In September, the British Business Bank and management consultancy Oliver Wyman published a study analysing how defined contribution (DC) pension schemes may – and should – increase their allocation to venture capital and growth equity investments. The study notes the increase in size of this pool of capital generally as a result of automatic enrolment, which was introduced in 2012, and concludes that, based on historic performance, an allocation to the asset class would be beneficial to these pension schemes. It suggests that access for smaller schemes should be through fund-of-fund vehicles specifically designed for the purpose, suggesting that either investment trusts or unlisted open-ended funds would be suitable and encouraging existing asset managers to consider setting up such structures.
One of the major challenges highlighted by the report is the level of fees currently associated with investment in this asset class, which, for justifiable reasons, are higher than the assets classes that this type of scheme would usually invest in (for example, passive liquid equities). As DC schemes are currently constrained in the amount that they can spend on investment and administration – both by commercial considerations and by a regulatory 75 basis point cap on the total charges attributable to an individual member in the fund –the traditional 2% fee on committed capital during the investment period (and 20% carry above an 8% hurdle with catch-up), may be a bar to investment and encourage managers to consider alternative DC-friendly fee structures if they want to attract significant investment from this sector.
Osborne Clarke comment:
While generally a positive move towards encouraging more pension fund investment in the sector, the report’s comments on the commercial and regulatory constraints on fees and carried interest that DC schemes can bear will be a significant issue for many venture and growth managers when attracting this type of investment. Economies of scale at this end of the market mean there is generally less room for lowering management fees than there would be, for example, in the multi-billion pound buy-out funds.