CLOSED SESSION MINUTES Meeting of the Investment Committee of the State Universities Retirement System June 8, 2017, 2:45 p.m. State Universities Retirement System Northern Trust Global Conference Center 1 st Floor 50 S. LaSalle St., Chicago, IL Upon motion by Trustee Craig McCrohon, second by Trustee Fred Giertz, and a unanimous roll call vote, the board of trustees went into closed session under the Open Meetings Act pursuant to 2(c)(7). The following trustees were present: Mr. Craig McCrohon, Chair; Mr. Aaron Ammons, Mr. Mark Cozzi, Mr. Tom Cross, Mr. Dennis Cullen, Dr. John Engstrom, Dr. Fred Giertz, Mr. Paul R.T. Johnson Jr., Ms. Dorinda Miller, Dr. Steven Rock and Mr. Antonio Vasquez. Others present: Mr. Martin Noven, Executive Director; Mr. Doug Wesley, Chief Investment Officer; Ms. Kimberly Pollitt, Mr. Joe Duncan and Mr. Shane Willoughby, Senior Investment Officers; Mr. Alex Ramos, Investment Officer; Mr. Doug Moseley and Mr. Kevin Leonard of NEPC; Ms. Kelly Carson, Executive Assistant; and Ms. Mary Pat Burns of Burke, Burns & Pinelli. PRIVATE EQUITY IMPLEMENTATION UPDATE Ms. Kimberly Pollitt presented the board with objectives and factors to determine the most cost effective way to build on the existing private equity portfolio. Ms. Pollitt discussed the evaluation process and compared the approaches of each. Pros and cons of the Off-the-Shelf Fund of Funds Model, Fund of One Model, Specialist Advisor/Consultant Approach, and Direct Investment Models were reviewed. Ms. Pollitt also discussed the fee reduction strategies noting a multi-year commitment strategy would reduce fees. Mr. Doug Moseley of NEPC also presented a pacing analysis of the SURS private equity portfolio. Discussion ensued regarding the proposed private equity funding plan, contractual agreements and the inclusion of a new provider. It was determined by the committee to have the newly proposed provider, Mesirow Financial, present to the board on the following day. It was noted that any motions would be tabled until the committee reconvenes.
A copy of SURS presentation titled Private Equity Implementation Discussion and NEPC s presentation titled Private Equity Performance are incorporated as part of these minutes as Exhibit 1 and Exhibit 2. RESUME TO OPEN SESSION Upon a motion by Trustee Giertz that was seconded by Trustee Steven Rock and carried, the Investment Committee resumed its meeting in open session. CLOSED SESSION Upon motion by Trustee McCrohon, second by Trustee Rock, and a unanimous roll call vote, the board of trustees went into closed session under the Open Meetings Act pursuant to 2(c)(7). Ms. Kimberly Pollitt, Mr. Joe Duncan, Mr. Shane Willoughby, Mr. Alex Ramos, Mr. Doug Moseley and Mr. Kevin Leonard were not in attendance of this portion of the closed session meeting. INVESTMENT CONSULTANT EVALUATION Mr. Doug Wesley provided the board with an overview of the survey conducted by members of the board and the investment staff in regards to the investment consultant, NEPC. Mr. Wesley reviewed the survey discussing comments, performance areas and addressing any board concerns. Discussion ensued on the topic of issuing an RFP for an investment consultant. RESUME TO OPEN SESSION Upon a motion by Trustee McCrohon that was seconded by Trustee Tom Cross and carried, the Investment Committee resumed its meeting in open session. Respectfully submitted, MMN; kc Mr. Martin Noven Secretary, Board of Trustees
Exhibit 1 Private Equity Implementation Discussion June 8, 2017
Exhibit 1 Objectives I. Determine the most cost effective way to build on the existing, diversified Private Equity portfolio II. Evaluate private equity implementation methods including: Off-the-Shelf Fund of Funds Separate Account Fund-of-Funds (sometimes called Fund of One) Specialist Advisor/Consultant Direct Investment Possible combinations of the above III. Important Factors I. Additional Transparency II. Reduced Costs
Exhibit 1 Proposed Private Equity Funding Plan NEPC conducted a pacing analysis of the SURS private equity portfolio Outcome of pacing analysis is a long-term plan to achieve/maintain the policy target (6%) by making commitments in each vintage year (funding plan): Calendar Year Commitment Amount 2017 $300 million 2018 $300 million 2019 $350 million 2020 $350 million 2021 $400 million
Exhibit 1 Implementation Options Off-the-Shelf Fund of Funds A fund-of-funds manager creates a portfolio of underlying funds, resulting in a single, diversified investment vehicle for a number of investors (commingled fund vehicle) Separate Account Fund of Funds (Fund of One) A fund of funds manager creates a customized portfolio of underlying funds, tailored to a single client s investment goals Specialist Advisor/Consultant A consultant specializing in private equity creates a customized portfolio of underlying funds Relationship can be discretionary (with advisor making the investment decisions) or non-discretionary (with the client making the investment decisions) Direct Investment DIY approach. Client uses internal expertise to create a diversified portfolio of funds Source: RVK, 2014
Exhibit 1 Continuum of Implementation Approaches Source: RVK, 2014
Exhibit 1 Evaluation Process Staff and Trustees Cross, Cullen and McCrohon met in person or held calls with several private equity providers over the past several months Fund of Funds providers: Adams Street Partners, Pantheon Ventures, HarbourVest Partners, Mesirow Financial Private Equity Non-Discretionary Private Equity Consultant: TorreyCove Discretionary Private Equity Consultant: Hamilton Lane Pros and cons of various approaches examined Possible solutions explored, including addition of a complementary manager
Exhibit 1 Comparison of Approaches Function Off-the-Shelf Fund of Funds Fund of One Sourcing Strong Strong Strategy Due Diligence Significant pipeline Significant pipeline Operational Due Diligence Custom Portfolio Construction Generally completed by FOF manager Focused on needs of fund Generally completed by FOF manager More customized to SURS needs Specialist Advisor/ Consultant Strong, but on a more limited universe More focused pipeline Variable Significant customization to SURS needs; however may end with Buyouts tilt Monitoring High level High level High level Cost Effectiveness Requires an additional FOF layer of fees; may be reduced by multiyear commitments Requires an additional FOF layer of fees; may be reduced by multiyear commitments Requires an additional Advisor fee but likely much lower than FOF fee Direct Investment Requires more staff resources Focused pipeline but requires additional staff resources Outsourced Closely aligned to SURS needs High level but requires more staff resources No additional manager or advisor fee; however management costs borne by SURS Hybrid approach of external sourcing and diligence and customized portfolio construction looks compelling
Exhibit 1 Off-the-Shelf Fund of Funds Model Fund of funds manager builds portfolio of underlying GP interests in commingled structure, which includes SURS and other investors Pros Simplest solution to implement Provides all services (sourcing, due diligence, legal, monitoring, workout) in one place Allows SURS to access prior partnership commitments in fund Cons Non-custom approach to portfolio construction Additional layer of fees although impact on SURS is diminished due to long history and scale with existing FOF managers May lead to over-diversification
Exhibit 1 Separate Account/Fund of One Model Fund of funds manager builds portfolio of underlying GP interests on SURS behalf Pros Simple solution to implement Allows some customization of portfolio construction Provides all services (sourcing, due diligence, legal, monitoring, workout) in one place Allows SURS to access prior partnership commitments in fund Cons Additional layer of fees although impact on SURS is diminished due to long history and scale with existing FOF managers May lead to over-diversification Potential effects from legislation could inhibit access to certain GPs
Exhibit 1 Specialist Advisor/Consultant Approach Advisor builds a diversified program of GP relationships on SURS behalf Pros Allows for customization in portfolio construction Allows for direct relationship between GPs and SURS staff Allows for potential independent sourcing of ODD, legal and monitoring Elimination of FOF manager fee although requires fee for consulting services (varies by level of service) Cons More complex Focused on primary buyouts May have to source certain exposures outside the primary relationship (i.e., venture capital exposure) More dependent upon consistent link between SURS staff and the provider Potential effects from legislation could inhibit access to certain GPs
Exhibit 1 Direct Investment Model Direct model moves sourcing, due diligence and monitoring to an internal team Pros Can be customized to SURS specific needs Avoids over-diversification Generally considered the least expensive way to build a large program Cons Requires build-up of internal staff with specialized private equity experience Potential staff turnover could be detrimental to SURS relationships with GPs Access to certain funds would be limited (e.g., venture capital) Potential effects from legislation could inhibit access to certain GPs
Exhibit 1 Observations Staffing issues and infrequent Board meetings/time would seem to preclude using the direct approach at this time The specialist advisor/consultant approach, while less expensive than the FOF approach, appears to be focused on primary investments, particularly buyouts Likely to result in meaningful underweight to venture capital, which could result in significant opportunity costs The return differential between the best and worst performing market segment is shown for individual vintage years from 1995 to 2010. While the vintage years from 1995 to 1998 were heavily distorted by the extremely high returns of VC funds that were raised during this period, in more recent years the dispersion averaged around 1,500 bps, confirming that an LP s top-down allocation does substantially matter.
Exhibit 1 Observations (continued) Hybrid approach using off-the-shelf fund of funds and more custom fund of one structures seem compelling Allow continued meaningful access to venture capital Provides for modest customization of strategy Multi-year commitment strategy should further reduce fees at FOF level Operates within limits of existing staff/board resources Staff would like to evaluate benefits of possible addition to manager lineup Initial meeting with Mesirow suggested differentiated approach (more focused General Partner relationships) Additional due diligence on performance and fees underway
Exhibit 1 Fee Reduction Strategies SURS benefits from relationship pricing with both Adams Street & Pantheon Discounts due to length and scope of relationship FOF-level fees for a single $100 million commitment to current providers would range from 28-31 basis points over the 15-year fund life Multi-year commitment strategy would further reduces fees 5-year soft commitment of $100 million annually would lower fees to 23-24 basis points (15%-25%)
Exhibit 1 Recommendations To approve the 5-Year Private Equity Funding Plan as follows: Calendar Year Commitment Amount 2017 $300 million 2018 $300 million 2019 $350 million 2020 $350 million 2021 $400 million Amounts uncommitted in one year may be carried forward to following year(s), if necessary. To make multi-year commitments to the existing providers, Adams Street Partners and Pantheon Ventures, and a new provider, Mesirow Financial Private Equity, in approximately equal amounts in accordance with the 5-Year Private Equity Funding Plan, subject to successful completion of contract negotiations
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