PE Week Wire: Mon., April 30, 2007

[Today’s column comes from David Tom, who won our March Madness contest last month. As you might recall, one of his prizes was control of this space for a day.]

Five Myths of Being Small…

For my guest PE Wire column, I thought to address one of the most frequently asked questions I receive— why would you ever want to work for a small fund? My employer, VCFA Group, was the first firm formed to purchase private equity interests on a secondary basis and has raised approximately $750 million over the course of its 25-year history. At a time when other secondary firms are closing on multi-billion dollar funds (Goldman’s latest secondary private equity fund was in excess of $3 billion), VCFA has stayed focused on doing smaller and more complex transactions. VCFA’s latest fund closed at the end of 2006 with $250 million dedicated to purchasing interests in venture capital funds and was highly oversubscribed. Why would anyone want to stay small when management fees a! lone can make General Partners extremely wealthy? I think that there are five myths surrounding smaller funds that are pushing many unsuspecting General Partners to the siren of the mega-fund.

Myth #1: You can only get rich by having a larger fund.

I believe that this first myth of the mega-fund has come from the shift of investor focus from multiples to IRR. If a private equity firm generates steady returns in the mid-to-high teens (a highly attractive scenario for many pension funds), a larger fund is necessary to generate wealth for the General Partner. However, if a General Partner has sufficient skill, generating multiple-based returns will be the road to riches. It is important to remember that the partners in most of today’s well-known funds became extremely wealthy with pools of capital that would seem miniscule today. Moreover, Limited Partners will reward high-multiple generating investors with frequent pools of capital.

Myth #2: Larger funds are faced with less competition.

I have seen many arguments that the largest end of the leveraged buyout market will show the greatest returns due to lack of competition. The reality is that all markets in private equity are fiercely competitive. Moreover, larger transactions will increasingly attract hedge funds and other potential non-traditional participants. But, more to the point, how many participants do you really need in order to make a transaction competitive? The founder of my firm, Dayton Carr, is fond of saying that compared a boxing match may not seem competitive compared to the New York City marathon, but who wants to get into the ring with Lennox Lewis? It only takes one competitor to make a transaction highly competitive. Sometimes even just the threat of such a competitor is enough to drive up price.

Myth #3: Small funds are stepping stones to a larger fund.

While it is certainly true that many of the world’s best private equity investors have migrated from small funds, many also have maintained a smaller size. A number of former principals at larger funds recently have “spun out” to create funds that are at a similar size to older smaller funds. As a secondary firm, we have seen countless examples of late 90s venture funds that saw large funds as the future. Many of the principals of these same funds have since returned to much more modest funds, having realized that the model was simply not the same. While leveraged buyout funds are likely to scale somewhat better than venture funds, I predict many leveraged buyout professionals will have very similar emotions in the future.

Myth #4: A fund must get big to attract the best talent.

While larger fees certainly afford funds the ability to pay higher salaries, cash compensation is only one part of what attracts great talent. Smaller firms and funds are able to build work environments and a strong culture that can frequently offer much greater rewards. For junior employees, smaller firms often offer greater responsibilities and leadership opportunities. Many of my friends who have joined large firms have told me that they felt like “cogs in the wheel.” Junior employees may also have the ability to receive carry in a fund earlier in their careers.

Myth #5: Larger transactions are more interesting than smaller transactions.

Some of the most interesting transactions arise in smaller deals. Our recent deals have included creative leverage, novel payout structures and unique risk sharing structures. Unfortunately it often takes the same resources and skills to close a small deal compared to a large deal. This means that many of the smaller fund managers are working that much harder for their Limited Partners.

While there are certainly advantages to having a large fund, many of the most commonly held beliefs about the benefits of being large are nothing more than myths. Smaller funds and firms offer great opportunities for General Partners and Limited Partners alike. So when the next record setting private equity fund closes, don’t forget the opportunity at the small end of the market.

Gratuitous Plug for VCFA Group

If you found this article interesting, please look for me on, where I will be blogging on issues in the private equity industry. You can also e-mail me at and I will add you to our mailing list. And if you ever know of someone looking to sell an interest in private equity, please call David Tom at 212-838-5577. You can learn more about VCFA at

Top Three

Yahoo Inc. has acquired Right Media Inc., a New York-based online advertising marketplace, for $680 million in stock and cash. Yahoo had originally acquired a 20% ownership in Right Media, by leading a $45 million Series B round last fall that also included existing Right Media shareholder Redpoint Ventures.

Patheon Inc. (TSX: PTI), a Toronto-based contract drug manufacturer, has raised US$150 million in PIPE funding from JLL Partners. The deal gives JLL a 25% ownership stake in Patheon, which could expand to more than 30 percent.

Venture capital performance showed modest improvement through year-end 2006, according to new data released this morning by Thomson Financial and the National Venture Capital Association. In particular, five-year performance moved from negative to positive territory (-1.2% to +1%). More information is available here.

VC Deals

ReVision Optics Inc., a Lake Forest, Calif.-based maker of implantable products to correct and maintain vision, has raised $25 million in Series D funding. Domain Associates led the deal, and was joined by return backers Canaan Partners and InterWest Partners. ReVision previously had raised around $15 million since 2004.

3Leaf Systems Corp., a Santa Clara, Calif.-based maker of systems software and ICs for the enterprise servers markets, has raised $20 million in Series B funding. The round closed last September, according to the VentureXpert database. Intel Capital led the round, and was joined by return backers Alloy Ventures, Enterprise Partners Venture Capital and Storm Ventures.

LifeLock, a Tempe, Ariz.-based identity theft prevention company, has raised $6.85 million in Series B funding. Kleiner Perkins Caufield & Byers led the deal, and was joined by Biltmore Ventures and return backer Bessemer Venture Partners.

RoyaltyShare, a San Diego-based provider of digital royalty solutions to the entertainment industry, has raised $5 million in Series B funding led by Trident Capital. RoyaltyShare also said that it is in discussions with potential strategic investors, and may raise additional funds as part of the round.

Neocleus Inc., an Israel-based developer of online access security management solutions, has raised $5 million in first-round funding. Battery Ventures and Gemini Israel Funds co-led the deal, which was first reported by Globes Online. Battery and Gemini participated in a $700,000 seed round for Neocleus last year.

Veryan Medical Ltd., a Horsham, UK-based cardiovascular device maker, has raised £3.1 million in second-round funding, according to VentureWire. Imperial Innovations led the deal, and was joined by fellow return backers NPI Ventures, Oxford Capital Partners and the National Endowment for Science Technology and the Arts.

Buyout Deals

ABN Amro Capital has acquired a majority stake in UK office supplies distributor OyezStraker from Hermes Private Equity. The deal values OyezStraker at £163 million, with Hermes reinvesting £7.8 million. Company management also is re-investing. Hermes originally acquired the company at June 2004 for an enterprise value of £80 million.

Bayside Capital, an affiliate of H.I.G. Capital, has acquired Diam Europe from Heritage Partners for an undisclosed amount. Diam Europe is a Paris, France-based maker of point-of-purchase displays for cosmetics, with annual revenue in excess of €100 million. Heritage sold Diam’s North American unit to Sun Capital Partners last year.

HitecVision Private Equity has agreed to acquire 40% of Poseidon Group AS, a Norwegian supplier of engineering, system solutions, technology and consulting services within construction, operation and maintenance of sub-sea oil and gas fields. No financial terms were disclosed for the deal, which includes commitments for follow-on financing.

Electra Partners has acquired Nuaire Group Ltd., a Caerphilly, UK-based maker of ventilation systems for the commercial, residential and OEM markets, from ECI Partners. The total transaction value was not disclosed, but Electra did say that it had invested £34 million. Bank of Ireland was the sole mandated lead arranger, while Bank of Scotland also participated.

3i Group and Bridgepoint each are considering bids for UK accounting software company Iris, according to AFX. The deal could be valued at between £250 million and £300 million. Iris is currently owned by HgCapital.

TPG is getting some help in its efforts to acquire Spanish airline Iberia. Vista Capital, a private equity joint venture between Banco Santander and RBS, said that it has joined the TPG consortium, while British Airways also is reportedly being wooed. TPG made an informal €3.41 billion approach for Iberia, which also may receive an offer led by Apax Partners.

Cable & Wireless PLC said that it has no immediate plans to spin off its businesses or split the company. The statement came in response to an article in yesterday’s Observer, which suggested that the British phone giant could split itself into UK and international units, and then sell each off to competitors and/or private equity firms.

Egan-Jones Proxy Services is advising Clear Channel shareholders to reject a $19.4 billion buyout offer from Bain Capital and Thomas H. Lee Partners. It called the offer “insufficient,” even though the private equity firms recently increased their offer from $37.60 per share to $39 per share.

PE-Backed IPOs

PNA Group Holding Corp., an Atlanta-based steel processor and distributor, has filed for a $175 million IPO. It plans to trade on the NYSE under ticker symbol PNA, with Citi and UBS serving as co-lead underwriters. PNA was acquired last year by Platinum Equity.

TechTarget Inc., a Needham, Mass.-based provider of online IT content, set its proposed IPO terms to 7.7 million common shares being offered at between $12 and $14 per share. It plans to trade on the Nasdaq under ticker symbol TTGG, with Morgan Stanley and Lehman Brothers serving as co-lead underwriters. Shareholders include Technology Crossover Ventures (32.34% pre-IPO stake) and Polaris Venture Partners (28.41%).

Skilled Healthcare Group Inc., a Foothill Ranch, Calif.-based provider of nursing facilities and rehabilitation therapy centers, has set its IPO terms to around 16.67 million shares being offered at between $14 and $16 per share. It plans to trade on the NYSE under ticker symbol SKH, with Credit Suisse serving as lead underwriter. Onex Partners bought the company from Heritage Partners in 2005 for around $640 million.

Firms & Funds

Nataxis and White Mountains Insurance Group Ltd. have formed Pentelia Capital Management, a Bermuda-based asset management company focused on the insurance risk securitization market. PCM’s initial fund is capitalized with $600 million, and will invest in a diversified portfolio of life and non-life insurance-linked assets, including adverse mortality bonds, weather derivatives, terrorism insurance, life settlements, cat bonds and property catastrophe reinsurance.

The Carlyle Group and MHI Hospitality Corp. (AMEX: MDH) have entered into a joint venture to source, underwrite, acquire, develop and operate hotel assets and/or hotel portfolios.Carlyle has committed up to $100 million in equity capital, while Perseus Realty Capital acted as agent and arranger. Under terms of the agreement, MHI will identify potential investment opportunities in excess of $30 million, and the joint venture partners will jointly agree on an investment’s suitability prior to capital commitment.

The Indiana Public Employees’ Retirement Fund has made the following fund commitments: $50 million to Silver Lake Partners III, $20 million to Technology Partners Fund VIII, $8.5 million to Horsley Bridge Growth VII, $50 million to Lehman Brothers Fund XVIII, and $30 million to Oaktree Capital Management Opportunities Fund VII.

Human Resources

Andrew Braccia has joined Accel Partners, as first reported yesterday by VentureBeat. He previously was with Yahoo as vice president of consumer web search.

Mohan Kharbanda has joined Baird Venture Partners’ business services team as an entrepreneur-in-residence. He previously was a vice president with Apple Computer, where he led a team focused on establishing offshore operations in India and Eastern Europe.