The new kids on the block

Raising a debut private equity fund is notoriously hard so it is little surprise that not many teams attempt it. Many LPs will have other priorities than meeting with newly established fund managers believing they could become the next David Rubenstein or Stephen Schwarzman – especially in the aftermath of the collapse of Lehman Brothers.

But as the fundraising market has improved, more spin-outs and first time teams have been – or are indeed currently – trying their luck on the fundraising trail. Take Beyond Capital Partners, a recently established private equity firm. The firm is currently in market attempting to collect €100 million for its debut fund, which it will use to invest in Mittelstand companies in the DACH region.

Meanwhile, GENUI Partners, a team consisting of a number of former EQT-executives, is currently in market attempting to collect between €400 million and €500 million, according to sources familiar with the matter, while Mayfair Equity Partners, established by LDC’s former head of the London office, Daniel Sasaki, is attempting to raise £350 million for its debut fund, according to a source with knowledge of the firm.

And then there is Global Healthcare Opportunities Capital (GHO Capital), a healthcare-
focused firm founded by Dennis Gillings and Mike Mortimer, both formerly at Quintiles, a global provider of clinical trials to the pharmaceutical industry. The team, which also consists of Alan McKay, a former global head of healthcare at 3i Group and Andrea Ponti, former global co-head of healthcare at J.P. Morgan, is looking to collect $500 million for its maiden fund.

Unless such firms have an anchor investor, raising capital can however be extremely difficult for first time teams, according to Sunaina Sinha, partner at placement agent and advisory firm Cebile Capital. “Most placement agents are wary of raising first time funds, unless there’s an anchor investor, a solid first close and good GP-LP alignment – i.e. the GP has also committed a significant amount of capital to the fund,” she says.

Unsurprisingly, LPs are extremely careful about first time funds. Approximately 8 to 9 percent of institutional investors based in Europe and the US that are currently investing in private equity are able to invest as a first close investor in first time funds, according to data compiled by Cebile Capital. And a paltry 5 to 6 percent of institutional investors based in Europe and the US currently investing in private equity have a preference to only consider spin-out managers, according to Cebile.

DOING YOUR HOMEWORK

LPs have to be very cautious and perform very deep due diligence on first time funds, says John Gripton, a managing director at Capital Dynamics. “When people come together from different organisations, the big question you have to ask is; will they be able to work together? It is also very difficult to verify their track-record. Therefore Capital Dynamics would spend a lot of time with spin-out teams before we would consider committing.”

This is perhaps why some firms just haven’t managed it. Proton Equity Partners, a Swedish private equity firm, abandoned its fundraising efforts in 2013 after failing to attract sufficient investment, PEI revealed at the time. In addition, AAC Nordic, the Scandinavian team of AAC Capital Partners, tried to raise €150 million for its debut Nordic fund, PEI wrote in June 2013, but reportedly put its fundraising plans on hold last year.

Yet there are teams that have managed to raise debut funds successfully. Take Castik Capital, a Luxemburg and Munich-based firm, for instance. Led by Michael Phillips, a former equity partner at Apax Partners, Castik has collected €1 billion of capital to invest in Europe, having held a €625 million for its debut fund in June 2014, according to Castik’s website. Adelis Equity Partners, a Nordic lower mid-market firm founded by former Triton executive Jan Åkesson and former 3i executive Gustav Bard, sprinted to its SEK 3.6 billion (€410 million, $550 million) hard-cap for its maiden fund back in 2013. Last year, 26 debut funds were raised in Europe, collecting a combined $3.97 billion, according to PEI’s Research and Analytics division.

One reason why these funds have been able to raise is a change in market conditions. Two years ago, many investors were overcommitted to private equity and they were waiting for capital to be returned to them, leaving LPs with limited resources to commit, says Gripton. “But in recent years, investors have been getting a lot of distributions from very successful realisations, and as a result, many investors are under-allocated to private equity and can therefore start to look at new opportunities.”

LPs are more open to consider spin-outs now than they were five years ago, agrees Sinha. “Pension funds and endowments have too much cash sitting in their portfolios and they need to put that to work. Of course, many LPs can re-up with their existing teams, but a lot of them are having to look at new GPs or new relationships.”

And backing a newly established GP can sometimes be beneficial. “You can get breaks on fees and carry, or LPs can get a portion of the GP as a first close investor, so LPs can often get a good deal out of such investments,” says Sinha. If you get the right group, backing spin outs can yield good results, says Gripton. “There are also risks with the tried and tested teams; a firm could have raised too much capital and may be struggling to invest it, or the team has become very wealthy and is not really incentivised to continue. Therefore you also have to look for the managers that will be the GPs of tomorrow.”

What’s more, if a GP does turn out to be the next David Rubenstein, LPs could lose out. “If you don’t back some of the new managers, and they have done very well with their first fund, then their second fund may be oversubscribed and it will be difficult to get access to that fund,” says Gripton.

All told, the probability of raising a successful spin-out is low and will continue to be low, according to Sinha. And it should be that way, for the sake of the market, she argues. “But are we going to see more spin-outs in the market? Yes, because the fundraising market hasn’t been better in the last five years and this is the best time for new teams to try it.” ?