Year of the extension

Between last year and the first half of 2010, limited partners received more requests for investment period extensions than ever before. This year, US distressed specialist MatlinPatterson, UK-based private equity shop BC Partners and mid-market firm Montagu all asked for and were granted investment period extensions by their LPs.

Many managers who raised funds in the period leading up to 2007 decided to stay on the sidelines during the downturn, not investing much capital and waiting for the economy to bottom out. With deal flow at historic lows in 2009, the opportunity to deploy capital remained limited. To avoid having to simply cancel commitments to funds that were approaching investment period deadlines, GPs went back to LPs for a little more time.

Limited partners in today’s environment have got used to amendments to fund terms. While extensions represent the bulk of the requests LPs receive, according to LP consultant sources, managers have also asked to shrink fund sizes (often after LP pressure) and extend fund raising periods.
LP sources, as well as consultants to LPs, tell PEI that every extension request is looked at on an individual basis and many times the decision to grant it is made based on how the manager has performed over the past months.

“We don’t do a full due diligence effort, but we treat it like a new request for capital,” a family office principal says.

Extension requests can be a chance for LPs to “re-underwrite” their relationship with particular managers, according to Andrea Auerbach, a managing director with consultancy Cambridge Associates. LPs can review how the manager has performed, the decisions they made and especially what they did to make sure portfolio companies got through the downturn intact.

“I think a lot of LPs are using any type of an amendment or extension request as another opportunity to potentially re-underwrite their view of that particular manager,” Auerbach says.

In some – but not all – instances LPs will use these extension requests as opportunities to negotiate concessions from managers, such as lower fees.

The private equity head of a US public pension tells PEI that more European GPs will are expected to approach LPs in 2011 asking for extensions.

To prepare for potential extension requests, the family office principal has been reviewing all the funds that have closed between 2005 and 2007, to see who has a surplus capital left and who might need more time to invest.

LPs that talked to PEI about extensions are generally prepared to grant requests, as long as the managers’ performance is not abysmal. Auerbach, who spends a lot of time talking to GPs and LPs, says for the most part managers are simply looking to invest in the most prudent way possible.

“A lot of managers were unable to deploy capital at the rate to which they’ve become accustomed. Those managers are trying to invest remaining commitments prudently and they need more time to do that,” Auerbach says.

The family office principal notes, however, that these extensions can represent a desperate attempt to right an upside-down portfolio. “Sometimes they’re begging for a ‘hail Mary’ to make up some of the real bad investments in previous years,” he says.

With the recovery in the credit markets tentative at best and the macroeconomic climate still plagued by uncertainty, deal flow could evaporate again. If it does, the queue of managers looking for investment period extensions will only increase.