- More than half of LPs with $10 bln-plus AUM would back first-time funds
- CalPERS, Texas TRS graduate firms from EM programs
- More investors eyieng anchor commitments
Some private equity firms age like fine wine, churning out top-performing vehicles vintage after vintage. Others turn to vinegar over time, forcing limited partners to find new firms — and new faces — to deliver top-shelf returns.
Enter: emerging managers.
“We have a large portfolio at CalPERS, and some of those managers are going to fall away over time, and we have to replace those. So emerging managers are very important in that regard,” said California Public Employees’ Retirement System Portfolio Manager John Greenwood, speaking at Buyouts’ Emerging Manager Connect West event earlier this year.
PE limited partners vary in how they define an emerging manager, but the term usually applies to newer firms raising their first or second fund. Many institutional LPs consider only firms with less than $1 billion of assets, and some weigh the diversity of the GP group as a factor as well.
Interest in this subset of general partners has remained relatively steady in recent years, particularly among larger institutional investors, according to a November 2016 Preqin study. More than half of all U.S.-based PE investors with more than $10 billion of assets would invest with a firm raising its debut PE fund.
Perhaps because of that enthusiasm, first-time funds represented 10.1 percent of all U.S. funds raised last year, the highest level since 2012, according to Pitchbook data recently cited by Iowa Public Employees’ Retirement System. Pitchbook pegged total U.S. fundraising at $180 billion last year.
“We’ve seen it ourselves. [In] the last 12 months, we’ve raised six or seven first-time funds that were successful fundraises,” said Jeff Eaton, leader of the placement agent Eaton Partners. “I can’t think of any other 12-month period where we’ve had so many.”
Jennifer Choi, managing director for industry affairs for the Institutional Limited Partners Association, said her group is planning an emerging-manager event this year to channel some of its members’ interest. “The usual suspects that have well-publicized emerging-manager programs continue to have interest in the space,” she said.
But as the industry continues to shift more time and resources into fostering emerging managers into institutional-ready behemoths, some of those well-publicized programs are trying to find new ways to access this market subset and maintain their relationships with newer funds as they grow and evolve.
Some larger firms and institutions have begun pursuing anchor stakes in first-time managers to secure more favorable economics — lower fees and perhaps a bigger share of the carried interest — earlier in a firm’s life, rather than having to negotiate for those things in the future, Eaton and other sources told Buyouts.
Alaska Permanent Fund Corp disclosed an anchor stake in Whitehorse Liquidity’s first fund earlier this year. Asia Alternatives plans to use its new fund to anchor first-time and emerging managers, Buyouts reported this year. Gatewood Capital Partners, itself a first-time manager, recently raised a $220 million vehicle to anchor other first-time GPs and provide back-office support to investment firms getting off the ground.
Holding onto those firms once they take flight is another task entirely. Many firms that have grown out of the “emerging” category are still too small to take on a meaningful commitment from a major public pension.
For context: Most of these firms are raising funds in the $1 billion range. CalPERS’s most recent PE commitment, to Silver Lake’s $15 billion flagship fund, was for $500 million.
CalPERS, along with Teacher Retirement System of Texas, has developed programs to elevate certain top-performing managers into their main allocation to private equity. At Texas TRS, formerly emerging firms like Roark Capital Group and Vista Equity Partners graduated to the retirement system’s core PE allocation after meeting AUM and performance thresholds.
CalPERS adds an extra step before promoting emerging managers to its main PE allocation. In what’s known as its transition program, CalPERS set aside $2 billion for managers raising their third through sixth institutional funds in 2015. Siris Capital Group and Clearlake Capital Group were the first private equity funds to receive commitments from CalPERS through the program.
CalPERS has been consolidating its portfolio by committing larger amounts to a smaller number of PE fund managers and is currently contemplating a restructuring of its private equity portfolio. Even so, a source with knowledge of the program said he expects the retirement system to remain committed to its PE emerging manager program going forward.
“When we enter a relationship with a manager, it’s a marriage,” Greenwood said at the Buyouts event.
CalPERS and Texas Teachers’ declined to comment for this story.
Action Item: Read the Preqin report: http://bit.ly/2s33gO3
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