In 2007, some mid-market buyout funds could raise a fund with a few phone calls. But in 2010, amid an LP liquidity crisis and spotty performance, even funds with the best reputations are finding themselves spending much more time in fundraising mode, and this of course means rising costs.
They are also finding that placement agents are charging more to reflect the increased uncertainty and workload of raising capital.
GPs that were able to raise funds independently a few years ago are finding that they need to hire placement agents to work with existing LPs. Charles Daugherty of Connecticut placement agent Stanwich Advisors said that several clients who hired Stanwich to raise their first or second funds are coming back for help raising their fifth fund.
Because it’s harder work to raise a fund these days, naturally placement agents are charging more, and more of them are charging retainers or up-front fees.
Paul Denning, CEO of San Francisco private equity placement advisory Denning & Company, said that his firm historically has not charged a retainer. But raising a fund is a challenging proposition now, and Denning & Company has begun charging some GPs an upfront, nonrefundable fee in the six-figure range, or a minimum monthly retainer, in order to cover pre-marketing and marketing expenses and to ensure the GP is also financially at risk.
Daugherty said that he’s seen the use and level of retainers increase. Advisors are not in the business for the retainers but they tend to focus the effort and vary by client and, for example, have increased from $10,000 a month to $15,000 a month since the height of the private equity “golden age”. Often the retainers come with a six month minimum and can be paid in advance.
LPs no longer give GPs a cursory review before re-upping. In many cases, existing GPs are put through the same level of rigor as a new commitment would be.
Furthermore, he’s seen changes in how placement agents take their cut of funds raised. Previously, a GP might negotiate a carve-out or a carve-down for capital committed by an existing LP. The idea was that because the relationship was already strong, little work needed to be done to convince an existing LP to re-up, so the placement agent wouldn’t receive the standard 2 percent of the capital commitment. The placement agent instead would receive maybe 1 percent, or nothing.
But that practice is changing, because re-ups are no longer a given. A placement agent will either negotiate no carve-outs, or charge a “blended” rate of less than 2 percent that covers the entire LP base, existing and new.
But even if a firm forgoes hiring a placement agent, the fundraising process may still be much more expensive. GPs now need to spend more time preparing document and presentations, and will certainly need to dedicate more time and resources to the road show.
“LPs have changed the way they operate, regarding private equity,” Daugherty said. “LPs no longer give GPs a cursory review before re-upping. In many cases, existing GPs are put through the same level of rigor as a new commitment would be.”
The area that requires the most additional work these days is filling out questionnaires that LPs send to GPs they are interested in investing with. Daughtery said his firm finds out what the top LPs are asking in their questionnaires ahead of time, and works with GPs to develop answers long before hitting the road. These days, the questions are more numerous and the answers need to be longer.
“Filling out these questionnaires is very time consuming, so you try to do as much as you can beforehand,” Daugherty said. “You hope that you can address 80 to 90 percent of what any investor would ask for at the time you begin the fundraise. You want to get an investor the information they need immediately. If it takes you four to six weeks to respond to a request, you lose the momentum that you gained from the meeting, and the LP has moved on.”
Along with asking for more detailed information, some LPs also want to be able to easily access data about the firm and its prior funds. GPs may need to invest in their IT infrastructure by setting up data rooms, if they haven’t done so already.
Once the GPs hit the road, they’ll find that a commitment normally requiring one or two meetings in 2007, will now take three or four meetings. Consequently, the travel budget needs to be expanded, Denning said. And as more GPs are going abroad to raise capital, business class plane tickets can quickly become a very significant line item.
“The days of ‘spray-and-pray’ are over,” Denning said. “You can’t just go out and have 100 meetings, assume 30 will be meaningful, 15 will move on to due diligence, and 10 will lead to investments.”