Investor LPs are looking for a new kind of GPs and PE-firms

Institutional investors/ LPs believe that PE industry will evolve and convinced that the PE asset class will continue to generate attractive returns over the long-term. This is an exciting time to raise funds for entrepreneurs who has good ideas and tenacity for fund raising campaign.

Investors/LPs, many of whom have exposure only to the mega-funds are planning to rebalance their portfolios because of poor performance of large buy-out funds. According to a propriety market research by Almeida Capital, as many as 56% of investors/LPs said they would decrease allocation to large buyout funds in 2009, with just 2% saying they would increase it over the year 2008. It’s more bad news for the mega funds but potentially good news for sector focuses, entrepreneurial private equity managers who invest in special situations, middle markets or in emerging markets, and create TRUE value in their portfolio companies rather than heavy reliance on leverage. The negative sentiment towards larger buy-out funds combined with the fact that substantially fewer funds in total will come to market, as many GPs focus on repairing damaged portfolios, means that fundraising prospects could work in favor of newer funds this year. If GPs target the right investors, who have meaningful allocations for 2009, and can present credible cases for value creation and capital gain, and run effective fund-raising campaigns they will find LPs to be more receptive than before. Almeida claims that a large number of institutional investors and family offices in their LP base are interested in smaller funds, new bloods and in building new relationships with managers who have clearly defined investment strategies that are viable in the current and anticipated mid-term economic environment. Many GPs nearly lost their reputation (and many are in litigations with LPs) who were at the top of the pyramid only a few years ago! The conventional wisdoms (or, entitlement mentality) are in question, since many LPs are working hard to restore their own reputation and working very hard to find innovative and other categories of private equity. LPs have the money and they will invest in good PE firms. Remember, the best investments always happen in a bear market and new kinds of entrepreneurs tend to emerge in tough times!

The biggest jump in LP preference in 2009 vs. 2008 is in secondary investments. 18% of the LPs said they would like to increase allocation to dedicated secondary funds. These funds specialize in taking over investments and commitments of other private equity funds. This type of activities will create opportunities for new comer like ennovance capital as well as existing firms like Coller Capital, Paul Capital Partners and Lexington Partners Inc etc.

The second-largest preference jump 15% in 2009 vs that in 2008 was seen in direct secondary purchases. In such cases, the LP directly takes over the portfolio company/companies of a private equity fund, without involving a secondary’s specialist. Even guys who usually do primaries seem to be interested in secondary’s now! Mezzanine funds showed the biggest increase in interest, after secondary investments, with an additional 9% of LPs regarding the category as attractive.

The Private Equity industry is in point of inflection, LPs are actively seeking new kind of GPs to invest in, the question is “do you have what it takes to seize the opportunity?”