“You can’t see how a fund actually performs at the end of 10 years, so you’re worth the companies in that fund according to general partner,” said Eileen Appelbaum, co-director of the fund. Center for Economic and Policy Research, who has written extensively on private equity.
Longtime critics such as Ms Appelbaum and Mr Falipo say the specific method used to report results to investors, known as the internal rate of return, or IRR, is too easily played out.
“It is certainly highly misleading, said Mr. Falipo.
But, Ms Appelbaum said, “people with private equity love it.” For example, she said, if a 10-year private equity fund buys 10 companies, and decides to sell the best company early, the IRR looks great.
“You got a lot of money when you sold it, so you have a very high rate of return,” she said. This is because the IRR assumes that by the time the fund is liquidated, the profit from that sale can be reinvested at the same higher rate.
The IRR method may be why some funds look better in their early years, especially if they have borrowed money to add to the investments — a growing trend. Cambridge Associates, an investment and advisory firm, estimates that such borrowings, which are basically short-term loans called subscription lines, can boost returns by up to three percentage points.
The Blackstone Total Alternative Solutions Fund, which includes buyout, credit, real estate and growth strategies, provides an interesting snapshot. BTAS 2014, the first fund in the series, had a net IRR of 7.7 percent as of March, after calling for 84 percent of its investor capital, according to internal marketing documents reviewed by The New York Times. But BTAS V, which was launched in January 2019 and held only 51 per cent of its capital, showed a much higher net IRR – 42.9 per cent.
A Blackstone spokesperson said these performance numbers were “cherry-picked and misleading figures for our BTAS program, which has delivered a 16 percent net return since its inception in 2014.”