Co-Investment

What Is A Co-Investment?

A co-investment involves an invitation extended by a fund manager or venture capital firm to an investor, offering an opportunity to invest in their primary or private fund associated with a specific underlying portfolio company. The primary goal is to provide investors with access to a potentially high-yielding investment portfolio, avoiding the high fees associated with private equity funds.

Co-investors gain ownership proportionate to their investment. These investments, typically smaller in scale, contribute to portfolio diversification and foster positive relationships with senior professionals in the private equity sector. For larger funds, co-investments reduce risk and enhance capital. Fund managers offer co-investment opportunities for various reasons, often centered around risk mitigation and diversification.

• Co-investment occurs when a fund management or venture capital firm extends an invitation to an investor, offering the opportunity to invest in their primary or private fund within a specific underlying portfolio company.
• Co-investment's primary objective is to enable individuals to access high-yield investment portfolios without incurring excessive fees associated with private equity funds. Additionally, co-investors gain ownership rights proportionate to their investment.
• Co-investment offers advantages to both investors and fund managers. Fund managers can retain regular incentive fees and management, fostering a beneficial relationship. Co-investors benefit from reduced fees compared to traditional private equity fund investments.

How Does Co-Investment Work?

Co-investment entails a direct minority investment alongside a private equity firm or financial sponsor within various transactions, such as recapitalizations, leveraged buyouts, or capital growth initiatives. This approach is favored by co-investors for its lower fees and its ability to enhance portfolio diversification. The opportunity for co-investment has grown substantially over the past decade as fund managers recognize its mutual advantages.

Co-investors do not channel their investments through co-investment private equity funds; rather, they invest alongside a private equity firm (PEF). Institutional investors leverage co-investment funds for equities co-investment. Throughout the investment's lifecycle, the PEF retains full control over portfolio company holdings. Co-investors, however, take a different route, investing directly in a single operational entity.

Establishing a co-investment vehicle involves distinct agreement structures. Over the last five years, limited partners (LPs) have notably increased their investment in co-investment opportunities, comprising up to 55%. The investment process typically follows these steps:

• Formation of a co-investment entity.
• Participation of co-investors in this entity.
• Investment of the co-investment entity in a holding or portfolio company.
• Creation of a co-investment vehicle.
• Addition of multiple co-investors to the vehicle for tax-related reasons if necessary.
• The co-invest vehicle usually holds a single investment, although fund managers and investors can agree upon exceptions.

Fund managers assume responsibility for both the main fund and the co-invest vehicle. To prevent conflicts, investments are bought and sold simultaneously and under the same terms for both entities. Co-investment vehicles may also benefit from the main fund due to agreements with fund managers.

Examples

Let us look into a few examples:

Example #1

AbCellera Biologics (ABCL.O) announced a substantial co-investment of C$701 million ($515.6 million) alongside the governments of Canada and British Columbia. The objective is to bolster the country's drug development, manufacturing, and clinical research capacities. AbCellera will invest C$401 million over the next eight years, while the Canadian and British Columbian governments will contribute C$225 million and C$75 million, respectively.

This collaborative initiative is anticipated to generate numerous skilled employment opportunities at AbCellera. Notably, the company has previously collaborated with Eli Lilly and Co (LLY.N) on antibody therapies, including for COVID-19. (Exchange rate: $1 = 1.3596 Canadian dollars).

Example #2

The real estate industry is undergoing rapid transformation accelerated by the COVID-19 crisis, influenced by technological advancements, ESG considerations, and changing lifestyles. Emerging investment trends show a shift towards climate-friendly assets like logistics and health care. Family offices are actively seeking distressed real estate opportunities. Family offices are embracing specialized real estate expertise, diversifying into alternative assets like student housing and data centers, and engaging in co-investment solutions.

These trends indicate a move from traditional blind pool fund investments to targeted direct allocations. Co-investment solutions offer transparency, control, and flexibility for adapting to market challenges. These solutions require professional investors' readiness to navigate complexity and regulatory requirements, enabling them to tap into the potential of specific real estate opportunities alongside experienced local managers.

Benefits

Co-investment offers a range of advantages for both investors and fund managers, as outlined below:

• Enhanced Flexibility for Private Equity Firms: Co-investment provides more flexibility in structuring and executing investment opportunities.
• Strengthened Investor-Manager Relations: Co-investment fosters a positive and collaborative relationship between investors and fund managers, promoting transparency and alignment of interests.
• Improved Risk-Sharing: Co-investing enables investors and fund managers to share the risks associated with investments, enhancing diversification and potentially reducing overall risk exposure.
• Increased Capital Deployment: Private equity firms can access additional capital for deploying across multiple investments instead of being limited to a single transaction.
• Informed Investment Decisions: Co-investors are motivated to conduct thorough due diligence, leading to more informed and well-considered investment decisions.
• Heightened Due Diligence Focus: Co-investing highlights the due diligence process, emphasizing rigorous assessment and analysis before committing to investments.
• Lower Fees: Co-investors benefit from reduced fees compared to traditional investments in private equity funds, enhancing overall returns.
• Growing Popularity: The allure of reduced risk, lower fees, and potentially higher returns has attracted a growing number of co-investors to collaborate with private equity firms.

Fund managers opt to offer co-investment opportunities to investors due to the following reasons:

• Additional Incentive for Investors: Co-investment opportunities provide investors with added investment options, allowing fund managers to retain regular incentives and management fees.
• Strengthened Relationships: Co-investments facilitate the development of robust, mutually beneficial relationships between fund managers and investors.

However, it's important to note that co-investment in real estate and national housing may not fall under the category of equity co-investment funds.

Co-Investment vs Joint Venture

Let us understand the difference between the two terms using the table below:

Co-Investment	Joint Venture
Fund managers oversee it.	Two companies collaborate for accelerated growth.
Investors access private equity at low/no fees.	Partners gain entry to new markets.
Executed via a co-invest vehicle.	Involves two distinct businesses partnering.
Offers portfolio diversification for investors.	Enhances capacity and capabilities of partners.
Fund managers receive regular incentives.	Risks and costs are shared between partners.
Provides low-risk, high-yield investment.	Differences (technology, culture, etc.) may hinder growth.

Frequently Asked Questions (FAQs)

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