The effects of tougher fundraising conditions are likely to be felt democratically across the private equity industry – even among the very largest GPs. Data from affiliate title Buyouts showed that the pace of fundraising for North American firms slowed in the first quarter of 2022, as uncertainty, a crowded marketplace and overallocated LPs put a crimp on activity. Some 164 PE vehicles secured almost $132 billion, down 24 percent from a year earlier.
Top buyout shops have been mostly sanguine about the changed dynamics. In recent earnings calls, several listed managers expressed confidence in the unimpeded progress of their offerings, citing the growing tendency of many LPs to favour large incumbents.
This view is supported by data showing a rising share of LP capital going to fewer funds. Some investors, for the sake of efficiency, prefer to manage a handful of relationships. Some also prefer to partner with big, brand-name firms with long track records and multiple strategies. In a market where many LPs are overallocated, “at least on paper”, this long-term consolidation trend is less meaningful, says Drew Schardt, Hamilton Lane’s head of global investment strategy.
“If you’re an LP in today’s market, life is not easy,” Schardt says. “You have a lot of difficult choices to make: ‘Which managers do I lean into? Which managers do I lean out of? Do I stay the course?’” This, he says, means “the supply of capital is for a number of reasons not infinite”.
After some “difficult conversations” with their investors, PE firms may come to realise “the dollars aren’t there”, he says. GPs used to relentless fundraising and “doubling or tripling their fund sizes” might now encounter obstacles because “the customer base is out of money”.
Supply challenges – which could result in longer fundraising timelines or delayed fund launches – will not spare large GPs, Schardt says. But neither will they unduly punish smaller ones. “This is not a zero-sum game. Most LPs recognise the value of diversification, of accessing different segments of the market. They know, ‘If I’m only doing large and mega-managers, I’m missing out on alpha.’”
Jill Shaw, a managing director with Cambridge Associates, agrees. Small and mid-sized GPs are often high-performing specialists in rich deal spaces – like the mid-market – and “better aligned with LPs relative to their bigger peers”, she says. Because of this, “they are not going to get shut out”.
Moreover, GPs with platforms large enough to cover multiple asset classes do not necessarily have an edge over single-strategy firms, she says. “The best manager to employ for a strategy doesn’t live under one umbrella.”
More LP capital going to fewer funds, Shaw says, is about investors “who don’t have the resources to underwrite too many managers but want to write large cheques”. For them, very large GPs “solve a problem”. On the other hand, “LPs who don’t have to write massive cheques,” she says – such as endowments and foundations, family offices and wealthy individuals – “will play further down the fund size range, where the greatest potential for alpha exists”.
LP divergence by cheque size may lead to more “bifurcated” fundraising, with “big and small GPs having a different investor set”, Shaw says. In this scenario, there will be big LPs, among them pension systems, “trying to live in the middle” to gain exposure to specialists.
In the small GP cohort, one group likely to be hit hard by an LP dry spell is emerging managers. Investors, with their greater focus on re-ups and managers they know well, “will be forced to neglect new relationships”, Shaw says.
A pause in the non-stop, intensive fundraising of recent years is perhaps appropriate considering the deal market is also less robust than it was, Schardt says. “It is not the worst thing in the world. This might not be the time to go all-in or all-out.”
“If an opportunity set is not there, why raise a fund?” Shaw asks. “You shouldn’t be fundraising merely because LPs are willing to write you cheques. I question whether some of the very largest GPs have demonstrated the discipline to sit on the sidelines.”
As fundraising challenges are mostly relevant to private equity, GPs specialising in other asset classes should continue to find opportunity, Schardt says. LPs concerned about price pressures, for example, will demand inflation-orientated strategies – such as private debt and real assets.
In a quieter environment, GPs may also become more creative, he says. Some will offer additional co-investment opportunities to LPs as a way to “stretch the fundraising dollar” and “extend the runway a bit”. For managers taking this step, this could prove a “key differentiator”.