How First Reserve was hit by a perfect storm

First Reserve’s attempt to restructure its 2006-vintage $7.8 billion fund failed in August after not enough limited partners wanted to sell their stakes, according to sources familiar with the process.

Intermediate Capital Group and Pantheon bid close to par based on the 31 March net asset value for the energy-focused private equity firm’s First Reserve Fund XI, according to two sources familiar with the deal. The buyers needed a minimum of $175 million-worth of stakes to go ahead at the price they offered, out of the roughly $600 million remaining net asset value in the fund.

The transaction finally lapsed when LPs were only willing to sell around $90 million-worth of interests.

Spokeswomen for ICG and Pantheon confirmed the firms had withdrawn from the restructuring deal, but declined to comment further.

“It’s an unfortunate perfect storm,” says one source. “You’ve got an influential and upset LP, you’ve got everything trading below cost, [and] you’ve got the public markets that make it obvious where the discount is on a daily basis.”

The LP the source referred to was California Public Employees’ Retirement System, whose managing investment director of private equity Réal Desrochers wrote a letter to First Reserve in June outlining the pension’s displeasure with the deal. It is understood CalPERS’ letter mentioned that First Reserve had already collected around $500 million in management fees from Fund XI and that there were inherent conflicts of interest in a deal that would reward a manager for a poorly performing fund, according to one of the sources.

A spokesman for CalPERS says the letter sent to First Reserve was an example of the pension’s efforts to hold private equity firms accountable: “We believed a decision was made lacking the full picture.”

First Reserve will request a one-year extension for Fund XI, according to a source familiar with the firm. The process to raise $600 million for an annex fund for First Reserve’s 2008-vintage $8.8 billion First Reserve Fund XII will continue, led by Lazard, and is unrelated to the restructuring deal.

The failure of the transaction to close is a blow for both Lazard, which ran the process, and for the wider market for GP-led restructurings in the energy sector, market sources said.

Park Hill was the initial advisor working with First Reserve to explore options to restructure its poorly performing Fund XI, while Lazard was hired to raise additional capital for Fund XII. First Reserve chose Lazard to run both processes after Andrew Caspersen, a former managing director with Park Hill, was arrested and charged with fraud in March, according to the two sources. 

Fund XI had a 0.63x return multiple and a negative 11.4 percent internal rate of return as of 31 March, according to a performance document from the Oregon Public Employees Retirement Fund.

Around half of Fund XI is exposed to public stocks through master limited partnerships and therefore LPs had daily insight into the real discount to March NAVs, one of the sources said. First Reserve and Lazard declined to comment. Park Hill did not return a request for comment.