Dyal chief tries to dispel myths about GP-stake sales

The private equity world has always seen some angry junior partners, and sales of minority stakes by GPs aren’t driving them to leave their firms, said Michael Rees, head of Dyal Capital Partners.

Rees, speaking at PartnerConnect Midwest in Chicago on June 27, was attempting to dispel the idea that junior partners at firms that sold stakes are angry and looking to leave. Sources have told Buyouts that some next-generation executives, frustrated that such deals will lead to dilution of their future carried-interest earnings, are exploring exit options.

“There will always be spinouts; there will always be angry junior partners,” Rees said. “That really hasn’t been associated with or affiliated with GP-stake deals. We haven’t seen that across our deals, or competitors’ [deals].”

Dyal is perhaps the leading firm buying minority stakes in private equity firms, along with Goldman Sachs. The firm is back in market targeting $5 billion with no cap for its fourth fund, which will buy such stakes. Dyal raised $5.3 billion for its third fund.

Minority-stake sales are not about cashing out older founders, Rees said, addressing what he called a “myth.” These deals, at least on Dyal’s part, are for growth — growth of a firm into new strategies as well as to help fund the GP commitment into its own funds.

The sale of a minority stake to a third party enables a GP to establish a source of permanent capital. The GP can use this pool to fund commitments larger than the 2 percent that is fairly routine in the industry. “The vast majority of this capital is staying in the business to fund growth,” Rees said.

The structure of Dyal’s deals works like this: Dyal buys a small stake, usually 10 to 15 percent, of the management company. In exchange, Dyal gets a pro-rata share of management fees and carried interest and exposure to GP co-investment in the fund.

Dyal’s stakes are passive, so the firm has no decision-making authority. It invests with managers it believes want to grow their enterprises for years to come, but it doesn’t force managers to grow — which Rees said is another myth. Dyal has no say in the firms’ daily operations.

Dyal’s funds work like private funds, except that they are open-ended. There is no fund term like a regular PE fund. Instead, Dyal hopes to reap cash flows from its PE investments for many years, Rees said.

“We probably will not ever exit these deals,” Rees said. There was a time when private equity firms weren’t expected to live beyond their founders, but a few large firms provided a model for how to create lasting organizations.

Dyal may consider taking a portion of its portfolio of investments public, Rees said.

Dyal’s investments do have some protections in case a GP decides to stop raising funds or an organization melts down, he said.

“We have provisions if they were to disrupt their key-person provision in their funds. We’d have triggers to get parts of our money back or all our money back,” Rees said.

Action Item: Michael Rees’s bio and contact page at Dyal Capital: www.dyalcapital.com/_layouts/dyal/bio.aspx?id=1

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