School Employees Retirement System of Ohio will ramp up its private equity allocation to at least 12.5 percent, up from the current target of 10 percent, to benefit from the asset class’s higher returns in a low-return environment.
The $14.46 billion pension system plans to increase its focus on co-investments and avoid venture capital in fiscal 2020, according to October board meeting documents.
Buyouts, which includes small/mid-cap and mega/large buyout funds, comprises 75 percent of Ohio SERS’ $1.42 billion private equity portfolio. Special situations makes up 21 percent of the portfolio, while venture capital accounts for just 4 percent.
“The portfolio is tilted toward buyout investments and does not have a target allocation to venture capital due to higher risk and manager selection issues,” the system states in its Annual Investment Plan for fiscal 2020. “Within buyouts the preference is for small and middle-market managers with a significant value creation approach and away from larger firms with a financial engineering approach.”
Small and mid-cap buyout funds account for 75 percent of the $1.12 billion buyouts portfolio and drove the alpha returns for the private equity portfolio, Chief Investment Officer Farouki Majeed told Private Equity International, a VCJ sister publication.
The pension system re-upped $192 million across four funds in fiscal 2019, including a $7 million co-investment with Freeman Spogli’s FS Equity VII fund in CRH Healthcare, an urgent care center platform in the southeast United States.
The commitments were based on portfolio fit, performance of the funds, the people leading the funds and the process of the funds, and Ohio SERS has been unafraid to decline re-ups if these criteria were not met. It has declined re-ups with nine managers in the last three years, Majeed said.
Ohio SERS reviewed more than 100 opportunities and met with several new managers this year, none of whom met SERS’ investment criteria and return expectations, according to its annual investment plan for fiscal 2020.
The pension system added two co-investments this year, bringing up its total co-investments to four as of October. The allocation to co-investments increased from 1 percent at the end of 2018 to roughly 2.5 percent, or $36 million, as of October, Majeed said. The portfolio generated an internal rate of return of 16 percent as of 30 June.
Ohio SERS’ most recent co-investment commitment was $10 million to Francisco Partners V – Prince Co-investment Fund.
The pension system has sought fee reductions through discounts for early investors, co-investments and large investor discounts, and the fees it pays its managers have stabilized at an average of 1.5 percent, according to October meeting documents. The average management fee for the four re-ups and one co-investment in fiscal 2019 was 1.2 percent, the annual investment plan said.
Buyouts returned 18.86 percent over one year, 19.92 percent over three years, 19.61 percent over five years and 17.86 percent over 10 years as of June 30, according to October meeting documents.