Q&A with Prophet Equity on Raising an Oversubscribed Debut Fund

Over the holidays, Dallas-based turnaround shop Prophet Equity held a final close on its debut fund with $250 million in commitments, after 17 months on the road. The effort was oversubscribed, in part, because Prophet stuck militantly to its hard cap figure.

Since Prophet will continue to target the same size investments, the firm already has pledged not to increase the size of future funds, either. In addition to the $250 million in capital commitments, the firm’s GPs have committed $25 million to the effort, with the option to raise their commitments to $50 million.

I spoke with the firm’s founder, Ross Gatlin, about raising a first-time fund in this market. Gatlin is an alum of Insight Equity, a Texas turnaround shop has also been raising a new fund.

peHUB: Congrats on your oversubscription.

RG: Thank you. It’s funny to go from people negotiating on the finer points of terms to not having room for everybody.

Did LPs give you a lot of push back on terms?

You always get negotiating. Everybody is playing some position. But generally it was pretty tough to push back on our terms, because they were right down the fairway. It wasn’t a 2% management fee plus we keep all deal fees. We had 20% carry and a huge GP commitment in there. Anybody who said they had a problem with our terms was probably a little bit disingenuous. It would not be the reason they didn’t not invest with us, I made sure to remove that as an issue from the outset.

At our Buyouts South conference, a lot of LPs talked about the importance of momentum in getting a fund raised. You started raising a year and a half ago. How did momentum play a role in the process?

It’s pretty important. In this market, you have to be just about perfect, and have set the terms properly at the outset, because if you find yourself changing the fundamentals of what you’re marketing with midstream, you’ve already got a leading indicator that your timelines will slip. In past people, behaved that way and got away with it. They expected to have the renegotiation, where they start out high on things like terms and targets, and end up a bit lower. That old-fashioned negotiating strategy is not working now.

So when we went to market in July of 2008, the world changed a few times. We thought we’d close on two thirds of the fund by December 2008, until the world fell off a cliff after September. It did turn out to be critical to close on over half of our commitments in December, though. That’s a huge statement now, to be able to close on half of commitments after six months in the market. If a fund doesn’t get to that halfway point in its first close, it’s an indicator that the GPs are not being realistic about their fund size.

So for us to get to $130 million in December was huge for our momentum. We let people know in January that we had closed on half of our target, but we also knew we had additional momentum before letting people know about the first close. We knew we were heading for a second close before letting people know about first close. In the end we raised all of capital within a year of the first close.

What other factors helped you raise the fund?

We went direct. I think that was huge. We told our own story to investors instead of using a placement agent, which was a little bit unique. We let one individual help us with a selected list of investors. That helped us get some international LPs.

What is the mix between domestic and international investors?

A large amount of our investor base is international. I would estimate it’s a 50/50 split, or even over-weighted internationally.

What else?

We also did rolling closes. People are used to one-size-fits-all fundraising, where you hire a placement agent and schedule closes on certain dates. We had a flexible approach that allowed people to close into our fund when they were ready, and that helped us maintain a clearly demonstrable momentum. We had seven closes, and we were able to tell LPs about them as proof we had momentum.

Previously:

An Old Deal For a New Firm

LP-Friendly Terms Helping Prophet Get Fund Raised – Is It Any Wonder?

Dallas Fund-Raising Showdown: Insight vs. Prophet