Friday Letter Don't meet the parents

Pantheon Ventures, a major private equity funds of funds manager, struck a $775 million deal this week to have its ownership transferred from Russell Investments to Affiliated Managers Group.

The founders of Pantheon sold their firm to Russell Investments as recently as 2004. That deal got a lot of attention as it marked yet another sign of growth and consolidation in the private equity market.

And yet anyone who has done business with Pantheon will note that the funds of funds group kept the Russell brand in the distant background. Just like you probably shouldn’t bring your mother on a first date, a fund manager is wise to emphasise its independence in front of investors.

Limited partners, including LPs of funds of funds, want to see fund managers that are highly incentivised, as opposed to working for an entity that is siphoning away the economics. To that end, the most recent Pantheon deal will give the management team a “significant stake” in the partnership, according to a statement. The deal will provide a “multi-generational approach to equity incentives. . . a powerful combination as we strengthen Pantheon’s leading position in private equity fund of funds”, said Pantheon managing partner Alastair Bruce.

Beyond economics, LPs also do not want fund managers being distracted by corporate parents; they do not want their GPs attending to corporate matters instead of the core business of vetting, investing and monitoring.

Here again the sale to Affiliated Managers seems like a win – the announcement stressed an ownership model whereby fund management teams maintain operational autonomy.

Private equity remains a market where mergers and acquisitions among the management companies themselves are rare. Pantheon’s 2004 acquisition was therefore closely observed. But as succession issues come to the fore, expect to see independent firms, too, being sold to larger entities. The buyers need to know that unless the hands-on fund managers themselves retain a big piece of the action, investors will have a hard time accepting the new arrangement. “Skin in the game” has become one of the top priorities of LPs, and rightly so.

And the new parents should also not be offended if they aren’t invited along to meet the LPs – it sends the wrong signal.