Big Names Serve As Capital Magnets

The entities that have traditionally served as anchor investors for first-time funds are much more skeptical and fearful these days, said Michael Sotirhos, a partner with Atlantic-Pacific Capital, a Connecticut-based placement agency. “In a bull market, a number of these first-time funds would get funded in a heartbeat.”

Yet a number of fresh faces have managed to raise money, even if they took more than a few heartbeats, and ended up falling short of their original targets. Buyouts has identified 11 emerging firms, often defined as those raising their first, second or third institutional funds, that have raised or are in the process of raising their debut vehicles (see table on page 23). Altogether these firms have secured about $8 billion of the roughly $13 billion that they are seeking.

The common thread running through the most successful of these fundraisings? They tend to be spinout teams associated with big names in the industry; either the founders themselves, the firms they previously worked for, or their anchor investors.

To be sure, firms launched with the help of big names also provide plenty of cautionary tales. David Stockman, a former budget director in the Reagan administration, and then a founding partner of The Blackstone Group, left that firm in 1999 to start his own private equity shop, Heartland Industrial Partners. Although he easily raised $1.4 billion from the Michigan Department of Treasury, Ontario Teachers’ Pension Plan, and other institutional investors, Stockman’s strategy of buying underperforming companies in industries such as auto parts and textiles crashed and burned. Stockman eventually ceded control of the firm to his partners in the summer of 2005. He was later indicted on charges of accounting fraud related to one of Heartland’s portfolio companies in 2007, although those charges were dropped in January of this year.

“While personnel is a consideration when evaluating a new investment opportunity, it is only one of many considerations,” said Ricardo Duran, spokesperson for the California State Teachers’ Retirement System. “We evaluate every opportunity on its merits and whether it fits into our strategy,” he added.

Still, institutional investors seem to gain comfort from associations with big names, and from scenarios where the members of the spinout team have worked closely with one another before, removing one of the primary risks of backing newer groups. Perhaps the most recent spinout group from a big-name firm is the six-person team that left Cerberus Capital, of their own volition, to form Philadelphia-based Tenex Capital. Michael Green, Varun Bedi, J.P. Bretl, Joe Cottone, Helge Jacobsen and Chad Spooner have not yet decided on a target for the turnaround fund they intend to raise, but they have hired Atlantic-Pacific Capital as placement agent, a source with knowledge of the situation told Buyouts.

Having a big name behind a new firm is definitely a compelling differentiator for teams raising first-time funds, said Sotirhos, although he noted that even these groups are taking a long time to complete their raises. Two names that spring to his mind are Tom Lee, who left his eponymous firm, Thomas H. Lee Partners, in late 2006 to found Lee Equity Partners, which has so far raised more than $1 billion toward its $1.5 billion target, and Howard Newman, who left Warburg Pincus in 2006 to found Pine Brook Road Partners, which closed in April on $1.43 billion, just shy of reaching its target of $1.5 billion after about two years of fundraising.

“Clearly Tom Lee is an industry luminary,” said Sotirhos, “and people will invest with him regardless of market conditions or what his venture looks like. Howard Newman is another guy that brought a lot of LP relationships with him. It makes a big difference.”

Successful Funds

Perhaps the most successful first-time fund of late is the vehicle raised by New York-based Mount Kellett Capital Partners, established in early 2008 by former Goldman Sachs partner Mark McGoldrick. The Asia-focused firm, with an office of 10 investment professionals in Hong Kong, hunts for transactions throughout Asia, but particularly in China and India, seeking to do deals in the neighborhood of $100 million.

McGoldrick, known in the industry as “Goldfinger” for his earning prowess, appears to have given the firm most of the star power it needed. He was previously co-head of the Goldman Sachs global special situations group, where he was reportedly paid between $40 million and $70 million in 2006. Mount Kellet closed its debut fund this summer with about $2.5 billion, about half of its $5 billion target. Goldman Sachs served as placement agent for the firm. Limited partners in the fund include Temasek Holdings, the Singapore state investment company; Norinchukin Bank; and Goldman Sachs, according to press reports.

Pine Brook Road Partners founder, president and CEO Howard Newman may not be a household name. But Warburg Pincus, where he most recently served as vice chairman, surely rings a bell. After a 22-year run there, during which he helmed investments in 47 companies and directed the investment of $3.3 billion across numerous funds, Newman established Pine Brook Road Partners in 2006.

The New York-based firm recently closed on $1.43 billion to pursue investments that combine elements of buyouts, venture capital and growth equity. The vehicle, Pine Brook Road Partners LP, which the firm began marketing in mid-2007, originally had a target of $1.5 billion.

Pine Brook Road’s approach to private equity marks a direct extension of Newman’s work at Warburg Pincus, where, starting in the late 1980s, he used a “line of equity” approach with roughly 20 of the 47 investments he oversaw there. The strategy involves determining how much equity a start-up company will require, usually in the $100 million to $200 million range, to become self-sufficient. Pine Brook Road then seeds the business with an initial investment and later either permits the company to draw down on its “line of equity,” or not, depending on the company’s performance.

“Our model – investing without leverage and starting new businesses – is very different from other investment firms,” said Joe Gantz, managing director and COO of Pine Brook Road. “So Howard Newman’s reputation and success over 20 years was helpful in getting Pine Brook an audience,” but once a firm gets the meeting, it’s the quality and track record of the team and its ability to articulate its strategy that matters most, he added.

Limited partners include Bramdean Asset Management (which pledged $10 million); the Illinois Teachers’ Retirement System ($50 million); Kansas Public Employees Retirement System (up to $20 million); the New York State Teachers Retirement System ($75 million); Oregon Public Employees’ Retirement Fund ($100 million) and the Regents of the University of California ($50 million).

Sports Star

In another notable debut, one of the world’s greatest football players, a chemical company magnate/philanthropist, and two private equity guys from a mega-firm formed Salt Lake City-based Huntsman Gay Global Capital in late 2007 to engage in mid-market buyouts and growth equity investments in manufacturing, industrials, consumer products, technology, business and financial services, chemicals, infrastructure and health care.

The firm began marketing its debut fund in spring of 2008 and closed it just over a year later, on July 15, 2009, having gathered more than $1.1 billion. Huntsman Gay Capital Partners Fund I originally had a target of $1.25 billion, according to a regulatory filing.

Jon Huntsman, founder and chairman of Huntsman Corp., a manufacturer and marketer of specialty chemicals, co-founded the firm with Bob Gay, a former managing director at Bain Capital; Greg Benson, a former Bain Capital executive vice president and founding member of Bain Capital Europe; and Steve Young, the former football star and Hall of Famer. In early July, the shop added Gary Crittenden, previously the CFO of Citigroup and chairman of Citi Holdings, to its roster as managing director. Crittenden will work alongside the other partners on transactions, and on portfolio company operational and financial development.

“I’m sure that the name recognition and relationships of both Jon and myself didn’t hurt our fundraising efforts,” said Gay, “but in this environment that only gets you in the door.” That collectively the team had completed more than 200 deals in various economic cycles and different sectors worldwide was “a bigger factor in securing commitments from the large LPs we targeted,” added Gay. Those LPs include funds-of-funds manager AlpInvest Partners, the California Public Employees’ Retirement System ($180 million), the California State Teachers’ Retirement System ($100 million), and the Massachusetts Group Insurance Commission. The firm’s partners and professionals are also significantly invested in the fund, reportedly providing 10 percent of its capital.

Consumer products and retail investor Mistral Equity Partners, which recently invested in juice-maker Jamba Inc., closed its debut fund in June with $286.7 million, short of its $400 million to $500 million target range. The New York-based firm began fundraising in early 2007 when Andrew Heyer, a former Wall Street investment banker and later managing partner at buyout firm Trimaran Capital Partners, left to form his own firm.

A big element in its fundraising success stems from the partnership the firm formed with Jay Schottenstein, a well-known owner/operator of retailers such as American Eagle and DSW Shoe Warehouse. The Schottenstein family is the largest investor in Mistral Equity’s fund, and Schottenstein affiliates and Heyer together committed $50 million to the fund.

Heyer met Schottenstein when the two worked on a couple of transactions together while Heyer was a vice chairman of CIBC World Markets Corp. and a co-head of the CIBC Argosy Merchant Banking Funds in the 1990s. Another Mistral Equity LP is Irwin Simon, chairman, president and CEO of Hain Celestial Group, which he founded in 1993. Heyer has known Simon for 15 years, since he was one of the founding shareholders of Hain Celestial. Heyer’s brother Steven, the former president of Coca Cola and Turner Broadcasting, is also an LP.

Indeed, the vast majority of investors in the Mistral Equity fund are people that have known Heyer for a long time, both personally and professionally. “I was a pretty senior investment banker on Wall Street for a long time; you can’t help but know a lot of people,” said Heyer. “And over the years, you build up some degree of respect or credibility. When I decided to start my own venture, they were extremely supportive.”

All told, Heyer said he raised more than $100 million through relationships with companies, individuals and management teams in consumer retail. Heyer noted that by the time his firm began marketing to the institutional community, he had already had the first closing on $100 million. “It’s very hard if you are not actually operating to get institutions to focus on your fund because they view you as hypothetical,” said Heyer. “So by having a significant first closing with very credible investors, it takes away that hypothetical thing.” Institutional investors that have pledged to Mistral Equity are mostly financial institutions; public and private pension funds; and a lot of large family offices, about half of whom Heyer had previous relationships with.

So if you’re one of the anonymous multitude toiling to raise a debut private equity fund sans a luminary on your team, when can you expect your luck on the fundraising trail to improve? According to Atlantic-Pacific’s Sotirhos, “people are starting to stick their heads out of the hole” to ask if the worst is behind us and if things are starting to thaw. At the tail end of this year or early next year, it could become easier for first-time funds to get done. “We’re hoping [investors] come out by then and say ‘Hey, this is a good team and the apocalypse seems to be over. Let’s see what we can do with them.’”