Q3 2019 - Considerations for Launching Your First Private Equity Fund
September 25, 2019
There are many things to consider when you’re preparing to launch your first private fund – beyond finding lucrative deals. Focusing on and thoroughly preparing for the questions that prospective investors will have, to encourage their investment, is critical to your success.
Determining the firm name and choosing who you will join with to make up the new general partnership are early decisions that require careful consideration. Are you spinning out of your most recent firm with a team that is tested and has worked together before, or are you piecing together a team from multiple firms? If the latter, have you worked with this group of investment professionals before? Are you spinning out of a firm that has a reputation for excellence with a known name in the marketplace?
Do you have performance information that can (legally) be used in your marketing documents? If not, can you obtain your track record from your prior employer(s)? Does this performance data (whether cobbled together from a few individuals’ respective deal performance or reflective of a long-time team record) constitute the coveted three-year track record that many institutional investors prefer? If not, will you be able to garner enough interest from high net worth individuals and family offices, who are able to invest outside of such criteria if compelled?
Separately, how popular is your investment strategy, given the current place in the market cycle? Are investors eager to allocate to this strategy or is it currently less favored? If the latter, does a more contrarian discussion carry weight among a set of investors? Also, does the strategy fit into a classic strategy bucket (i.e., private equity, credit, infrastructure, real estate)? So often institutional investors need to allocate investments from specific pools of capital.
How differentiated is your strategy? Consider if you are possibly trying to be too unique for a first fund, to the point that an investor’s board might have to give your chosen strategy or structure special consideration (outside of the simple fact that it is a first fund and therefore potentially riskier). What liquidity profile and terms are easiest to promote right now and are you able to match them to help streamline an investor’s decision?
As many new GPs look for anchor or seed capital, what kind of fee discount will you consider granting for a large initial investment? Think carefully about how much money you need to ‘keep the lights on’ during the initial start-up years and therefore what kind of discount can you realistically afford. Are you aware of emerging manager platforms run by large institutional pension plans that could give your fund additional credibility in the market, if chosen for investment?
An investor’s faith in a manager is sometimes based on prior crossover at a legacy firm. Do you know investors from your previous companies that you are (legally) allowed to seek out? Should you be lucky enough to win a large institutional client, where will the remainder of the target AUM come from? It’s wise to diversify your client base away from one concentrated investor, as the whims of such an investor could adversely impact your firm’s future stability, depending on the terms and dynamic.
It’s also crucial to ensure you have the right service providers in place so you can focus on the fiercely competitive business of investing and delivering performance. Generally speaking, you will need a reputable law firm to structure your initial fund documents. If you don’t want to do all the capital raising in-house, a placement agent that works with emerging funds would be a wise consideration. Placement agents generally structure the fundraising effort from an administrative perspective, putting together roadshows and marketing documentation among other helpful services in line with industry fundraising norms and expectations. Given that employees at start-up firms generally ‘wear many hats’, extra support may be critical.
Institutional investors prefer an outsourced fund administrator to facilitate the books and records of the fund as well as the back-office work that you may not have time for given other first fund demands. An outsourced fund administrator can lend technical expertise and be a trusted right-hand around best practices. Selecting an audit/tax firm is critical too, and an outsourced compliance outfit also makes sense given the increasingly complex regulatory considerations. Relative to the past, there are many more options to consider as you look to outsource various divisions and tasks.
You should consider an outsourced provider that works well with emerging managers and your investment strategy, ensuring that you receive the solid service you need as you grow. An error-proof, detail-oriented and secure service, complete with attentiveness to your timeframes and needs, is critical to new general partners looking to impress investors in the long term.
Engaging Alternatives – Q3 2019