Nice work if you can get it

The current increase in fundraising activity is good news for placement agents. But intense competition for mandates and a sharpened focus on professional standards means a shakeout in the industry is likely to occur, writes Philip Borel.

Global private equity is in fundraising mode. After 24 months of intense capital deployment driven by an unprecedented push on the world's M&A markets, droves of general partners are going back to institutional investors to refill their coffers. In the world's key money management centres, the airport lounges are playing simultaneous host to numerous fundraising GPs. Even in more remote locations, sightings of private equity managers looking for fresh commitments are increasingly common – as long as you happen to be in the hometown of a US state pension headquarters, a Scandinavian insurance company or a family office in the Middle East.

On the buy side, investors are surveying the host of new funds coming their way with just as much intensity. Yield-hungry institutions are betting that private equity can provide at least part of the answer to their performance-related difficulties. However, the positive inclination towards the asset class does not mean money is being thrown at private equity groups indiscriminately. According to practitioners familiar with the current institutional investor mindset, limited partner due diligence on new funds is as detailed and scrupulous as it has ever been. “Limited partners have never been busier,” says John Barber, a director at London-based fund placement advisors Helix Associates.

As a result, queues of managers are forming outside limited partner offices. Fund raising general partners are all too aware of this, and they also recognise that the process as a whole is becoming more and more complex. LPs are developing a more differentiated understanding of how they want to participate in the asset class and which types of – as well as how many – manager they want to work with. Gone are the days, therefore, of general partners being able to take a cavalier approach to their fund raise and, more broadly, to their investor relations. For a number of years now, the trend amongst the bigger private equity groups has been towards building dedicated, in-house fund placement and investor relations capabilities, headed by senior members of the partnership who have deep knowledge of the theory and practice of the fundraising process as well as the inner workings of their firm.

At face value, this trend appears to be a threat to placement agents, those middlemen (and women) making a living out of helping to persuade investors to entrust their capital with specific funds. The less knowledgeable of the fundraising process their clients are – placement agents get paid by the managers they represent – the greater their need for billable services. Disintermediation, arising from this growing number of general partners busily honing their DIY fundraising skills, is eroding the ground on which many a private equity fund placement business model has been built. Or as one head of IR at a recently fund raising partnership put it: “Why buy a dog and bark yourself?”

Are placement agents an endangered species then? At first glance, there is no evidence of them disappearing from view. Of the many new campaigns being launched every year, only the very largest LBO groups (Bain Capital, Permira, Providence and BC Partners to give some recent examples), uber-popular North American venture funds (Sequoia and Kleiner Perkins come to mind) and the doyen of multi-strategy, serial fundraising, The Carlyle Group, appear confident enough to brave the market entirely on their own. And even some of these firms have been known to deploy an external fund placement specialist on a particular mission – such as tapping a new community of investors.

The high flyers aside, most managers still retain the services of outside advisors, regardless of how much in-house resource they may already have put in place. The challenge is to how best segment this market of potential clients. One fund placement veteran describes his universe of prospects as comprising every private equity group on the planet minus the top 10 percent of indemand partnerships that are able to raise any amount of institutional capital more or less at will, as well as the 30 percent of managers who the buy side will refuse to back; the remaining 60 percent will require hard work that will ultimately pay off – which is where this particular agent sees his profession's sweet spot.

The reason why the majority of GP groups still favour using an agent is simple: even the most dedicated investor relations professional at a private equity firm is unlikely to be as permanently engaged in dialogue “with the market” as a placement agent looking after a portfolio of client relationships. As a result, the inhouse specialists may find it more difficult to keep track of exactly how a given limited partner's attitudes and investment requirements are shifting over time – especially if the limited partner in question is not an existing client but someone the manager would like to bring into a future partnership. Access to a placement agent's first-hand knowledge of the shifting patterns amongst the buy side can be a powerful supplement to in-house relationships and know-how.

MORE TRAFFIC, MORE BUSINESS
It goes without saying though that different managers are hiring placement agents for different reasons. For example, a previously captive group of managers spinning out of a large institution to raise capital from third-party investors for the first time has substantially different marketing and positioning needs than an established partnership seeking to address specific issues prior to raising, say, Fund III. Introducing the former group to the institutional market place for the first time is a radically different task from helping the latter to assess whether the existing limited partner base and its risk and return profile are optimal given the group's investment objectives, or whether in terms of types of investors or geographic mix improvements for the new fund are in fact necessary. And even in the event that either group might feel wholly on top of the fundraising task at hand, the likelihood is that an agent will still be called in “as an insurance policy”, as general partners are fond of putting it.

Manager attitudes towards placement agents may also differ depending on where in the world a GP is located, as any fund placement consultant with experience of working in different geographies will tell you. According to a London-based placement specialist representing a firm with a transatlantic franchise, European groups looking to broaden their networks outside their home markets tend to appoint an agent earlier on in the process, have them prepare the placement material ahead of time and expect swift execution once the fundraising is underway. US groups on the other hand are less likely to take such an organised approach, he says: “US GPs tend to hire agents late – often it's the last man through the door who wins the mandate.”

The fact that service requirements and patterns of behaviour differ so markedly from one GP to another means that placement agents cannot afford to take a one-size-fits-all approach when pitching for, let alone executing, new mandates. They must carefully select which managers they ought to represent and, once an assignment has been secured, craft a strategy that is tailored to the manager in question. At a time when detailed databases of institutional investors are increasingly considered commodities, a demonstrable ability to formulate a campaign plan based on a client's key strengths and to present it to the right set of prospective investors is arguably a successful agent's most important asset.

As Mounir Guen, founder and head of London-headquartered placement operation MVision, puts it: “The key is to understand the composition of a limited partner's private equity programme: what does the current exposure look like? What else do they need?”

The more effective and time-efficient a chosen strategy, the more credit the agent will be given. “Contacting too many LPs is counterproductive, as it wears out the GP, making him less effective… ” notes Douglas Miller, founder of UK-based fund placement group International Private Equity Limited. “It's not the number of people you see, it's the number of cheques written. What counts is the conversion rate.”

Market participants also complain that cutting fees has become more commonplace as competition has intensified

MVision's Guen agrees: “The selling model of old is dead. Fund placement is not about executing a calling programme. If a client really wants us to call 1,000 people, we will. But the reality is that fund placement has become much more sophisticated and process-driven than that.”

To GPs, effective handling of the process becomes more valuable the more traffic there is on the fundraising trail. Given that congestion is hardly avoidable in the current market, providers of high-end fund placement services are experiencing strong demand for what one GP described as “quality face time with quality LPs”.

PRESSURE ON RATES, NEGATIVE SELLING
Pricing these kind of services isn't straightforward, however. The market's standard fee of two percent on new capital raised obviously remains highly attractive to those able to charge it. However, the formula is best applied to first-time funds and spin-outs, i.e. groups that also come with significant risk. Established firms on the other hand will want to establish some new relationships but not many, and so much of what an agent can contribute whilst working with them, as Barber at Helix notes, becomes “intangible” – and hence more difficult to price.

What's more, negotiating adequate compensation for a partial mandate (such as handling the logistics of a campaign or drafting documentation for instance) or a full placement assignment is currently made difficult by fierce competition for fundable deals, competition that is showing no signs of abating. Different types of organisations are involved: a pack of international investment banks, led by CSFB Private Funds Group and also comprising UBS, Lazards, Merrill Lynch, Citigroup and to a lesser extent Lehman Brother s, are competing for placement mandates against a raft of independent entities which differ substantially in terms of size, strategy and geographic reach.

Unsurprisingly perhaps, GPs say that the difference in quality of service providers they encounter in the market is significant – a point that placement agents often make as well. “Fund placement is still a notionally attractive business to enter and often seen as money for old rope – which it is not,” declares Barber (with perhaps a degree of self interest). “If we weren't an established firm already, I wouldn't want to start today.”

Market participants also complain that cutting fees has become more commonplace as competition has intensified. But pressure on pricing isn't the only consequence of placement professionals aggressively jockeying for position. As the fight for LP attention intensifies, more contenders appear prepared to fight with everything they have to try and make sure nothing is blocking their client's path to institutional capital. “Fundraising is becoming more and more like US presidential elections,” says a placement veteran. “There is a lot of negative selling going on.” Another professional interviewed for this article agreed that backstabbing was becoming more common as fundraising activity was picking up.

Fund placement arguably requires those making a living out of it to have fairly robust constitutions, so tales of aggressive sales techniques being employed should not come as a shock. However, rubbishing the competition rarely creates a positive impression among customers and, as fund placement evolves, is unlikely to remain as a permanent feature of the industry.

FLIGHT TO QUALITY
More likely is the long-anticipated reduction of active contenders in the market. “We've seen the coming, but we haven't seen the going – yet,” says an experienced placement specialist. But the expectation has to be that the buy side's ongoing flight to (perceived) quality fund managers will take a toll among fund placement intermediaries as well.

What is already evident is that the most successful general partners are gravitating towards the most respected placement agents, be they on the investment banking or the boutique side of the industry. Going forward, expect to see top-tier general partners to be traveling alongside toptier fund placement advisors and vice versa – and to prove more effective in fundraising terms than less highly ranked rivals. As a result, the gulf between haves and have-nots in the fund placement industry can only widen too.

For placement specialists to secure and defend a seat at the top table will require a mix of corporate finance expertise, integrity, people skills and professionalism. As a matter of fact, few placement agents will tell you that their backgrounds equip them to undertake rocket science. Much more likely is a statement such as this from MVision's Guen: “Placement agents should be loyal, long-term friends of their clients, straight shooters who put it as it is. One shouldn't shy away from telling a GP they're not presenting well. With the LPs, it's important to set the record straight. If someone says no to a fund, follow up – not to flog a dead horse, but to make sure they declined for the right reason.” Or as Barber at Helix puts it: “It takes a lot of work to maintain standards, but much of it boils down to some fairly simple things: tell the truth; follow up; do what you said you would.”

Managers undertaking some due diligence on placement advisors should bear these messages in mind. There is a limit to the number of placement agents with reputations for all of the above. And it's these agents that GPs should seek to partner with. It's then just a question of whether the agent wants to partner with you.