Private equity performance is difficult to measure because the private equity industry does not publish comprehensive, accurate data in a standardized format as public markets do. Research in this area is possible through data collected and sold by data providers. Prior studies comparing private equity performance with public equity indexes present mixed results, showing similar, better, or worse performance among private equity funds, depending on the study.

Focusing specifically on large funds, the authors show that large buyout funds may perform better than smaller funds. Large funds outperformed the S&P 500 Index at a slightly greater frequency than small funds during their study period. In addition, ranking individual fund performance by quartile shows that large funds had a better average ranking, with less dispersion, than small funds. The large-fund average rank was 2.16; however, the bulk of alpha occurred in the first quartile. Large funds in the top two quartiles exhibited high consistency to place in those two quartiles with their immediate follow-up fund. During the last 10 years of the study, however, large funds as a whole had a quartile rank of 2.5, suggesting a reversion to the mean for large-fund performance.

Interestingly, large-fund managers with below-average returns were able to raise sizable assets on follow-up funds. The authors suggest several possible explanations for this finding: Large institutional investors perceive large, managed brand-name funds as more conservative investments, or they prefer managers experienced in making large-asset commitments. A long track record may diminish the perceived significance of very recent fund performance, or assets for the new fund may be committed before the performance of the current fund settles. Finally, large-fund families may simply have superior marketing budgets and sales channels.

Institutional investors, consultants, and other practitioners working with leveraged buyout (LBO) funds may benefit from this research by having a greater awareness of the relative performance of large versus small funds, as well as the qualitative reasons for the popularity of large funds.

Individual fund performance data, including cash calls and distributions, are from the Prequin database. Prequin maintains a database of 1,724 individual funds ranked by quartile performance for various vintage years using internal rate of return net of fees; it also provides names of underlying portfolio companies, so the data can be crosschecked. The authors’ two sample sets with full quarter-to-quarter cash flow data are from this database. The first sample consists of all 301 funds with full cash flow data available for vintage years 1994–2007; most funds in this time frame have sold their underlying holdings, so returns are less influenced by estimates of residual values of unsold companies. The sample is broken down into two subgroups: large funds, consisting of 61 funds managed by the 18 largest fund families, and small funds, consisting of 240 funds managed by smaller fund families. Additional analysis is done on a second sample of 98 buyout funds covering vintage years 1990–2016.

To compare fund performance with the S&P 500, the fund’s quarterly cash flows are aggregated and then discounted at the S&P 500 rate of return to calculate the public market equivalent (PME). A positive PME, net of fees, indicates that the fund returned more than the S&P 500. Consistency of quartile rankings is determined as the frequency of fund managers’ ranking in the top two quartiles to achieve a top two ranking in their consecutive follow-up fund.

Private equity is receiving increased attention among institutional investors, such as endowments and pensions, and these investors strive to better understand and enhance returns, even if for only a marginal impact. Private equity studies suffer from data limitations, however, including restricted data, limited independent corroboration of unsold portfolio company valuations provided by fund managers, survivorship bias, and benchmarking. Benchmarking against the S&P 500 may not be appropriate for LBO funds because the S&P 500’s high weighting to the technology sector may be inconsistent with LBO portfolio company characteristics of low growth and stable cash flow. A better benchmark may not be available, but readers should at least consider an illiquidity premium in addition to these other differences.

Because the bulk of alpha generated by LBO funds is in the first quartile of performance, further research is needed to examine the top-quartile performers in an effort to detect commonalities among these fund managers. In addition, because large-fund families have raised sizable follow-up funds after subpar performance, it might be interesting to examine the conditions present when a large fund is unable to raise large follow-up assets as well as the factors affecting small-fund managers’ ability to raise follow-up funds.