Do Private Equity Managers Earn Their Fees? Compensation, Ownership, and Cash Flow Performance
We study the relation between compensation practices, incentives, and performance in private equity using new data that connect ownership structures, management contracts, and quarterly cash flows for a large sample of buyout and venture capital funds from 1984-2010. Although many critics of private equity argue that PE firms earn excessive compensation and have muted performance incentives, we find no evidence that higher compensation or lower managerial ownership are associated with worse net-of-fee performance, in stark contrast to other asset management settings. Instead, compensation is largely unrelated to net-of-fee cash flow performance. Nevertheless, market conditions during fundraising are an important driver of compensation, as pay rises and shifts to fixed components during fundraising booms. In addition, the behavior of distributions around contractual triggers for fees and carried interest is consistent with an underlying agency conflict between investors and general partners. Our evidence is most consistent with an equilibrium in which compensation terms reflect agency concerns and the productivity of manager skills, and in which managers with higher compensation earn back their pay by delivering higher gross performance.
We thank Dan Bergstresser, Harry DeAngelo, Steve Kaplan, Anna Kovner, Josh Lerner, Andrew Metrick, Oguzhan Ozbas, Ludovic Phalippou, Antoinette Schoar, Per Strömberg, René Stulz, Mike Weisbach, and seminar and conference participants at Baylor University, UC San Diego, AFA 2012 Annual Meeting, Duke/Kaufmann Entrepreneurial Finance Conference, and Kaufmann/RCFS Entrepreneurial Finance and Innovation Conference for helpful comments and discussions. This paper, along with a companion paper entitled "Cyclicality, Performance Measurement, and Cash Flow Liquidity in Private Equity", supersedes the paper that previously circulated under the title "Private Equity in the 21st Century: Cash Flows, Performance, and Contract Terms from 1984-2010". The views expressed herein are those of the authors and do not necessarily reflect the views of the National Bureau of Economic Research.
David T. Robinson & Berk A. Sensoy, 2013. "Do Private Equity Fund Managers Earn Their Fees? Compensation, Ownership, and Cash Flow Performance," Review of Financial Studies, vol 26(11), pages 2760-2797.