In trying to raise capital today, general partners are finding it increasingly difficult to appease both large and small investors alike.  

For the largest institutional investors, the commingled fund is currently the persona non grata of the investment model universe, with preference instead going to separate accounts and club deals. It’s a trend that has been repeatedly reported on, and was last month amply demonstrated when the C$124 billion (€97.5 million; $119.5 million) Canada Pension Public Investment Board invested roughly $170 million in a fund with Australian logistics developer Goodman Group in order to take advantage of Australia’s industrial sector.

But as the industry knows only too well, not everyone can invest several hundred million dollars in a single separate account. For those with less heft in the investment community, the commingled vehicle remains the most relevant tool for accessing the best US – and global – real estate managers and opportunities.


Zoe Hughes 

Some GPs, though, are keen to marry the two strategies, by trying to raise parallel separate accounts and commingled funds, which invest in exactly the same deals.

By running the two investment vehicles side-by-side the GP is able to accommodate the wishes of its largest investor by giving them greater control over their investment in a separate account-structure, at the same time as providing smaller LPs the opportunity to aggregate their capital to take advantage of current distress. By targeting the same investments, the GP is able to pool two sets of capital against one opportunity set and keep investors happy in the structure of their choice.

That’s the thinking anyway – and at this stage it remains just that, thinking. According to a number of law firms PERE has spoken to about the issue, the reality of running parallel separate accounts and commingled funds could become quite “messy” for all involved.

One particular concern would be over the control rights awarded to a large investor in a separate account compared to LPs in a commingled vehicle. In a separate account, investment managers typically need investor approval before acquiring, disposing and even implementing major operating decisions. In a commingled fund, the GP has discretion. 

457.gifIn trying to overcome the problem of alignment of interest issues among LPs inside a commingled fund, GPs are in danger of recreating the issue on a bigger scale by developing parallel separate accounts and commingled funds.458.gif 

However, if both pools of capital invest jointly in a deal, what happens if the separate account investor later rejects a specific plan of action – such as the need for additional equity in an asset owing to unforeseen circumstances – by the GP? What happens if the separate account investor restricts the amount of leverage applied to its share of the deal? And – in a worst case scenario – what happens if a separate account investor decides to enact its GP removal rights in a deal or portfolio that is also jointly owned by the commingled fund? 

In trying to overcome the problem of alignment of interest issues among LPs inside a commingled fund, GPs are in danger of recreating the issue on a bigger scale by developing parallel separate accounts and commingled funds. After all, is the commingled fund expected to bow down to the rights (or refusals) of the separate account investor, or will the rights of the separate account be curtailed to match those of commingled fund LPs?

Thankfully, the issue is currently just an academic one. Sources accept that while the topic is being seriously debated by GPs, it has yet to emerge in practice, principally owing to the conflicts of interest issues it raises and the “brain damage” involved in trying to overcome them. 

In trying to come up with increasingly innovative solutions to attract institutional investor capital though, GPs could be missing a trick. The commingled fund model, for all its perceived faults, provides a solid foundation in which LPs can invest in value-added and opportunistic real estate deals globally. 

By addressing those faults – and seriously negotiating terms and conditions with LPs – fund managers could help create a future private equity real estate fund model fit for the 2010s. And by setting in place a commingled fund model attractive to a majority of institutional investors, GPs might also win back the largest of the LPs as well.