Beat my existing GPs

The best way to get limited partners to open their wallets and commit money to your fund is to beat an existing manager in their portfolio. This was a sentiment expressed several times at a recent private equity conference at Wharton Business School by several big-name LPs.

The statement encapsulates exactly what many GPs are going to have to go through this year to attract new LPs into their funds.

Many of the market’s leading investors, including the likes of the California Public Employees’ Retirement System, The Wellcome Trust and Harvard Management Company, have spent the last year and a half – if not longer – cutting down relationships in their private equity portfolios, keeping only the best-performing managers and those firms that have been the most forward-thinking with regards to alignment of interests.

To get into these newly slimmed down portfolios, it’s not enough to simply tell a good story, to assemble a strong team and have a good business plan. A GP will have to demonstrate that they deserve to be there more so than one of the existing managers. With only the top performing GPs left in a portfolio, this becomes a daunting task.

Added to this challenge is the issue that in 2011, GPs are facing what could be described as a “congested” fundraising market. There is an estimated 1,300 to 1,500 funds coming to market this year, many of whom will be knocking on the same limited partners’ doors.

Despite these strong headwinds, however, the last two years have been dotted with examples of firms which have indeed been able to “beat” existing managers and earn a place in LP portfolios. The latest of these would be ABRY Partners. ABRY launched two funds in recent months – its flagship fund, ABRY Partners VII, targeting $1.6 billion, and its second advanced securities fund, targeting $1.3 billion for senior debt investments.

The firm is already positioned to close the funds well over target. ABRY ASF II is set for a final close on 31 March, and ABRY VII is expected to close later in April. In this year’s fundraising environment, ABRY’s fundraising is fairly remarkable, though it’s also not surprising; for those GPs with the strongest track records, the most consistency in returning capital to LPs, and a demonstrably clear and consistent investment strategy, the capital is there.

As mentioned, it is not just the performance of a GP that will win the backing of LPs. It is also the ability to actively strive for genuine alignment of interest between the fund investor and the manager. The actions of another GP this February – Oaktree Capital Management – may illustrate this point well.

Oaktree opted to return $3 billion of unspent capital to limited partners from its record setting “OCM Opportunities Fund VIIb”, which collected $10.9 billion. The distressed debt fund, which began investing in May 2008, had raised $10.9 billion and went on to invest the bulk of its capital in the period between the Lehman Brothers bankruptcy and the end of 2008. Oaktree founder Howard Marks tells PEI that the firm would rather give capital back than ask for an investment period extension to invest the capital in what has now become a less lucrative market. “We give people their money back and give them the choice whether to invest in the next fund,” he says.

This is the sort of move that will help GPs jostle for position as they seek to win a place in investors’ portfolios. It must also be easier to suggest an existing LP makes a re-up when you know they have just had another commitment partially cancelled.

Returning to the matter at hand – LP appetite – it may be easy to paint too grim a picture. For while there are certainly influential investors which have pared down their portfolios and are being sparing when it comes to starting new relationships, there is a growing number of institutions still looking to up their exposure and grow their programmes.

Coller Capital’s Global Private Equity Barometer published earlier this year shows that many LPs have accretive plans for their private equity programmes, with a large portion of them looking to add new general partner relationships in the next year. While only one-in-10 North American LPs who responded to the survey said they are building their programmes, European and Asian LPs are more actively adding new GP relationships, with 42 percent and 44 percent respectively building up their exposure to the asset class.