US MID-MARKET

Just another mid-market buyout group. JAMMBOG. You never want to hear your firm called this, and yet limited partners often find it hard to distinguish one US mid-market buyout firm from another. This should be of concern to GPs in a segment where specialists stand a better chance of winning new commitments than do generalists.

Amid the bruising competition of the US mid-market, GPs have been compelled to re-design the business plans of their respective firms. Some have wreaked transformation in ways that make them clearly stand out from other financial buyers in their markets. “All of these private equity guys are looking for some way to differentiate themselves, where they bring more than just capital to the table,” says Chris Williams, a cofounder of mid-market investment bank Harris Williams. “Capital is now a commodity, and the mid-market is also much more sophisticated.”

PEl recently spoke with a number of industry insiders in contact with midmarket GPs to find good examples of firms which have structured themselves to stand apart. In some cases the companies mentioned by our contacts are relatively new, and in other cases these are veteran firms that have added new ways of doing business.

In general, the firms in this article might be considered “mid-market 2.0” franchises due to innovations in at least one of four main areas: the industry sub-sectors in which they hunt for deals; the geographies they target; the ways they source deals; and the ways they add value to their portfolio companies.

Essentially, this is not an attempt to find the best US mid-market private equity firms (although our sources are generally impressed), but simply to highlight compelling examples of firms that are different and interesting.

And if those two qualities help drive investment success, the LP capital is sure to follow – as, of course, are the imitators.

BELVEDERE CAPITAL
SAN FRANCISCO
A BANKER'S BEST FRIEND

One of only a handful of private equity firms registered as bank holding companies under the 1956 US Bank Holding Company Act – and one of the first – Belvedere stands out for not just investing in banks but also for aggregating, listing and selling them in a traditional roll-up play. For example, between 1997 and 2004 the firm acquired eight community banks in California using its debut $160 million fund. It placed three of them into a holding company, grew their value three times over the holding period and eventually listed them on Nasdaq. In 2007, Wells Fargo acquired the listed holding company for $645 million.

Now following a similar strategy with Belvedere SoCal – an over-the-counter traded holding company for Southern California community banks – Belvedere is on the hunt for more capital for its roll-up ambitions. With its second fund 80 percent deployed in Texas and California-based community banks, the firm is raising a $500 million war chest for its next round of acquisitions.

The firm was formed in 1994 by Richard Decker, who until 2006 served on the board of the San Francisco Federal Reserve and Anthony Frank, former US Postmaster General. In the mid-90s, the two co-founders worked with then-chairman of the Federal Reserve Alan Greenspan to change federal regulations to enable private equity firms to register as bank holding companies.

BLUE WOLF CAPITAL MANAGEMENT
NEW YORK
IF IT'S NOT HAIRY AND SCARY, THIS FIRM WON'T BITE

New York's Blue Wolf Capital Management already stands out for having the most menacing name in private equity, short of Cerberus. In fact, this relatively new firm does deals that most GPs find overtly chilling – deals with heavy union involvement, with government or regulatory complexity, and characterised by distress and mismanagement. With two of its senior partners having spent several years working for the City of New York, it's no wonder Blue Wolf has such intimate knowledge of government and unions (we'll not be inflammatory by also saying “and mismanagement”).

The firm is led by Adam Blumenthal, who from 2002 until the founding of Blue Wolf in 2005, oversaw asset management at the New York City Retirement System, an organisation that oversees investment for several municipal pensions. Prior to that, Blumenthal was a senior executive at American Capital. Also on the team is Josh Wolf-Powers, who oversaw private equity investments for the New York City Retirement System.

Blue Wolf recently held a first close of $100 million on its debut fund. It has three deals under its belt that fit the “complexity” mandate – two of them are unionised paper mills with legacy assets in the form of hundreds of thousands of acres of forest land. If Blue Wolf gets out of these woods it'll be quite a journey.

BRAZOS PRIVATE EQUITY PARTNERS
DALLAS
ALL IN THE FAMILY

The earliest incarnation of private equity was arguably the investment of private family groups. Brazos Private Equity Partners is one firm that has kept its focus on the family.

Co-founder Randall Foftasek, was himself a former chief executive of a family-owned enterprise. The mid-market buyout firm has a penchant for investing in family-owned businesses and structuring transactions with their needs in mind. Often this means assisting with the owners' estate planning, wealth transfer and diversification initiatives in addition to providing them with liquidity for their investments.

Sometimes, though, it can also pit the firm's interests against that of its targets. Its 2002 buyout of CoMark, a Dallas-based building company, was profiled in a Harvard Business School case that illustrated the intricacies of private equity investing in family businesses: deciding whether to structure the transaction as a stock or an asset sale and determining who gets the upside was crucial to keeping the management involved in the business – a key ingredient of many recipes for successful family deals. The firm currently has more than $650 million under management and is investing out of its second fund.

For Brazos, investing in family businesses also has the added benefit of ensuring that it has people who are very closely wedded to their businesses running them – and in so doing growing the Brazos' own family of businesses.

HALYARD CAPITAL
NEW YORK
NEWS FLASH: DISRUPTION IS GOOD

Halyard Capital plays the contrarian. The New York firm focuses on media, communications and business services, and hasn't been afraid to invest in sectors thought to be dying out: publishing, broadcasting, even print newspapers. The firm seeks to reposition these traditional assets with a super-charged digital strategy – a move that big media companies often fail to successfully make.

Bucking conventional wisdom appears to be paying off for Halyard – the firm has generated some impressive returns since striking out on its own last year.

Halyard was originally formed in 2000 as a $450 million fund under the control of Bank of Mont real 's inves tment banking division, BMO Nesbitt Burns. But from the outset the fund's management team planned to raise independent capital for their second fund, and in 2006 they spun out to form Halyard.

BMO recruited seven managers from the US media and telecommunications division of CIBC World Markets to run the original fund. Five of these managers currently lead Halyard: partners Bob Nolan, Bruce Eatroff and Christopher Ruth, as well as principals Timothy Brown and Rene Benedetto.

Halyard raised $400 million for its first independent fund in 2007. The firm has invested in – and profited from – print newspaper companies like Herald Media, Hanley-Wood, American Community Newspapers and ImpreMedia, as well as television and radio broadcasting stations North Dakota Holdings and Tama Broadcasting. While the challenges of such investments daunt many, Halyard plunges right in.

“As an investor, this is the kind of market you hope for,” says Nolan. “You want a disrupted industry, because that's when the greatest values are created. You're going to find companies that are struggling for one reason or another, or you're going to find the company that provides the solution for the disrupted industry.”

HARBOUR GROUP
ST. LOUIS
SERIOUS ABOUT CHINA

An investment banker who says warily that “three out of four” mid-market buyout firms now claim to have sourcing and support teams in Asia is most impressed with Harbour Group, a quiet, St. Louis-based buyout firm led by Jeff Fox, the scion of a prominent local family and son of Harbour's founder.

Although the firm has been around since 1976, it has outpaced most other buyout firms in treating the mid-market as a global endeavour. It has offices in Shanghai and Bangalore. A representative of the firm declined to comment for this article. But the investment banker source said that the firm has roughly 30 people on the ground in Asia. “To me, they're probably one of the more tangible models I've seen in terms of actually sourcing over there.”

Currently investing from a $505 million fund closed in 2006, Harbour Group is best known for its manufacturing and distribution prowess. In 2005 it joined Chinese private equity firm CITIC Provident Management to acquire Lincoln Industrial, a St. Louis-based company that was expanding its operations to Eastern Europe and China. The joint acquisition was meant to “increase [Lincoln's] presence in China”.

KPS CAPITAL PARTNERS
NEW YORK
LOVE OF LABOUR

Most unions cast a wary eye at private equity firms and vice versa, but kPS makes the relationship work – and profits from it. Like Blue Wolf, kPS specialises in scary situations – such as businesses facing the threat of closure, liquidation or operating difficulties – and doesn't put down any money without having a concrete turnaround plan in place for restoring the business to profitability (Blue Wolf founding partner Wolf-Powers spent five years with kPS special situations funds before starting his own firm).

For kPS, the special sauce to its success lies in developing rapport with industrial and service unions and then leveraging it to source transactions and implement turnaround plans once the company commits its capital.

Often this involves concessions such as giving employees board representation or involving them in the decisionmaking process when implementing a turnaround action plan.

More often than not, though, it also involves making use of the reputation and rolodex of KPS co-founder Eugene Keilin, a former partner at Lazard who has spent most of his life working with and advising industrial and service unions in turnaround and restructuring situations in the manufacturing sector. And with $1.8 billion of committed capital for KPS' funds targeting investments of $25 million to $150 million, it doesn't look like Keilin will be putting away his rolodex anytime soon.

RIVERSIDE MICRO-CAP
CLEVELAND
SMALL DEALS, BIG RESOURCES

The Riverside Company is well known in the mid-market for acquiring a large number of relatively small companies per fund. With the launch of the affiliated Riverside Micro-Cap Fund in 2006, the deals got even smaller, with the expectation that acorns can grow into mighty trees over the long term.

The Micro-Cap group, led by Loren Schachet and Ron Sansom, targets North American businesses in almost any industry with between zero and $3 million in EBITDA (the Riverside website spells out what EBITDA stands for, presumably in case any small-time entrepreneurs don't know). Here's the secret sauce: Riverside plans on holding these companies for between seven and 10 years. The LPs are enthused at the longer life-span, accepting Riverside's assertion that significant value creation can take place over this time horizon and at this end of the market. Riverside helps these companies upgrade their accounting and other systems and positions them to become much larger.

Among the portfolio companies of the Micro-Cap fund is It's Just Lunch, a matchmaking service for professionals, which means that Riverside may end up in the happy position of both delivering high IRRs and love to the world.

SORENSON CAPITAL
SALT LAKE CITY
ROCKY MOUNTAIN BAIN

In Mitt Romney's ancestral home rises a resources-focused private equity firm that looks quite a bit like a mini version of Boston's Bain Capital. Little wonder – among Sorenson Capital's co-founders are Fraser Bullock and Ron Mika, former senior Bain executives. Another early backer of the firm (but not an investment professional) was Robert Gay, also a high-profile former Bain pro.

Sorenson was launched in 2004 with a $250 million debut fund. Earlier this year the firm closed its second fund on $400 million. It focusses primarily on acquiring businesses in what is sometimes called the Mountain region – Utah, Colorado, Idaho, Nevada – as well as the West Coast. True to Bain form, it also maintains a staff of “performance group” professionals who act as in-house operating advisors to portfolio companies. Its target industries are not what you'd call cutting-edge. Portfolio companies include a meat processor and a crafts and papers supplier, the kind of straightforward companies that can be made better through brilliant execution. Any competing mid-market GP which attempts to pursue a deal in the Rocky Mountains will likely meet entrepreneurs who already know the Sorenson team.

TRANSPORTATION RESOURCE PARTNERS
BLOOMFIELD HILLS (MICHIGAN)
LOCOMOTIVE INVESTING

Transportation Resource Partners is the successor fund to Penske Capital Partners, the buyout vehicle of racecar legend Roger Penske. As the name and founder would suggest, the fund invests in growth-oriented manufacturing-and service-related businesses in the transportation industry.

Penske Corporation, the transportation services company whose subsidiaries include Penske Racing and Penske Motor Group, was cornerstone investor in both Penske Capital and Transportation Resource, along with GE, Chase Capital Partners and Aon Corporation. Penske Corporation is not just a limited partner – it also maintains a close strategic relationship with Penske Capital, and serves as a source of deal flow, commercial synergies and industry experience.

The firm launched in 1997 with Roger Penske as managing director, along with former Penske Corporation president Richard Peters, former Merrill Lynch managing director James Hislop, and Helmut Werner, the influential executive who revived Mercedes-Benz in the 90s. The $325 million fund it raised made six investments, including vehicle lighting manufacturer Truck-Lite and automotive education provider Universal Technical Institute.

In 2003 the firm raised $265 million, expanding its investor base from the original four LPs to around 20. Its deals to date include auctioneer National Powersport Auctions, accident avoidance training company Smith System Driver Improvement Institute, and luxury boat maker MasterCraft Boat Company.

The firm is currently marketing its third fund, which is targeting $315 million.

WATER STREET HEALTHCARE PARTNERS
CHICAGO
SPECIALITY HEALTHCARE

Water Street Healthcare Partners won't touch many of the most popular areas of the healthcare industry, like biotechnology, hospitals and nursing homes. Rather, the Chicago firm targets outsourced services, distribution and medical device sectors. About half of its investments are corporate divestments from healthcare companies.

One deal broker notes that given the size of the US healthcare industry, it's a wonder there aren't more firms like Water Street.

Water Street was one of two healthcare-focussed private equity firms to emerge from Chicago-based One Equity Partners, now the private equity arm of JPMorgan. The first, Linden Capital Partners, was formed in 2002 by One Equity managing partner Eric Larson. Water Street followed in 2005 when Jim Connelly, the former president and COO of Caremark International, teamed up with Dugan and kip kirkpatrick, who previously led healthcare investments for One Equity.

In September, Water Street closed its second fund on $650 million, exceeding its original target of $600 million and bringing the firm's total capital under management to more than $1 billion. The second fund will follow the same investment strategy and target size as its predecessor, which closed in 2005 on $400 million and has 10 investments consolidated into eight portfolio companies.