Tie-breakers

Choosing which private equity fund to allocate funds to, especially down in the mid-market, is like deciding which family hatchback to buy, according to the portfolio manager of a European insurer. “Everyone is so similar. Funds use the same debt and equity splits on investments, have the same cost of capital, access to investments and they are all using pretty much the same models.”

Nonetheless investors have to make choices and they are often quite subtle, the LP adds. This means GPs may face a “tie-breaker” situation that goes down to something they didn’t pay much thought to as more important matters like track record and team stability occupy their mind during the fundraising pitch.

“Access to information is key,” says Graeme Gunn, partner at fund of funds SL Capital, who adds that he is often left surprised by the number of GPs who are still reluctant to share their profit and loss account. “We are going to have a ten year relationship, so I would like see if you are sustainable and can keep the lights on in the office; or are you making so much money from the management fee that in fact your alignment with the carry isn’t working?”

And opening the books for only the big investors can be a mistake, say multiple LPs of various size and stripe speaking to pfm. “We want to know how the team treats their bigger investors versus the smaller ones. Do they really threat them all as equal partners?” says the European insurer.

A willingness to travel is another potential tie-breaker, says Gunn. “Being based in Edinburgh we actually put a great score on people being prepared to jump on a plane and come here.”

A separate US-based LP says he likes follow-up onsite meetings for a different reason: “We want to make sure we are hearing a consistent story.” He explains a fund manager could have “hit it out of the park” one day only to disappoint later when they retell their story.

Dominant individuals in a fund can also be a turn off. “We have a lot of meetings with general partners and it is quite remarkable how often a dominant CEO type doesn’t let his team get a word in edge ways, says Gunn. “We want to hear from the whole team.” A separate LP says the most successful GPs tend to have three to four senior partners on equal footing making the pitch.

Gunn adds that SL Capital gives positive marks to GPs with some past performance blemishes. “There is some psychology there as these people often work harder as they feel they have something to prove.” The EU-based insurance LP takes this further by awarding brownie points to teams which are diversified in age and sexes and “not just an old boy’s club”.

Today’s level of LP due diligence means even a GP’s family life is a factor being considered. One LP says he wants to know if a fund manager’s spouse will be fully supportive of their day job. “It can be difficult to go down to that sort of level but you hear things anecdotally and referencing is a big theme.”

The US LP says background checks on the most senior team members is common and in the past it has uncovered some behavior that has made him think twice about investing. “We have come across guys who are highly litigious, some guys who have spent a night in jail for being drunk and that is a concern for us.” In today’s tougher fundraising market, it’s surely a concern for many others.