Board Governance Considerations in Private Market Investments
Private equity, private debt – private markets are absolutely the flavour of the day. Yet, despite the headlines and eye-catching numbers, very little discussion is taking place about governance in this context.
In this podcast, Dr Sabine Dembkowski, Founder and Managing Partner, is joined by Dr Eelco Fiole. He has more than 30 years of international finance experience, including two decades as Non-Executive Director, CFO, and CEO in alternative investments with teams in Zurich, London, New York, and Singapore. He also holds more than eight advanced degrees and is a true polymath with a special gift for investment governance.
“Private market investing comes with a lot of issues.”
Eelco reports that over the next five years, private markets are expected to double to $30 trillion USD. At the same time, there is significant democratisation in private markets. Individuals now invest alongside traditional institutions. Yet serious issues remain, including complex structures, valuation challenges, opacity, layers of leverage, and enormous asymmetries of information.
“Governance is work, and when that work is being done, trust also develops.”
To Eelco, governance is a key factor in creating trust for LPs and GPs. Both must contribute to building a solid governance framework.
For LPs, remember that greed is not a strategy. Instead, use governance structures as a filtering tool to address issues with valuations, transparency, conflicts of interest, and so on. Let the structures monitor long-term interests, enforce transparency, and offer downside protection.
For GPs, good governance helps attract capital. Others may rely on brand names, personal reputation, or history. However, to Eelco, the smartest GPs use well-structured governance agreements to differentiate themselves, back up big promises, and showcase how they plan to protect investors.
“It’s all about incentives.”
In Eelco’s experience, many trust-based issues can be resolved by examining the incentives at play. Who is getting paid, when are they being paid, and how are those payments structured? Following the money and understanding who benefits in various scenarios is key to effective governance.
On a practical level, this means building desired behaviours into the documentation. Eelco recommends adding discussion time to meeting agendas, doing scenario analysis, and creating oversight structures to ensure board members are apprised of an investment’s performance over time.
“Every investment is situational.”
Eelco feels every investment has its own unique characteristics. As a result, “off the shelf” legal documents may not be sufficient. Custom-crafted or heavily adapted documents that cover the legal and economic variations of the investment, investment team, and market are key.
The same is true for individuals who want a seat at the table. Private markets are highly specialised and nuanced. Only individuals who can add value in specific ways will be welcomed.
“If I cannot have proper representation of the interest, then I’m not going to do it.”
Eelco sees many cases where things go wrong, where highly concentrated investors are excluded, or where LP committees have no power. He is not calling for regulators to step in, but for boards to thoughtfully use governance structures to create checks and balances that support the business’s and the investment’s flourishing.
The top three takeaways from our conversation for effective boards are:
- Governance is work.
- For GPs, understand the mechanics of trust and its role in attracting capital.
- Standard legal documentation is not enough. You must build in your own situationally appropriate models into the agreements.
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