THE SCHIEHALLION FUND

ordinary shares, the fund issued an additional C share offering in April to raise a further US$700m for new investments, to be merged with the ordinary shares on a NAV-for-NAV (Net Asset Value) basis once substantially deployed. Net assets for the ordinary shares stood at US$810.7m at the last reported date of 31st July, with net assets for the C shares at US$698.3m.

The fund focuses predominantly on companies that are at the cutting edge of technology and innovation, driving the longterm growth opportunities desired by private equity investors. In terms of holdings, the fund’s largest holding at 10.2% of the portfolio is Affirm, a financial technology company which went public on the NASDAQ exchange in January earlier this year. Affirm was founded in 2012 by Max Levchin, co-founder of PayPal, and offers instalment loans for consumers to use at the point of sale to finance a purchase. Since its launch, the company has partnered with the likes of Walmart, Spotify, Peleton and countless others, and has share price growth of around 29% since its floatation.

Another of the largest holdings is Chinese tech giant ByteDance, owner of TikTok, the social media company taking the world by storm. The company remains privatelyowned despite numerous rumours of a public listing and is estimated to be worth upwards of US$250bn after doubling its year-on-year revenue to a staggering US$34bn during 2020. Furthermore, the company appears to be separating itself from the turbulent waters of government regulation by keeping on good terms with the Chinese Communist Party (CCP). ByteDance has been working in accordance with the CCP and its wishes to avoid mistakes made by the likes of ride-hailing app Didi Chuxing and technology giant Tencent holdings, which have been on the receiving end of fines and bans for various violations.

Furthermore, standing at 5% of the portfolio is Elon Musk’s SpaceX, the space exploration company founded with a primary goal of reducing space transportation costs to enable the colonisation of Mars. After soaring into the new era space race, the company has become the first commercial spacecraft to deliver cargo to and from the international space station, and in 2020 was the first to take humans there as well. Based on the most recent US$850m funding round in March, the company was valued at US$74bn.

On the whole, the Schiehallion fund offers investors a unique proposition to access some of the most exciting pre-IPO companies in the world, at a cost of 0.9% of Net Asset Value, lower than any comparable fund in the space. The team at Baillie Gifford are extremely well placed to operate effectively with in the private company space; the asset manager has proved through its long-term positions in Jack Ma’s Alibaba leading to a referral for private investment in Ant Group, and likewise with Elon Musk and Tesla leading to a private investment into Space X. One of the most sought-after investment vehicles in the space, press coverage surrounding the fund has been kept to a minimum, a tell-tale sign of more than enough demand for shares without requiring much advertisement. The fund has performed extremely well over the last year, returning 91%, and is well placed to capture much of the future growth opportunities often unavailable to most investors. While previous performance is no indicator of future growth, many aspects of this fund point to a very attractive growth opportunity, and it is likely that we are nowhere near the share price summit.

“On the whole, the

Schiehallion fund offers investors a unique proposition to access some of the most exciting pre-IPO companies in the world, at a cost of 0.9% of Net

Asset Value, lower than any comparable fund in the space... The fund has performed extremely well over the last year, returning 91%, and is well placed to capture much of the future growth opportunities often unavailable to most investors. “

HOW CAN I INVEST IN PRIVATE EQUITY?

BEN PICKETT | INVESTMENT RESEARCH

Private equity is a buzz term for investors. It is an increasingly popular asset class often touted as a vehicle for high returns, though admittedly it comes with higher risks. We look at the ways investors can gain exposure to the trend, how they work, and assess their merits, namely Primary Investment, Secondary Investment, and Direct Co-investment.

PRIMARY INVESTMENT Primary investment, or fund of funds (FOFs), is investing in a private markets fund as capital is being raised, which then deploys its capital in a portfolio of primary fund investments. Such a route offers investors access to many private equity (PE) managers and a variety of private companies through a single investment. Naturally, this provides diversification benefits, reducing risk and volatility by minimising the impact of any one investment going wrong. Small investors benefit from being able to access this range of opportunities as it pools their funds, since private markets usually only take large lump sums seriously. FOFs have their own investment teams who perform their own due diligence, which in theory means that the underlying funds should be sound.

However, investors invest in private equity to achieve higher returns. Work by Cliffwater research has shown that, net of fees, private equity doesn’t outperform the markets on aggregate. Evidently, some PE funds have performed exceptionally, showing that the asset class can provide best-in-class performance, as long as you invest your money in the right fund. This aggregate figure reveals that there are many underperforming managers. If investing in PE it is all about picking the right investment house, it makes little sense to spread your bets widely with a large group of investment houses you don’t get to choose. It’s better to find a few that you hold conviction in and, as always, understand. In diversified portfolios, PE is usually the aggressive, return- boosting component, and FOFs risk overdiversifying this section from performing its function.

FOFs also suffer from higher expense ratios than other funds through two layers of fees – its own fees to pay its team, and the fees of the funds it invests in – which are corrosive to returns. The key argument of diversification is also misleading, as the breadth of funds FOFs invest in make it likely that multiple funds are invested in the same company. This is not necessarily negative, as it counters the over-diversification criticisms, but knowing this information is central to managing risk, and the FOF structure is very opaque, making risk management hard. Opacity is a common criticism of PE, as it gives a stronger focus on ‘star managers’ and allows funds to charge higher fees.

SECONDARY INVESTMENTS Secondary investments are where a buyer purchases existing private equity. Sellers are often other PE vehicles looking to reduce exposure to a region or business growth stage, or release liquidity if not ready to fully exit the investment. As these deals enter at a later stage, they bear less risk and commensurately lower returns, though these are boosted by the fact that the deal is priced at a discount to its asset value – the seller effectively pays to exit earlier than expected and needs liquidity more than profits. When secondary investments come from other investors looking to reduce exposure, they also mean the buyer will gain less exposure than outright investment, meaning secondary focused funds tend to be more diversified. One of the key advantages of secondary funds is that there is limited ‘blind pool’ risk. This is where primary fund investors must part with their cash before they know what its managers will buy, which obscures predictions of performance and risk.

CO-INVESTMENT Lastly, direct co-investments are where PE funds pool together to make an initial investment in a private company, which is then paid in instalments, or ‘funding rounds’. This form of investment yields the most freedom to the fund, which can decide its exposure, craft complex deal structures and reduce risk by taking on other partners. This structure is useful when a PE firm has too many commitments to fully take up an opportunity, but still wishes to do so by bringing in another investor to plug the funding gap. Usually institutions, these investors can also be private individuals. There are more risks to these investors, who are a separate entity, partly due to the fact that they are responsible for analysing and negotiating on their own behalf, while the general partner will charge hidden fees. The main risk comes from the high risk of failure of the individual business since the co-investor has no diversification benefits in this deal.

In reality, PE funds are a mix of the three. It is crucial that investors know what they are buying to help understand the risks they face, especially when investing in an inherently riskier asset class. In deciding which mix is most appropriate for you, it is central to our investing philosophy that investment decisions should be made in the context of your personal goals and objectives.