Fundraising volumes slip in Q3, but pipeline remains robust

  • US general partners raised $42.4 bln in Q3
  • LPs invest in small funds, distressed/turnaround strategies
  • LPs preparing for declining distributions

U.S. third-quarter private equity fundraising dipped 17 percent to $42.4 billion from the $51 billion in Q2, according to Buyouts data. Buyout and mezzanine strategies raised $137.3 billion year-to-date, more than $20 billion off the amount raised through the first three quarters of 2015

Despite the slowdown, several marquee firms managed to hold final closes in Q3. Thoma Bravo held a final close on $7.6 billion, more than doubling the size of its previous flagship fund. Chicago mainstay Madison Dearborn wrapped its sixth fund on $4.4 billion after two years on the market, and Buyouts reported Platinum Equity  circled $4.2 billion toward an expected $5.5 billion hard cap in Q3.

Even as fundraising volumes dipped, sources told Buyouts their pipelines of active funds remained strong going into the final months of 2016. According to Christian Kallen, a managing director at Hamilton Lane, anecdotal evidence suggests some general partners are coming back to market sooner than expected, often at their investors’ behest.

“The third quarter was a little more quiet than what we generally see,” he said. “Fast forward to what we’re seeing now in the market, with [private placement memorandums] coming, we would expect a very, very busy end of the year.”

That said, Kallen noted the pipeline also has fewer mega-funds — vehicles targeting $5 billion or more — which could hurt fundraising volumes. The comparative lack of mega-funds and mini-mega-funds (targeting $1 billion to $4.99 billion) could enable LPs to put capital to work at a slightly slower pace. (See chart.) Many LPs, including California Public Employees’ Retirement System, expect private equity distributions to decline in the near-term, which could have a knock-on effect on commitment pacing.

Employees Retirement System of Texas indicated it would commit around $750 million to 10 PE funds in its new fiscal year, which started Sept. 1, roughly 20 percent off the pace it set the previous year.

“I think certainly we’ve been in this sort of virtuous circle of late. People are getting great returns, great distributions, so their plan as a whole has been to commit more to private equity,” said Janet Brooks of placement agent Monument Group. She added that the volume of capital that’s entered the market, along with high valuations, may make some LPs “a little more conservative” moving forward.

Investment advisory firm Verus signaled its bearishness on U.S. buyout returns moving forward, which could slow commitment paces set by some of its institutional clients. Verus, which advises on roughly $341 billion of assets and counts several California pensions among its clients, was more bullish on global distressed funds, Buyouts reported in September. To that end, distressed/turnaround funds raised $17.8 billion in Q3, according to Buyouts data.

“The fund we just finished raising was in the operational turnaround area,” Brooks said, noting the $390.8 million fund raised by OpCapita LLP in September. Many LPs are preparing their PE portfolios in expectation of more companies becoming distressed. “A lot of people are saying, ‘This can’t continue. This can’t carry on, so we have to have capital in place.’”

“Whether the markets are down or up, we’ve seen plenty of distressed/turnaround fund managers come through the door, especially on the lower-middle-market side,” said Muller & Monroe Asset Management Principal Rendel Solomon. “The ebb and flow of the fund cycles don’t necessarily model the broader economic cycle.”

Muller & Monroe is a fund-of-funds manager that specializes in emerging managers, for which LP interest remains steady, Solomon said. Roughly a fifth of the capital raised in Q3, almost $8.5 billion, went to debut funds, according to Buyouts data. Many public pensions, including Montana Board of Investmentsand State of Wisconsin Investment Board, have signaled a preference for small and middle-market buyout funds in recent years.

“We see quite a few first-time funds, spinouts from larger organizations,” Kallen told Buyouts. “There haven’t been as many mega-funds in the market, but if you strip that out, you still have a very active fundraising market.”