The Takeaway: A Q&A With Andy Lund on the Fundraising Landscape
How has fundraising fared post-COVID-19 ?
Over the past decade, the fundraising market for private capital in the mid-cap market has been very healthy, more than doubling since the pre-GFC levels, with the volumes of capital raised and the number of funds raising capital at an all-time high.
COVID made fundraising more challenging for a variety of reasons, particularly given the impact on physical meetings. However, the pivot to virtual actually made some elements more efficient, and indeed, virtual GP/investor meetings will likely remain a key part of the process for some time. Somewhat counterintuitively, the M&A market in 2021 was extremely strong. As such, the demand for capital post-COVID—measured by the number of funds seeking capital—was at an all-time high.
So how has the funding cycle evolved?
The recent fundraising market has slowed dramatically, beginning in H1 last year, largely as a result of market congestion. A key trend was the number of GPs coming back to market sooner than expected due to the vibrant economic environment in 2020 and 2021—particularly as a result of an abundance of deals in the growth/technology sector. As a result, we had a very bifurcated fundraising market last year, with large-cap GPs as net beneficiaries. For example, 10 buyout funds secured more than half the total capital raised, resulting in significantly less capital available for other re-ups and far less, if at all, for new relationships.
In H2 last year, the issue was compounded as a result of the marked change in interest rates, deteriorating macro, and a sharp decline in public markets. As a result, LPs faced further allocation challenges through a denominator effect, exacerbated in some sectors via a numerator effect due to high asset values in unrealized portfolios. All these elements have contributed to greater intensity of due diligence and a continued slowdown in the fundraising market. While public markets have recently recovered to a degree, easing the denominator effect, the impact of such a dramatic and likely persistent change in interest rates, and continued concerns about the global macro and geo-political environments have resulted in LPs being far more cautious about where to allocate capital and as such, we see the primary fundraising market likely to remain challenging in the remainder of 2023 and for some time to come.
What are GPs doing differently to raise more capital and what are the value-add strategies?
Private equity is a mature asset class and there are few real points of differentiation in terms of accelerating a fundraise via the narrative. GPs can offer co-investment and early-bird discounts but the key metric is perceived scarcity for a given fundraise, which by definition usually signals a sensible fund target and strong re-up demand from existing investors. This dynamic occurs as the result of strong historical and current performance, which despite all the marketing narrative, still rules all aspects of the capital raising exercise. A good track record is everything. Safe and successful GPs will be fine, though some niche GPs with less proven track records may struggle.
In terms of strategy, anything considered a beta play will be discounted. The GPs expected to succeed in this environment are those who can demonstrate the ability to find good, cash-flow-positive companies at an attractive valuation and create value via financial and operational support that isn’t predicated purely on leverage.
There are other ways of marketing a fund if you have access to different geographies or categories of investor, such as new family offices or groups looking for access to the European market. Pre-marketing shouldn’t happen three months before a launch; it should be done when you have nearly finished fundraising for the previous fund in order to build a brand with LPs in different geographies who don’t know who you are. In essence, “fundraising when you’re not fundraising.”
Will continuation fund deals continue to rise? What about the GP-led secondaries market?
The GP-led market has seen tremendous growth and activity levels but cooled more recently, largely because secondary firms became over-concentrated with single assets. Multi-asset situations became more of a focus, although we expect the single-asset CV market to reemerge with continued growth given the slowdown in the broader M&A market and the significant amount of new capital raised by secondary firms, including new entrants. If done correctly, a CV is a “win-win” for GPs and LPs and the technology is here to stay.
An additional dynamic relating to the slow-down in activity relates to valuations. The secondary market likes to invest at a discount so if, for example, you’ve got an asset or portfolio with technology exposure, there is potentially a mismatch between private and public valuations, and as such, a secondary advisor may think that it’s overvalued on that basis. This, combined with general macro uncertainty, has meant activity levels have been paused.
How has your role evolved and will GPs seek to be more discerning as to whether they have a placement agent or not?
As the market has matured, it’s more natural for GPs to have their own investor relations (IR) capability. However, we are now in an evolved market in which LPs have no money or are reducing allocations because they are hitting the denominator effect and competing with many more GPs for capital.
In turn, a mature GP may want to diversify its LP base as there’s not enough money to go around. The existential threat is enough to make them realize that in many cases—even with a modest IR function—you don’t have access to new relationships, whether in geographical coverage or type.
We are seeing more focus on the hiring of a strategic advisor, even from established GPs who normally wouldn’t use a placement agent or have their own in-house capabilities, to understand the nature of the investor base in advance, well before the fundraise. In conjunction with this is the ability to have primary and secondary teams working in lockstep as part of the strategy and identifying pockets that want to sell and create an inducement for a new buyer.
The Takeaway?
“Safe and successful GPs will be fine, though some niche GPs with less proven track records may struggle.”
Andy Lund
Managing Director