Fund Evaluation Group Dives Into Fund of Funds

Fund Evaluation Group LLC has launched its first fund of funds in an effort to expand its private equity product offering to smaller clients.

The firm is in the earliest stage of marketing the fund, Private Opportunities Fund LP, and is seeking $100 million. However, it might raise as much as $200 million assuming it lands a potential $100 million slug from one investor, Susan Mahan Fasig, managing principal and director of private capital at the firm, told Buyouts. The firm hopes to close the fund over the next year.

Fund Evaluation Group’s fund would be a new and welcome source of capital for buyout shops in fundraising mode, since many endowments, pensions, and other institutional investors have been cutting back their commitment to the asset class following the financial downturn.

“With a number of the largest investors over-allocated to private funds, we see this environment as an opportune time to step in as a provider of long-term investment capital to quality funds,” Fasig said. “Many mid-sized and smaller endowments and foundations remain in relationship-building mode.”

Founded in 1988, Fund Evaluation Group is an investment advisory firm employing more than 70 people working in offices in Cincinnati, Boston, Chicago, Detroit and Indianapolis. The firm manages or advises on almost $30 billion in assets.

Non-profit organizations make up the majority of its client base, but Fund Evaluation Group also advises retirement plans, insurance companies and wealthy people. Clients have included the University of Cincinnati, the University of Southern Illinois Foundation and Butler University.

Fund Evaluation Group’s private equity practice falls under its “Private Capital” umbrella, which comprises buyout and venture capital funds; distressed and credit funds; and real assets funds, which includes real estate and natural resources.

This year, Fund Evaluation Group expects to commit as much as $60 million to private equity funds on a discretionary basis, and as much as $400 million on non-discretionary basis. In the past, the firm has backed small to mid-market funds raised by The Jordan Co. LP, Kelso & Co., and Edgewater Capital Partners, as well as larger funds raised by The Carlyle Group and Apollo Global Management.

The firm was founded, in part, to help smaller institutions diversify their investment portfolios. That thesis is inspiring its move into private equity fund-of-funds, which Fasig said is aimed at helping private and community foundations, civic organizations and other smaller clients diversify their portfolios with illiquid investments. Typically, only larger clients such as pensions and universities are sophisticated enough to evaluate those opportunities, she said.

“Investing in private capital funds is complex,” said Fasig, who joined Fund Evaluation in 1998 and developed its alternative investments practice. “It’s really difficult to have a good perspective if it’s not your day job.”

Wanted: Small to Mid-Market Buyouts

Private Opportunities Fund would largely be earmarked for small to mid-market buyout funds, Fasig said. Generally speaking, Fasig said these funds can buy cheaper; operate in a less competitive market; and make more of an impact on portfolio companies. They also tend to use less leverage, and to enjoy more exit opportunities than their large-market counterparts, she said.

“I think the return opportunities will continue to be higher in the small mid-market,” Fasig said. “Not to say large guys are doing a bad job, but there is a more unique opportunity set that we see in the smaller market.”

Private Opportunities Fund would target two other fund strategies as well: buyout funds focused on Asia and distressed funds.

With the distressed pool, the fund will target both firms that buy troubled companies and turn them around as well as funds that invest in distressed debt. The firm is particularly interested in funds with operations in Europe, where Fasig said Basel III regulations are forcing banks to sell assets on the cheap.

Buyout shops interested in hitting Fund Evaluation Group up for commitments would be well served in reading up on the six key features it evaluates in prospective GPs: conviction, culture, pragmatism, consistency, risk control and active return

By conviction, Fund Evaluation basically means how much of their own money fund managers are willing to commit to their fund. Fund managers often commit about 1 percent of the fund, but that’s not enough for Fund Evaluation Group. Executives of Kelso & Co., in fact, are the largest investor in their own funds, investing approximately 15 percent in each of the firm’s previous three funds, Fasig said.

“If you don’t have at least a 2 percent GP commitment, you need to have a really good reason why,” Fasig said.

As for culture, Fund Evaluation is interested in how professionals at prospective GPs—from executives to junior investment professionals—are compensated. A big red flag for Fund Evaluation Group is when one big-name executive gets a hardy portion of carry but is not that active in finding and executing deals. The firm also doesn’t like it when one or two executives take a majority of the firm’s carry, giving junior professionals short shift and sowing the seeds of discontent.

“The economics can tell a lot about the culture,” Fasig said. “They need to be thinking about building a stable organization—we’re looking for an institutional product.”

As for pragmatism, Fund Evaluation Group wants to know what the prospective GP’s strategic edge or skill set is. This is where Fasig believes smaller mid-market funds have an advantage over large-market buyout funds. The Jordan Co., for example, has an edge in China, where it’s been operating since 1996, giving it an edge over virtually every name-brand GP that’s trying to establish an office there now. And in emerging markets, Fasig said Capital International Private Equity, the private equity arm of global investment management firm The Capital Group Companies whose funds Fund Evaluation Group has backed, has access to a global network of analysts on the ground in almost any market.

“I think a lot of times the smaller buyout shops have are better able to turnover rocks or think uniquely about an opportunity,” she said.

Consistency for Fund Evaluation Group means firms that have displayed a consistent strategy with a consistent team—like every limited partner, Fund Evaluation Group does not like to see much turnover at the top of GPs.

As for risk control, the firm wants to know if the GP has built a diversified portfolio in past funds and how it structures its deals. Edgewater Capital, for example, uses an interest-paying convertible preferred security in its deals that provides downside protection.

And finally, by active return Fund Evaluation Group means consistently positive long-term returns.