Evergreen Private Funds: The Illusion of Simplicity

As a firm with a focus in the private markets over 15+ years, we have been able to watch the landscape of private funds evolve.

For decades, for investors fortunate enough to qualify, allocating to the private markets meant completing lengthy partnership subscription documents to make sizeable minimum capital commitments and waiting for an investment manager to issue capital calls for small portions of that commitment over several years. Only after the capital call period would an investor be fully invested. In some cases, managers would not fully call the capital commitment despite charging investors fees on the whole commitment while investments were being made.

A longstanding criticism of the “10-year” traditional partnership fund structure is that even if funds generate high rates of return, partnership investors must prepare to supply the entirety of their commitment, and thus, may hold funding dollars more conservatively as a result. Especially if funding reserves are kept in cash earning a lower return, the combined rate of return of the fund investment and reserves may be considerably lower than returns measured on the partnership alone.

In recent years, alternatives to the traditional partnership fund structure have emerged, primarily in private credit, and increasingly in private equity (“PE”). By using structures that operate perpetually and may even let investors periodically redeem, “evergreen” funds allow investors to invest at times and in amounts of their choosing, permitting purchases monthly or even daily. That flexibility enables faster capital deployment when compared to the time-honored commit, wait, and pay capital calls route.

However, cash contributed by fund investors must go somewhere. Otherwise, the challenge of cash drag on returns has simply shifted from the investor to the fund itself. Depending on the scope of a perpetual or “evergreen” private investment fund, the need for efficient deployment of cash contributions may have implications for its investment strategy.

For private equity, where I spend a meaningful portion of my time, efficient deployment in evergreen PE funds can involve acquiring existing interests in private companies from other investors, rather than waiting for new investment opportunities to arise. Since these “secondary” purchases of existing PE interests tend to transact at a discount to their manager-stated carrying values, and because accounting rules require purchasers to immediately mark them to net asset value, they can impact the timing of returns. Investors present before cash pours in, and secondaries are bought, may benefit, while investors arriving later may experience delayed returns.

Despite their seemingly straightforward nature, evergreen funds can be complex. While, in many cases, our firm has concluded that the positives of investing in specific evergreen funds outweigh any drawbacks, the decision will inevitably need to be revisited, given their perpetual nature. In other cases, a fund manager’s willingness to orchestrate returns using extreme allocations to secondaries or other tactics has led us to move on quickly. We look forward to seeing what further innovations arise and what liberties are taken as the evolution continues.

Cam Simonds