Given the maverick tendencies of its founder and managing partner Jon Moulton, it is perhaps not surprising that UK-based buyout firm Alchemy Partners likes to do things differently.
Moulton is one of the very few high-profile figures in a world where most practitioners like to keep as low a profile as possible.
Never short of a sound bite or a forceful opinion, Moulton has been particularly vocal in defending the private equity industry against some unprecedented public hostility, and in criticizing the buyout executives who take advantages of offshoring and legal loopholes to minimize their tax bills.
This combative approach occasionally ruffles feathers, although Moulton says that he has not received a single complaint from within the industry about his recent comments. But there have been times when his forthright approach has courted controversy, notably when he ran a full page advert in the Financial Times in the aftermath of 9/11, declaring that his firm was still “open for investment”– a move called “deeply insensitive” by one correspondent.
And his belligerence during Alchemy’s unsuccessful attempt to buy car manufacturer Rover (still his most high-profile deal to date) did not endear him to politicians and unions. It is unlikely, however, that he lost much sleep over that.
Creating Alchemy
One thing is certain: Moulton knows the UK buyout industry better than most; he has taken in the three most prominent European buyout powers in his career. He began his private equity career at Citicorp Venture Capital, the forebear of CVC Capital Partners, before joining Schroder Ventures – now Permira – as managing partner between 1985 and 1994, where he mentored Damon Buffini. He then moved on to run the buyout arm of Apax Partners, before leaving to establish Alchemy Partners in 1997.
The firm he founded operates across a broad range of the private equity spectrum, including buyouts, buy-ins and development capital.
Alchemy has also developed an expertise in turnaround situations. The firm has completed an unusually large number of publicto-private deals – more than one in four of the 74 companies backed by the firm have been of this type.
Ever the contrarian, Moulton considers his firm a specialist in “difficult deals.” But what does this mean in practice, PEI Manager asked, when we met him at the firm’s unprepossessing office in London’s Covent Garden in August?
“Where the facts are unclear, the diligence is difficult or the accounting is poor; where litigation is pending or regulation is expected; where the company has disparate divisions so it’s hard to run…” Moulton says. “Or even if the target is a small multinational – the economics on these are hard, because there are so many tax, legal and regulatory issues.”
Moulton estimates that the firm looks at about ten deals each week. “It depends what you count. Once a month someone comes to us and says, ‘Why don’t you look at so-and-so?’ – we don’t include that. We only count those we do a reasonable amount of work on, which is probably ten a week,” he says.
Given that the firm will typically complete about six deals a year, it has a hit rate of just over one percent. “Though of course it depends who brings you the deal – for some intermediaries, the odds are more like one in four,” he adds. With a relatively small team – Alchemy has just ten investment professionals – he says the key lies in knowing very quickly when deals are not going to happen.
So why does Alchemy turn deals down? “In recent times it’s overwhelmingly been about price. Though sometimes it comes down to paucity of information or the poor quality of information,” he says.
Does this not seem strange, given the army of advisers that crawl over every deal these days, even in the mid-market? “Don’t confuse volume with quality,” he grins.
This also brings him on to one of his pet hates. “One of the worst recent developments is the growth of vendor due diligence. It used to be an accountant’s report, to be addressed at a later stage. Now it’s an incomplete set of information, which is positively not verified,” Moulton grumbles. He cites a recent case where the accountants preparing the report had no access to the target company accounts.
“There was just a summary of what the company did, and some pretty pictures,” he adds.
Plan Alchemy
Alchemy’s novel approach to private equity is most evident in the terms it offers to its investors. The firm’s fundraising approach is unique within the industry.
Rather than the standard ten year closed-ended fund or a listed permanent capital vehicle, it has introduced the “Alchemy Plan” – a financing scheme with an annual capacity of up to £400 million ($815 million; €800 million). In practice, this means that the firm’s limited partners make an annual commitment, rather than the traditional practice of committing a larger amount over an extended period. So instead of putting £100 million into a fund and not seeing the rewards for five to seven years, investors can instead commit £20 million for each of the subsequent five years. Alchemy’s team provides 1.5 percent of the final total, up to a maximum of £6 million. Jill Newton, the firm’s investor relations manager, adds: “An important point is that this is not a calendar year we’re talking about.
It’s a rolling 12 month period. And it’s an evergreen structure – if an investor agrees to give us £10 million per year, we keep taking it until they tell us to stop.”
The beauty for investors is that they have far more flexibility – and liquidity – than under a standard fund structure. Investors can withdraw their funds by giving 12 months’ notice at any time, so they are not tied in if they need to free up capital earlier than expected. If an LP does give notice to withdraw funds, the firm has a waiting list of investors ready to step in – although Newton says it will usually offer the extra capacity to existing investors first, for the sake of ease.
This structure allows Alchemy to be more flexible in other areas too. Investors can commit anything upwards of £5 million per annum (there is a theoretical maximum of £160 million, although this would be unlikely to happen in practice). And since Alchemy comes to an arrangement with each investor individually, rather than signing everyone up to a common partnership agreement, it can afford a bit more flexibility on the finer points. “Everyone gets the same economic terms, but we can tolerate small differences in the agreements,” says Newton. Some investors may prefer not to do deals in particular sectors, for example.
When Alchemy makes an investment, each LP gets a proportional share in the deal depending on their participation in the Plan – notwithstanding the individual preferences mentioned above. There are also minor adjustments made depending on how much of the investor’s 12-month commitment has already been put to work – since LPs will begin their agreements at different times, it may be that they don’t have enough of their annual commitment left to contribute an amount commensurate with their share of the Plan on a particular deal. This clearly makes for some complicated calculations when a deal is signed, so Alchemy outsources this process to its fund administration partner, the Guernsey-based Northern Trust.
Ten percent carry
Draw-downs work in exactly the same way as at other funds, as do distributions – but due to the nature of the Plan, carry is usually calculated on a deal-by-deal basis, rather than over the lifecycle of the fund. Here again, Alchemy stands apart – instead of the standard 20 percent carried interest taken by most other firms in the industry, Alchemy takes just 10 percent.
Interestingly, the firm also offers a more traditional arrangement whereby investors sign up for three years – losing the right to 12 months’ notice – and carry is tagged at 20 percent rate across the whole period. The rationale was that some investors might be uncomfortable with deal-by-deal carry – a relatively unusual concept in Europe – and might prefer a more traditional structure. But just one LP has taken up this option to date, according to Newton.
Management fees are another area where Alchemy takes an unusual approach. Rather than imposing a flat management fee (usually set somewhere in the region of 1-2 percent of fund size) to be spent at their discretion, the firm presents a budget to its LPs at the start of the year. This contains full details of the firm’s internal profit and loss account, and proposes a figure for the management fee, which Newton says usually equates to just under one percent of the scheme’s size.
This transparent approach – and the resulting low fee – seems to pay dividends: so far the firm’s proposal has never been challenged. However, Newton points out that management fees are not normally the overriding concern for investors: performance tends to be the key consideration. So as long as investors continue to see returns of more than two times their investment, as they do currently, the Plan is likely to remain popular. Indeed, in the firm’s 10-year history, it has doubled its investors’ money, investing £1.9 billion and returning about the same amount.
Investors will even receive a rebate on management fees, as long as deal fees exceed the costs of abortive deals. The first £7 million thereafter is split equally between LP and GP as a management fee rebate, while investors also receive 75 percent of any fees over and above this.
Transparently obvious
Disclosure and transparency are two of the hottest topics in private equity at the moment, but Alchemy believes it is already ahead of the game. The firm already publishes details of its investor base – which is split fairly evenly between European groups like Hermes, Pantheon and the Wellcome Trust, and US funds like CalSTRS, Goldman Sachs, Adams Street and MIT. Newton says most are perfectly happy to be named.
“There are some who ask for no publicity, and we respect and honor that,” says Moulton. “But for the rest – as long as we don’t abuse their name publicly, and we’re publishing it on a document that’s only really distributed within the industry, they don’t seem to mind.”
Alchemy says its investor reporting – which includes deal updates, quarterly reports and an annual meeting – are broadly in line with industry standards, and Moulton believes all his investors have as much information as they need. “We continually ask our investors: is there more you want? And they say no; in most cases they wouldn’t have time to read it anyway,” he says.
Newton adds: “All of our investors seem pretty content with the level of information they receive. We try to be open and transparent, and I’m sure they’d be on the phone if they wanted more.” In fact, investor requirements have remained fairly consistent throughout the firm’s 10-year history, she says. “I can’t really recall anyone demanding
anything different.”
Moulton himself is optimistic that the industry as a whole is trending towards greater transparency – and that Sir David Walker’s recent recommendations will have the desired effect. “I think most of it will go through,” he says. “There’s just not likely to be any spirit of opposition to it – it only really affects the big buyout guys.”
Expanding into distressed
Alchemy may be a well-established presence in the smaller end of the UK buyout market, but it does not plan to rest on its laurels. Last year the firm also launched a new £250 million special opportunities fund, led by ex-Mizuho International trader Ian Cash, to take advantage of the expected deterioration in credit quality and increase in default rates.
Cash says the fund will take stakes of 10 to 20 percent in the debt of struggling companies – which will often be private equity-owned – and typically hold its stake for about one to three years. Following its successful ownership of CLO manager Alcentra, Alchemy has extensive experience in this area, and it expects the fund to prosper in the coming years.
At time of writing, the fund has done five deals – and with the recent turmoil in the credit markets, opportunities are on the increase.
Moulton is unusually guarded in his predictions for the coming months, however: “It’s impossible to say how deep the correction will be,” he says. “We’ve never had a situation before with such a wall of CLO money, or when leverage levels have been this high.”
But if the market does take a turn for the worse, Moulton and Alchemy won’t be complaining – indeed, they look well placed to turn this to their advantage. “I’m a natural bear,” smiles Moulton. “I find it hard to prosper in upbeat positive markets.”
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