Don’t call them first-time funds. I found that out the hard way over the past few months, in talking to countless GPs starting their own shops.
These folks aren’t first-timers; most of them have been in the industry for years. It’s just that now they are cutting out on their own, raising money under their own flags.
That’s a big part of the equation when an LP considers backing a first-timer — they are presented with an experienced investor who succeeded elsewhere and now needs their help to go independent. There may be no greater moment of alignment between LP and GP.
This issue is all about emerging managers, especially first-time funds and spinouts. We’re big fans over here at Buyouts, for a few reasons — but primarily because no story we do gets the kinds of traffic, on a cumulative basis, as those stories about first-time funds.
But also there’s the great stories from many of these first-timers and spinout managers. Over the past couple of weeks I’ve had some really interesting conversations with new managers on what it took to spin out and start their own firms.
One thing that stands out to me is the courage it takes to make the move. I imagine it’s the same as making the decision to start any small business, like a bakery or a real estate appraiser. In a sense, you’re truly taking the plunge. You can make sure you are as prepared as possible, and for private equity, that means potentially lining up an anchor investor even before you leave your old firm. You can work to set up a back office and find a partner to work with. But at some level you are making a leap of faith — putting in your own capital to fund something that may not even get off the ground, considering the uncertainty of fundraising (even in this bull market).
And think about this: A first-time manager makes this decision to use their own capital to fund the startup, forgoing a potentially lucrative salary at their old firm while still needing to pay the bills, send the kids to school and have a life outside of work (LOL).
I’ve gained a new level of respect for folks who take this kind of risk. And of course, if it works out the rewards are great: You are your own boss, you can pursue your vision and you are now in a prime position to achieve a whole other level of wealth.
The decision is not made lightly, but this environment is conducive to incentivizing well-known executives to take off on their own and try and raise money.
Some argue it’s a bit too exuberant out there right now — that LPs looking anywhere to find returns will jump into riskier bets. Consider that LPs who back emerging managers are doing so at a time of high asset prices, when successful deals require more than just riding up the market. They require operational expertise, and the ability to grow a business beyond its already high valuation.
That may be the redeeming factor of first-time managers for many institutional investors. These funds are generally smaller, and the managers are generally specialized and focusing on some specific slice of the market. They know the space, they can get their hands dirty with more direct engagement in the businesses they buy, they aren’t necessarily paying enormous price tags for businesses, and they may be less pressured by competition at the smaller end of the market.
And again, they need money. It’s a great position for LPs to be in and it’s why this side of the market is so busy these days.
Private Equity Editor Chris Witkowsky reflects at home. Photo by Wendy Witkowsky