NAV loans attract scepticism from LPs amid growing transparency concerns

The State of Wisconsin Investment Board and Florida State Board of Administration both expressed unfavourable views on NAV-based instruments on a webinar hosted by PEI.

The growing prevalence of NAV loans is drawing scrutiny from asset allocators, many of whom are voicing concerns over transparency and the intended purpose of such tools.

In a webinar hosted by affiliate title Private Equity International on Monday, decision-makers from the State of Wisconsin Investment Board and Florida State Board of Administration – two of the largest public pension plans in the US – exchanged their views on NAV loans. The webinar, moderated by Jennifer Choi, chief executive of the Institutional Limited Partners Association, was held in conjunction with PEI’s NEXUS 2024 summit, which will take place in Orlando, Florida in March.

During the webinar, both LPs acknowledged the merits of NAV financing in certain situations. However, neither supported its adoption as a standard leverage tool.

Lamar Taylor, interim executive director and CIO at Florida SBA, was frank about his views on NAV-based facilities. “We don’t like them. It’s hard to answer categorically because everything is contextual and there a place for [such] things… but generally, our view is that it’s not a good sign.”

He added that the most troubling scenario arises when GPs use NAV loans without notifying LPs.

Chris Eckerman, head of co-investments at SWIB, said he believes there are justifications for NAV loans “in certain situations”. However, he is “extremely opposed” to the use of NAV loans if the sole purpose is to facilitate distributions.

“What we really don’t want to see are NAV loans paying distributions,” Eckerman said. “It’s one thing to use or draw on those facilities to help support a portfolio and possibly something that’s a very creative, transformative type of transaction. It’s a whole different ball game to use those proceeds for paying a distribution.”

The two investors’ remarks come at a time when LPs have become increasingly split over the value of NAV loans and the need for restrictions in fund documents. According to PEI’s LP Perspectives 2024 Study, the proportion of LPs who believe restrictions around GPs’ use of NAV loans in fund documentation is ‘somewhat important’ or ‘very important’ has decreased to 61 percent, down from 74 percent in the previous year’s study. At the same time, the share of LPs who consider restrictions to be ‘very important’ has increased from 19 percent to 25 percent.

For LPs, one of the most concerning aspects of NAV loans is their recallable nature. As PEI reported in November, Vista Equity Partners is one such firm using this feature, with at least one of the two distributions it has given to LPs via a NAV loan being recallable. For GPs, such a practice can help improve the distributed-to-paid-in ratio while still maintaining access to capital. For LPs, however, receiving recallable distributions means they can’t use them for other purposes.

“I don’t think it makes any sense to borrow money to send distributions back to your LPs,” Allen Waldrop, director of private equity at Alaska Permanent Fund, told PEI at the time.

On the webinar, Taylor drew a parallel between NAV loans and subscription lines of credit, a fund-level leverage tool that can be secured against undrawn LP commitments. “We didn’t like those, either,” he said.

While acknowledging that subscription lines might be justifiable for short-term cashflow management, Taylor pointed out they may become a means of “IRR engineering” if used for 18 months or longer. NAV financing can be even “a little bit potentially more pernicious, particularly if it’s done without proper notification to the LPs”, he added.