After stepping back from private market buyouts more than ten years ago, New Zealand Super is re-entering the global arena with a commitment of around US$800 million.
The shift reflects a broader strategy by the NZ$83 billion fund to enhance international diversification, leverage specialist external managers, and integrate sustainability and ESG considerations into its private markets program.
It is poised to issue mandates to global buyout fund managers. While there will be an emphasis on sustainability and ESG, the fund’s mandates will set out clear commercial criteria.
“We are looking for the very best managers, and we are not going to make compromises on that,” Doug Bell, Director of Investment Strategy at NZ Super, says.
The buyout segment falls under the broader umbrella of private equity, which accounts for five per cent of the fund’s net asset value (across venture, growth and now buyout strategies). Bell told [i3] Insights that, over time and depending on performance, the allocation may grow as a percentage of the fund’s assets under management (AUM).
We’re essentially selling down the MSCI World Climate Paris Aligned Index to fund buyouts, so we want to deliver similar country and sector exposure – Doug Bell
“We’ve got budget allocated, and we are comfortable with the strategy,” Sian Orr, Portfolio Manager for External Investments (Private Markets) at NZ Super, says.
She adds, however, that there is no rush to deploy capital, noting it could take up to five years to be fully invested in buyouts.
Bell explains that buyouts were once part of the fund’s private equity portfolio in the past, but about a decade ago, the fund retreated from the asset class due to a shift in strategic direction.
“We decided to focus on fewer, deeper relationships and to have more direct investments, so buyouts were deemphasised at the time,” he says.
However, NZ Super has continued to maintain a “holding slot for buyouts,” says Orr. “It remains a part of our risk allocation.”
Reintroducing Buyout Strategies in the Portfolio
Four years ago, the fund undertook a strategic review of its private market exposure, which included real assets, growth assets, venture capital, and private equity. Bell credits the arrival of Stephen Gilmore – who joined from the Future Fund as Chief Investment Officer – for bringing a “breath of fresh air” to NZ Super’s investment approach.
Gilmore was more positive about external managers than the prevailing in-house view at the time.
“He was more receptive to using external managers across a range of strategies. Fast forward a few years, and we launched a venture [capital] program, repurposed our growth equity program, and became much more active in real estate and infrastructure via external managers,” says Bell.
“Then we looked at buyouts. It was unusual, we didn’t have the asset class in our portfolio. So, we revisited it, and this time we had the benefit of more deal-level data and a wider range of sources. We concluded that there is value to be added from buyouts to our active portfolio.”
The strategy will be different from the past. The fund will invest in the global buyout market through fund-of-funds, a departure from its earlier focus on domestic companies.
Like all of NZ Super’s active investment strategies, these investments will be funded by selling equities held in the fund’s passive portfolio, which tracks the MSCI World Climate Paris Aligned Index and the MSCI Emerging Markets Climate Paris Aligned Index.
Bell says the buyout asset selection will mirror the sectors and markets represented in those indices.
We also want to integrate sustainability into our investments, and Europe offers more opportunities in that space. In general the managers there are just more advanced in that area, so we will have a reasonably sizeable exposure to Europe – Sian Orr
“We’re going to be sector- and country-aware as we construct the portfolio. Bear in mind, we’re essentially selling down the MSCI World Climate Paris Aligned Index to fund buyouts, so we want to deliver similar country and sector exposure,” he says.
“But at this stage, we’re not looking to add value by selecting specific sectors. Instead, we’re seeking to add value by picking the best managers and getting broad exposure.”
Naturally, given that the US is the deepest and most liquid market, it will be a key destination. However, Bell notes, “We’re mindful that it’s quite easy to be drawn into one market like the US and end up with a very large exposure there. We want to be much more balanced in how we gain that exposure.”
“We also want to integrate sustainability into our investments, and Europe offers more opportunities in that space. In general the managers there are just more advanced in that area, so we will have a reasonably sizeable exposure to Europe,” adds Orr.
Selecting External Fund Managers
Unlike large-cap companies, which tend to have high leverage and can face difficulties with exits, Bell says that with medium-sized businesses – those with enterprise values of US$25 million to US$250 million in the lower mid-market – there are many more exit options.
On return expectations, he says: “Our funding cost is a blend of equities and bonds for most things we do. We also have a hurdle component because we want to be compensated for illiquidity. We expect a clearance over the hurdle of a few hundred basis points. Where exactly that lands, we’ll find out over time. We’ll review performance periodically, and that will feed into our risk budgeting process.”
Over the past four years, the team has spoken to GPs (fund managers) and LPs (limited partners) to better understand the global buyout landscape. From these conversations, both Bell and Orr say their team has developed a stronger understanding of “the value creation thesis and the manager landscape,” primarily across the US and Europe.
We’ve decided that the bulk of the allocation will go through fund managers because we don’t have boots on the ground in overseas markets – Sian Orr
Manager selection is critical, as value is expected to come from the managers’ ability to drive operational improvements and grow the revenues of the companies they invest in. NZ Super looks for managers with a strong track record of success and well-defined exit strategies.
“We’ve decided that the bulk of the allocation will go through fund managers because we don’t have boots on the ground in overseas markets. We know it’s very hard to originate deals or manager relationships if you’re not based in the market,” says Orr.
NZ Super will invest through a mix of primary buyout funds and fund-of-funds as well as secondaries funds at least in the early years of the program, which is currently seen as offering “quite a bit of opportunity.”
The fund will consider co-investments when opportunities arise, but will not jump in aggressively from day one, preferring to build its capability gradually.
Although buyouts are currently the priority, the private markets team continues to manage its portfolio of venture capital and growth assets, now with a stronger international emphasis.
In what Bell describes as “levelling the playing field,” NZ Super will now pursue global opportunities in growth assets. “Everything we do domestically has to stack up against what we could do overseas.”
The fund has repurposed its investments in growth equities and believes the better approach going forward is to invest via external managers rather than directly. It has also folded the NZ growth opportunity into the international portfolio.
On venture capital, the fund maintains a “US-only strategy.” Venture capital is relatively new for NZ Super, it launched in 2021, and the fund is not in a hurry to increase its allocation.
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[i3] Insights is the official educational bulletin of the Investment Innovation Institute [i3]. It covers major trends and innovations in institutional investing, providing independent and thought-provoking content about pension funds, insurance companies and sovereign wealth funds across the globe.