Lessons from the fundraising trail

The year 2009 was littered with missed targets and canceled fundraisings. With LPs scrambling to put out fires in their own portfolios, it was tough to get anyone to commit, let alone commit to a new manager or product. But a few GPs did manage to hit their targets last year. Private Equity Manager spoke with them about their experiences on the bumpy fundraising trail, and a few key themes emerged:

“The biggest thing that we really noticed was the absolute inability for anyone to focus on doing anything new,” said Stephanie Carter, the marketing and communications partner at Baltimore-based ABS Capital. “People first got hit by a very immediate need at the end of 2008, which was coming up with a liquidity plan.” 

ABS closed its sixth fund on $420 million in June of 2009. Limited partners in the fund primarily comprised long-time ABS investors like the Pennsylvania State Employees’ Retirement System and Partners Healthcare. But ABS was able to defy the odds and attract some new LPs as well, such as Abbott Capital and WP Global Partners.

ABS wasn’t able to bring in very many new investors, however, as a direct result of the chaotic environment in late 2008 and early 2009.

“A lot of the people we were seeing were just so distracted, and while they may have said that they really liked our story, they had no idea what they were going to do, if they had money to do it and how they were going to balance the very rigorous portfolio monitoring they were doing with even looking at a new commitment,” Carter said.

Menlo Park- and London-based GI Partners also saw a similar slowdown, according to the firm’s director of investor relations, Kristen Mary.

“Normally people have a sense of allocations for the year in February or March, but it wasn’t until almost summertime that people had a sense of where their portfolios were and whether or not they even had money to invest,” she said. “The investing didn’t even take place until people got back from the summer, in September and onwards. And then obviously allocations were a lot tighter on the whole, there was mostly a focus on re-ups, or a focus on very niche products.”

GI Partners closed on $1.9 billion for its third hybrid real estate and private equity fund in October, after less than a year of marketing. During that period, Mary said that she found that less was more in terms of contacting prospective LPs.

“Usually I’d be a lot more proactive in calling new investors, but I felt like that wouldn’t work as well,” she said. “People clearly had big things that they were dealing with in their existing portfolios, and kind of just didn’t have a lot of time. The more you pushed, the greater risk there was of just forcing a decline.”

But it wasn’t just that LPs were putting out fires in their portfolios, said Jeremy le Febvre, a principal at placement agent Triago. Part of the slowdown was caused by the influx of new products hitting the market designed to take advantage of the economic dislocation. It was like driving down a highway and being distracted by cluttered billboards, Le Febvre said.

Triago advised on five fundraisings last year on behalf of its clients, raising a total of $1.3 billion in fresh capital.  

“LPs were losing their focus, distracted by trendy strategies in areas like turnaround and distressed debt,” he said. “Some LPs did not close on these opportunities because they were outside of their comfort zone. In general, the big difficulty was keeping investor attention concentrated on the more mainstream strategies where they had real experience evaluating opportunities.”

LPs were no longer just rubber-stamping subscription agreements last year. Before committing to funds, LPs conducted lengthy, forensic due diligence and stress testing, and any manager unwilling to open up his portfolio to poking and prodding got a quick rebuff.

“What we found was clearly a much more skittish group of investors, a much more focused group of investors in terms of the breadth and depth and intensity of their diligence,” said Kim Davis, a managing director at Boston-based Charlesbank, which closed its seventh fund on its $1.5 billion hard cap in September. “There was an enormous focus as to the health of your existing portfolio and the leverage levels of each company. Everyone was very, very focused on whether or not you had time bombs in your portfolio.”

The fact that everyone is marking-to-market now further complicated the due diligence process, Davis said. 

“One of the things that was different this time was, historically people had used sort of a lower of cost or market valuation methodology. But now everybody has to mark-to-market, and there are a lot more assumptions embedded in a mark-to-market portfolio than a lower of cost or market portfolio.”

Mary said she saw a similar focus on due diligence from GI Partners’ LPs.

“There was more focus on how we were going to exit our investments and when, what our projected returns were, and also how much leverage have we put on these deals, do you have any exposure to certain banks that have gone under, and refinancing risk,” she said.

 

GI Partners and ABS didn’t change any of their terms or fees, because they had been “very LP-friendly” to begin with, said Mary and Carter. Le Febvre added that it was mainly the mega funds, with $2 billion or more in commitments, that had to renegotiate the management fee. But for the majority, some renegotiation around transaction fees certainly occurred.

“LPs changed their tune and refused to continue splitting fees 50-50 with GPs on transactions, monitoring and break-ups,” Le Febvre said. “Today, for many LPs, the declared objective is to take 100 percent of fees with a minimum acceptable standard of 80 percent.”

Charlesbank had a few “spirited negotiations” with its LPs regarding a few marginal points in the LPA, but didn’t witness a sea change in the final document.

“People are just a little bit more insistent on their points, and it’s harder to harmonise an agreement that’s going to cover 100 different limited partners,” Davis said. “It was a little bit more time consuming, but ultimately not materially different from our original expectations.”

The GPs who had the toughest time fundraising in 2009 were often those who had the easiest time at the height of the market, Le Febvre said, because of the necessary attitude adjustment.

“With the crisis, humility became the general rule,” he said. “Some GPs were accustomed to providing virtually no fundraising documentation, telling LPs instead that they had two weeks to respond positively to a subscription letter or they were out. That kind of behavior has been eradicated by LP refusal to invest. Today, it is definitely part of the past.”