiently professor Robinson argues private equity helps to make companies

Better PE is the only part of the investment industry that directly causes companies to collapse there's a growing list of companies that have been acquired for billions of dollars by private equity managers which have

Collapsed mainly because GPS load them with unsustainable debt but levels of debt but not before lining their own pockets with dividends even the most aggressive short sellers amongst hedge funds are rarely able to call cause the

Collapse of any company that they target but this is a routine feature of the private equity industry it raises serious questions of GPS expertise as corporate stewards and their relationship with the wider

Community of stakeholders in companies they control including employees pension beneficiaries and suppliers just very quickly every during this current crisis every PE manager has maxed out the credit lanes the subscription facilities

And the L / the mean Association representing investors I just issued another appeal for GPS to provide report proper reporting about subscription lanes which of course are paid for by investors this again highlights the need

For changes in behavior big p/e managers have lobbied very hard in Washington for their companies to be given access to be like funds organized by the US government they're given new reassurances in return that they will

Attempt to treat more investors more fairly and the top executives we need another session to cover many of the issues that you have raised so because we're almost coming to the hour and I would like to be able to close and talk

About the next session so can I give you another 15 seconds just just say and were in in return for the government assistance that the top executives have not provided any promises they will scale back their efforts to enrich

Themselves and just to conclude from late I think investors again across the world o had all the thanks to Ludovic for the work he's done and they really should come together to provide new funding to Oxford University say

Business school so we can own in assemble an entire team of researchers to continue his invaluable investigations and to be he thanks Chris flood this has been an amazing conversation with a lot of passionate

Arguments I've heard tough love minted billionaires for the collective benefit of society governance benchmarks measurements skill and luck financial engineering of Bristol engineering but this is such an important topic and I

Think the value of a good conversation is that you still want to continue conversation but I have to close here so let me start by saying that there were a lot of questions excellent questions that participants had for the

Protagonists so let me start by suggesting the David and Ludo that you plan to answer these questions and that we should probably post them online so that the community can hear and your responses to these questions only if we

Have an incentive thing that I thought you know we've done very good negotiations before so let's let's negotiate and good answer the love of society is what I will pay you and what do you what you measure indeed matters

And this paper and the debates in my view has helped us better understand this industry it's given us valuable insights so let me first say a sincere appreciation to our two protagonists professor Ludo offside Business School

University of Oxford and Professor David Robinson professor of finance at Duke University your debate has enabled a better understanding of the economics behind fees carried interests the issues around the PE industry I am grateful a

Chris flood for the perspectives that you've added additional areas that we need to come debate including the governance around pension funds endowments and the like let me also just say a big thank you to all of you who

Have joined on various platforms Facebook YouTube Twitter LinkedIn and and and via our website at side Business School University of Oxford let me also use this opportunity to give you the details of the next edition of our

Leadership in extraordinary times series it will take place on Thursday 2nd July from 12:00 noon to pm British Standard Time it will be a conversation between our Dean Professor Peter Tufano distinguished

Guests mr Moy brahim who as many of you know is founder of cell tell a disruptor for the telecoms industry and more and also the founder of the movie brahim foundation that is focused on governance also professor Walley a day by Willey

Professor of race relations and director of the Oxford Africa Studies Centre the three of them will be discussing the topic putting governance at the center of Africa's development remember you can access recordings of all editions there

Say business schools website and its YouTube channel this conversation has to continue because it's such an important topic for society thank you all for joining us today and I look forward to you joining us from 12:00 noon to 1:00

Pm on Thursday second July

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