Why missing your target is a nuanced affair in the eyes of some LPs

There are subtleties when it comes to how investors treat funds closing wide of the mark.

For a handful of years, fundraising press releases wrote themselves; the words “oversubscribed”, “first and final close”, “significantly larger than its predecessor” were easy wins for flacks.

Today those days are long gone. Last month, we reported on the dearth of oversubscriptions among private equity funds. This week, we wrote about the perception of what is viewed as a successful raise in this current environment has been recalibrated altogether.

A vehicle that can now reach its original target within a year of launching would be a decent outcome, according to Karl Adam, partner at placement agent Monument Group. That means no massaging figures down when you realise you aren’t going to hit your goal, to be explicit.

The uniting words from LPs PEI spoke with this week were “it depends” when it comes to what constitutes a failed fundraise. The placement agents we spoke with agreed: responses varied from a fund not hitting its target being forgivable to closing below target being perceived as a failure.

Two key themes did emerge in discussions: investors want to be kept in the loop before and during fundraising and they want managers to be cognisant of the time they spend in the market (hot tip: LPs do not want you out there for too long as they want you to be focusing on investing and monitoring your portfolio). More on that next week as we continue our coverage into the nuances of fundraising target misses.

Even if managers believe the sky’s the limit when it comes to fundraising targets for their particular strategies, our conversations with market participants suggests it is always prudent to take a cautious approach by setting a modest target.

For those that do come below target, the proof will be in the returns they produce. As some LPs pointed out, the valuation correction may play in a manager’s favour, both in terms of the gains that can be reaped via value creation and the fact that the deals funds can invest in are cheaper, so more can be done with less.

It’s been well documented that the denominator effect coupled with slow distributions and steady capital calls are causing headaches for LPs. Those more experienced know this phenomenon is usually helpful over the long term because private equity managers are buying assets at lower valuations, and recession vintages outperform, Greg DeNinno, head of US-based multi-family office Pennington Partners’ private equity platform, told us.

Because there are lower valuations today compared with a year or two ago, particularly in some market segments, closing on a smaller amount than targeted may actually not be such a bad thing, say some LPs. A step up in fund size between vintages from $1 billion to $1.5 billion when valuations are down 25 percent is akin to doubling the fund’s size in this regard, Daniel Winther, head of private equity and infrastructure at Swedish life insurer Skandia Asset Management, points out.

“The best comparison to now are the 2001 and 2010 vintages, that both came [around] two years after a market peak,” DeNinno said. “Many GPs then raised smaller funds but went on to resume growth over the longer term. However, there were far fewer PE firms back then and many of the firms from that era are no longer active.”

For those managers that have closed under their targets, the hard work begins to make sure they’re in the outperformance category for this vintage.

– Helen de Beer, Adam Le and Carmela Mendoza contributed to this story