Altoona State Investment Board Solution

Altoona State Investment board: December 2008

                                                   Jiaqi Cao

1. Was this an offer worth considering?
2. How much would Altoona be giving up by accepting it? What would the cost of the term?

       The offer is very reasonable and attractive, it offered an opportunity for the investors to reduce its commitment for some reason, such as short-term liquidity, passive towards the recent  PE situation. More importantly, it aimed to solve the over-commitment problem between GP and LPs. It also help the GP to protect interests of the original over-commitment investors and continuing investors, as well as to solidify long-term relationships with investors. Thus, the offer is an rational option and worth considering.

       If Altoona accept the offer. The loss is straight forward and obviously:

• The management fee calculation basis is the same. The management fees would be based on the entire original amount committed. It means, reducing commitment won’t change Altoona’s paid management fee.
•  Altoona will forfeit 25 percent of the contribution, which would be share by other LPs, and get the 75 percent of the distributions that it would otherwise receive.
• Permira had its plan to invest in new promising companies. If Altoona reduce its commitment, it would constrain Permira’s available capital and investment activities to some extent, thus decreasing the overall performance of fund four.

       Though the offer is attractive and it would cost some loss, I recommend Altoona to accept the offer and reduce its commitment to 85 percent of it had original pledge. I list the reasons as follows:

• From 2007 to 2008, Permira experienced great success. It gained £5.8 billion from fund one to four totally, overweighting its new investment £5.3 billion. While the returns come from fund one to three, and the fund four took up large percentage of the new investment. It also showed fund four’s IRR is negative 29.9 percentage as of first two season. Thus, I don’t think thee new promising companies could reverse the situation largely.

• From the Exhibit 2, the gross amount raised surge in 2005 and began to decrease in 2007. The capitalization average return then showed the opposite trend in those years. It’s hard to predicted the trend in the future only from the chart. No one could make sure which stage the economic cycle was in: recession or depression. Thus, it’s hard to estimate fund four’s realization from macro-perspective. I think Altoona should keep a conservative strategy during the extraordinary industry-wide downward environment.

• Since the private equity proportion had grown from 5 percent to more than 8 percent due to the depreciation of public equity and hedge fund, Altoona should reduce its holding in private equity to rebalance the portfolio. The offer from Permira is a good timing.

• SVG still need to pay the £1.25 billion to Permira, but it had only £298 million in cash and £750 million undrawn credit line. SVG raised its capital through public equity and debt issues. Considering that debt would be issued at deep discount and SVG’s stock price was ¼ as it was 18 months ago, SVG has some problem to raise additional capital to fulfill the commitment. According to a VCExpercts, LP has 37 percent of probability to default the commitment. Thus, SVG, as well as other LPs, is likely to accept the offer. Therefore, fund four might face some capital shortage problem. The new continuing project would exert passive influence on overall returns. In order to prevent the uncertainty of returns, slightly reducing the commitment is a wise choice.

In conclusion, I think Atlaoona should capture this opportunity provided by GP, even if the offer was aimed to individual investors rather than institutions. Though Atloona suffer some losses to some extent, I recommend Atltoona accept the offer and reduce its commitment to 85 percent of its original committed with the four reasons I mentioned above.