Carried Interest

Tight Bomb Patterns

GP — 2011-02-02T12:24:30+11:00

Photo credit: Gabi Max

This morning I had coffee with a lady from one of the emerging Asian private equity fund of funds. She told me that her team considers the Australian LP obsession with management fees quite bizarre. I am hearing this from every side at the moment.

There is a growing sense that our local LPs would rather negotiate low fees than deploy their capital in high quality private equity funds. I can’t help remembering Colonel Cathcart in the novel Catch-22, who encouraged the squadron chaplain to pray for “tight bomb patterns.” Whether or not his bombs hit a target was irrelevant to the mad Colonel, it was achieving tight patterns that mattered. Tight bomb patterns would look good on the aerial photographs and hopefully attract the attention of the top brass.

Overseas, management fees are relatively far down the mid-market LP agenda. To quote Sandra Pajarola from Partners Group*, “When investors complain about fees, they are mostly talking about huge funds. But there are only about ten of those globally.”

Australia is a strange outlier in this respect. Many of our LPs appear absolutely obsessed with management fees. It’s not uncommon for them to raise the question of fees in the very first meeting or phone call. So why is this? I have a few theories:

Just 4 - 5 asset advisors control the majority of Australian LP capital. A strong personality or thought leader can have an influence on industry terms and conditions that would be impossible in the United States or Europe.
Perhaps ironically, the earliest financial backers of Australian private equity were large union retirement funds. They are notoriously fee conscious.
Our super (pension) funds are required to publish fund management expense ratios, or MERs. Unfortunately they often measure MER on drawn down, rather than committed capital. On this basis PE management fees will always appear disproportionately high and may draw the attention of the fund trustees. It takes a long time to discover whether a PE team has delivered good performance, but the management fees are evident on day one. And fund trustees are the top brass.

In the long run Australian LPs will lose this fight. The best performing managers will increasingly raise their money offshore (witness Quadrant’s latest fund) and Australian LPs will struggle to access the local top quartile.

. . . at least they will have their tight bomb patterns.

* Quoted in Private Equity Findings, London Business School | Coller Institute of Private Equity

More Private Equity Ping Pong

GP — 2010-08-16T11:55:02+10:00

Photo: K Gradinger

Greg Minton (Archer Capital), Robin Bishop (Macquarie Capital) and Greg Clark (Westpac) discuss secondary buyouts in The Australian:

MINTON: The other factor is management. They’re a stakeholder, a shareholder. They are trading off going through the grief of being publicly listed with going again with a different private equity investor. Many are asking if they can go and find another private equity buyer that might back my team for the next five years. So the secondary market is also being driven by many management teams saying they enjoy this environment. It seems much more user-friendly than the public market.

BISHOP: I think the issue of one private equity firm selling to another private equity firm says more about the issues associated with the listed market than it does about the private equity market. The listed market will be thinking of how it can ensure it gets quality businesses on our exchange. Listed companies come under tremendous public scrutiny, personalisation of management, media reviewing every step they take. Whereas if you’re a manager working for a business owned by private equity, the focus can be on the business to a greater extent. How much time would a CEO of a listed company spend talking to investors, dealing with media, etc? It’s enormous.

CLARK: As a lender we like the secondary buyout story because it’s a company that’s lived with a leveraged finance debt structure and the focus on cash flow that this requires. Management is used to the demands.

Private Equity Ping Pong

GP — 2010-08-12T13:28:25+10:00

Photo: CM.Yong

Investors in private equity funds are at best ambivalent about the practice of firms selling their portfolio companies to other PE managers– a "secondary" buyout.

The debate around secondaries is especially fierce in smaller markets like Australia because our LPs are exposed to a larger proportion of the active private equity funds than their American or European counterparts. If you're an investor in CHAMP's fund then you're probably also in Ironbridge, Quadrant and PEP.

LPs typically raise two concerns about secondary buyouts:

I'm an investor in both the selling and the buying fund. One team claims that they've sold out for an outrageously high price, but the other manager says he's stolen the company. Both can't be right, so is there any reason why I should be happy?
Even if I'm not a seller and a buyer, is this even a good investment? If a private equity firm is selling haven't they already extracted the easy value from this asset?

As the Australian market has matured secondary activity has steadily increased. Examples that jump to mind are GenysisCare, Loscam, Taverner, APP, Bluestone, ATF, Study Group, and WorldMark.

Despite the discomfort with secondaries among LPs and the poor performance of some recent transactions, I'm calling a secondary buyout boom over the coming months. The IPO window is firmly shut, there are 150+ companies sitting in Australian private equity hands . . . and the clock is ticking.

Gathering dust

GP — 2010-08-10T22:24:12+10:00

Photo credit: Tormod Sandtorv

I was tidying up the bookshelves this evening and came across a real vintage piece, some serious nostalgia: a 1998 edition of the Australian Venture Capital Guide.

In truth, at least by today's standards, Australian private equity barely existed back then. It's disconcerting to reflect on how much has changed in just 12 quick years. This was before Pacific Equity Partners, before Ironbridge, before Quadrant, and long before global firms like KKR and CVC arrived. This was before Australian law firms had private equity specialists, before the accounting firms had TS divisions, and before any of the local banks had proper financial sponsors teams.

We were still a bunch of learning-on-the-job venture capitalists. Only a handful of firms had actually used debt in a PE deal. Get this: of the 87 firms that claimed to be venture capitalists, only 14 had more than $100m under management . . . and some of them were stretching the truth!

Just five real private equity firms from 1998 are still in business today: Advent, Archer (GS Equity), Catalyst, Equity Partners and CHAMP (Aussie Mezz).

Fund Raising Watch - #3

GP — 2010-08-03T14:51:39+10:00

It has been a year since I wrote a piece called Australian Survivor . . . Fund Raising Watch.

At that time there were about ten Australian or New Zealand PE firms in the market seeking to raise a fund. They included:

CHAMP
Direct Capital
Anchorage
Gresham Private Equity
Tasman
Mainridge
Propel
Harbert Australia
Pinnacle Private Equity
AMP Private Equity

So how has it played out? Was the 2009/2010 fund raising vintage as challenging as I feared it would be?

Sadly, it was actually even worse. Just three of the firms, CHAMP, Direct Capital and Anchorage, successfully closed new funds. Hooray! Well done guys.

For the others it's been an ugly twelve months and some must be facing tough decisions. It's well known that AMP Private Equity and Mainridge are managing out their portfolios and exiting the industry. And I hear that Propel has formally suspended their fund raising activities.

Will 2010/2011 be any brighter for private equity fund raising? At the moment it's very quiet out there. Allegro is trying to raise $200m and off the back of their success with the ABN AMRO portfolio will probably succeed. Clark Perkins' Mercury Fund is seeking $100m from high networth individuals and has already reached a first close thanks to strong New Zealand support. And Blue Sky Private Equity has recently kicked off a $50m raising.

The real test will come in the fourth quarter when a number of "franchise" firms return to the market for new capital. These are expected to include: Ironbridge, Quadrant, Champ Ventures, and Crescent Capital.

Confessions of a Fund Raising VC

GP — 2010-07-26T14:05:59+10:00

Photo: D Nevill

Well known venture capitalist Alan Patricof has written an excellent Business Insider article which gives a warts and all account of his firm's recent private equity fund raising experience. Mandatory reading for anyone brave enough to be considering the process.

"We had 515 contacts, of this, roughly 250 passed for various reasons and 100 were non-responsive. We had 154 visits, 97 due diligence requests, 33 second visits, and 12 reference requests, to ultimately produce 9 institutional investors.

That’s less than a 2% yield of all contacts and 6% of first meetings."

Sell your business the Private Equity Way

GP — 2010-07-16T20:54:35+10:00

Photo: Zoomar

A reader asks: In the next six months I'm going to try and sell my business. As a private equity investor can you suggest things I should do to prepare?

Here are my Top Ten suggestions (and I'm sure fellow readers can add others):

Hire advisers who buy and sell businesses for a living. Yes, they'll charge a lot more than Fred who does your tax return, or the neighbourhood lawyer who sold your house, but it will be money well spent.
Dividend out all excess cash well before the sale process begins. Smart buyers will always go after the cash sitting in your business.
Try to resolve outstanding or pending litigation. It may even be worth taking a financial hit to remove litigation which could scare off potential buyers or result in a tough warranty/indemnity/escrow regime.
Address leadership succession issues well before the sale process begins. No smart investor wants to buy a business from a retiring founder. (See my previous post on this topic).
If your inventory controls are loose, complete a professionally supervised stock take. Your goal is to build buyer confidence, and that means avoiding surprises.
Make an effort to collect overdue debtors. It's unlikely that the buyer will pay for accounts receivable which are dated (depending on your industry, this typically means 90+ days).
Sell obsolete or slow moving inventory, as well as any surplus assets. Again, the buyer probably won't give you value for these, so try and monetise them before you start marketing your business.
Remove those embarrassing “personal" assets from the balance sheet. Come on, you know what I'm talking about. Your daughter's computer, the boat you never used for customer sales events, the car you ex-wife drives . . . time to clean it all up.
Ensure that property leases are arms-length. Buying a company where the seller is also the landlord is an uncomfortable, but common, situation. If your company's buildings are sitting in the family trust, at least put in place a proper lease on typical market terms.
Run a competitive sale process. As a private equity investor I hate to admit it, but I've rarely seen an exclusive sales process which generated the best possible financial result for the seller. Getting an offer from several buyers will not only almost always drive up the sale price, but it may also give you a range of different transaction structures to consider. I've seen situations where a seller went into a process expecting one outcome ("I'm selling out to the highest bidder and retiring") and ended up choosing a totally different structure ("I'm selling half my stake and staying on for five more years").

Exit stage left

GP — 2010-07-06T19:10:03+10:00

Photo credit: den99

Nice to discover that people still read this blog! I've been asked whether there have been any private equity exits in Australia/NZ this year.

The answer is, yes, a few, but half of them have been secondaries to other PE firms. The Australian IPO market is virtually closed for business which has probably delayed a number of highly anticipated portfolio company sales (Manassen Foods and REDgroup Retail spring to mind).

I could only come up with seven PE exits. Have I missed any?

Exit	Private Equity Firm
SCADAGroup	Advent Private Capital
KraMar Pets	AMP Private Equity
Neller	ANZ Private Equity
Study Group	CHAMP Private Equity
Mastermyne	CHAMP Ventures
ATF	Quadrant
WorldMark	RMB Capital Partners

Private Equity is Back From The Dead

GP — 2010-07-06T13:16:51+10:00

Photo: Daniel Hollister

By my count 16 new private equity deals were completed in Australia/NZ during the first half of 2010. Not bad for an industry that looked very sick indeed just 18 months ago.

Investment	Private Equity Firm
ATF	CHAMP Private Equity
Actrol	Catalyst
Lorna Jane	CHAMP Ventures
Bayleys	Direct Capital
Landis + Gyr	DLJ Merchant Banking
HRV	Equity Partners
Insulpro	Maui Capital
WorldMark	Navis Capital
Energy Developments	Pacific Equity Partners
Carbon Energy	Pacific Road Capital
Study Group	Providence Equity Partners
Media Monitors	Quadrant
Australian Medico	Riverside Company
Boost	Riverside Company
Byron Group	Wolseley Private Equity
BagTrans	Yarra Capital

The Placement Agent . . . helping slay the dragon

GP — 2009-09-14T20:18:47+10:00

Photo credit: Wili Hybrid

A reader asks: what fee does a placement agent charge?

A placement agent helps private equity firms raise an investment fund as quickly and painlessly as possible. Some well known players include Helix, MVision and Probitas. In Australia two boutique agents are active, Principle Advisory and Brookvine.

The best placement agents provide their fund manager clients with a wide range of services. For example, most agents:

Help define the fundraising strategy and address weaknesses in the story
Develop the marketing materials such as the presentation deck and the PPM
Coach the team on presentation skills to ensure the pitch is succinct but compelling
Pull together fund due diligence materials and set up a data room
Introduce potential LPs who have been qualified and are seeking to invest. Importantly, the agent should determine the order in which LPs will be approached because some investors are more likely to lead a first close or bring a "market brand" to the fundraising
Advise the manager on fund terms and assist in finding a middle ground with the LPs
Play travel agent by scheduling roadshows, booking flights, and generally ensuring that the process is as efficient as possible.

In answer to your question: placement agents get paid a lot. They normally receive a percentage of the money they help raise . . . 2% - 2.5% is the typical range. The fee paid will be lower if the agent does less for the PE manger (for example, just makes LP introductions).

The placement fee is usually paid over a couple of years, so the GP can use management fees to cushion the cash pain. Some agents take a portion of their fee in equity, that is, they reinvest it in the fund as an LP. This is an increasingly popular model because it minimises the upfront cash drain on the manager and also closely aligns the interests of the agent with the investors that he has introduced.