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Hardman & Co

Pantheon International Analyst Q&A: NAV resilience through downturns (LON:PIN)

Pantheon International plc (LON:PIN) is the topic of conversation when Hardman and Co’s Analyst Mark Thomas caught up with DirectorsTalk for an exclusive interview.

Q1: You called your piece on Pantheon International ‘Returns, resilience and responsibility’, what can you tell us about it?

A1: The company’s investment objective is to maximise capital growth by investing in a diversified portfolio of private equity (PE) funds and directly in private companies. It gives investors liquid access to the whole, global PE market. In terms of returns, it has delivered 11.9% average annual NAV growth since it started back in 1987.

We believe PE-backed companies, on average, deliver superior growth to quoted ones, and PIP has a flexible mandate, and so can invest in the right parts of the PE market. It also gets significant scale, structured asset selection, market intelligence, team expertise, risk controls and other advantages from being part of the bigger Pantheon family. Its downturn resilience was proved again in 2020, and PIP grew its NAV every year through the 1990s’ recession.

PIP’s ESG (Environmental, Social and Governance) credentials are market-leading and well-established. Way back in 2007, Pantheon was one of the first PE signatories to the UN Principles for Responsible Investment, and Pantheon has served on UNPRI’s Private Equity Advisory Council since 2017.

Q2: So, can you tell us some more about how it earns those market-beating returns?

A2: To start with, we believe PE adds value compared with listed businesses. It does this by  fundamentally improving the businesses in which it invests, with improvements in strategic optionality, committed funding, operational improvements, arbitraging valuation opportunities and, critically, improving corporate governance.

On top of  this, PIP adds value by having a flexible mandate that can invest in the best bit of PE, and managing and selecting the underlying managers, geographies, vintages, and sector exposures.

So, it’s about being in an attractive market, and then picking the best bits of that market.

Q3: Why do you emphasise resilience, when many in the market will see PE as increasing gearing? Are they wrong?

A3: Yes – they are wrong. In our report, we highlight academic research that proves PE outperforms in downturns, and announcements by the listed PE businesses through COVID-19 prove it again. It is important to understand why this is the case.

The advantages of the PE market we outlined above are arguably even greater. We believe the critical factors are i) access to committed capital, ii) strategic optionality, iii) operational, financial, and strategic expertise, and iv) PE funds last at least 10 years.

If managers want to earn performance fees or launch new funds, they have to manage their portfolios well through the cycle. Recent changes (including Cov-lite documentation, diversity in funding, committed capital, increased communication and management information, and defensive positioning) mean the sector should also be more resilient than it was in the past.

In our note, we detail how PIP has further reduced risk with its manager and defensive sector selection, and with much lower gearing than any of its competitors. Proof can be seen in PIP’s NAV resilience through downturns.

Q4: And you highlight responsibility and ESG? How is PIP different?

A4: PE, as a market, has stronger employment growth than non-PE backed companies and, in a downturn, a greater company survival rate. It is not the slash-and-burn model that some associate it with. A core part of getting better returns is better governance of the business.

PIP has been at the forefront of ESG, and differs from its peers in i) doing it for a very long time, ii) its active engagement with ESG bodies – for example, serving on UNPRI’s Private Equity Advisory Council since 2017, iii) it actively manages its mangers, engaging with them, so that they then engage with the underlying companies, and iv) it uses technology to identify when underlying companies may be breaching ESG guidelines, and then manages with the managers to establish what has happened and why.

As you would expect, its own governance is very strong, with a visibly independent board, and is actively engaged in encouraging diversity. It isn’t just talking ESG; it is doing it.

Q5: So, what are the key risks?

A5: No investment is risk-free, but we believe it is important to understand which investments are real and which are driven by sentiment. Sentiment to the economic cycle is high, even if the actual sensitivity is less than that of listed businesses.

We believe there is adverse sentiment to illiquid and unquoted investments, even though Pantheon International has permanent capital and proven exit uplifts. Sentiment to the sustained discount could be an issue and, short term, there could be forex volatility. There is execution risk on investments, but we highlight PIP’s long-term track record.