Moving Down Market

Until quite recently, conventional wisdom was that the best buyout bang came from middle-market bucks. Part of the rationale was that middle-market firms used to get more proprietary dealflow than did their bigger brothers, but the primary justification was found in fund returns data.

Unfortunately, much of that data mistakenly used modern standards to determine fund category (i.e., small, middle, large, mega), without considering the context of specific vintage years/eras. For example, Blackstone’s $800 million first fund was being referred to as middle-market (or perhaps large-market), even though it was certainly a mega-fund when it closed in 1988.

Today, of course, everyone believes that bigger is better. Proprietary dealflow is nearly as rare in the middle-markets as it is in the mega-markets, and an increased proclivity toward financial engineering – enabled by drunken lenders – means that $1 billion+ deals can seemingly return their principal just days after close.

Why am I bringing this up? Because Vox Populi member Mike X reports that mega-firm Texas Pacific Group is raising a middle-market buyout fund. I’ve confirmed this with several LP sources (it’s going to be global), and it follows up on a report here yesterday that Silver Lake Partners also is considering a middle-market effort.

Mike asks why TPG would raise a middle-market fund, rather than simply make some middle-market deals out of its $15 billion general fund (a la Warburg Pincus)? One reason could be to give limited partners more defined investment parameters, but TPG has gone in the exact opposite direction when it’s come to geography (via its subsumation of Asian affiliate Newbridge).

Either way, I think the more salient question is why mega-firms are dipping down into the middle-markets at all? It can’t be a fear that the party’s over, because they then would hedge by including middle-market deals in the general funds.

Neither TPG nor SLP would talk to me about this, so I ask you: What is going on here?