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Comment noel Ainsworth, a partner at law firm Simmons & Simmons, takes you through the legal and commercial considerations for first-time private equity funds. First time private equity fund GPs come in a variety of guises: they may be an existing team spinning-out from a PE house or a bank; a collection of principals from a number of firms with a common vision, or a group of corporate executives that are looking to leverage their operational expertise. In each case there are a number of key issues, both legal and commercial, that a first time GP will need to bear in mind when looking to successfully raise a debut fund. The first and most important consideration is to establish what it is that differentiates the new offering from the other funds in the market – this may be a novel investment strategy, particular operational or geographical expertise or simply an outstanding investment track record. Whatever it may be, LPs will need to be persuaded that the product being marketed is not something they can get from other, more established firms with more substantial track records. The offering itself is not all – as one of the doyens of private equity, Henry Kravis, has said “you only have one thing to sell in life, and that’s yourself”. The investment team is being sold to LPs as much as the fund product, and LPs are looking for a team that can demonstrate a complete skill set, from sourcing investments, making operational improvements and executing successful exits, and one which they can partner with for the long term – after all, they will be entrusting significant funds to their chosen manager for an extended period. The team’s skill set should also be supported by a verifiable track record which is consistent with the proposed fund’s investment strategy, which in some instances may be hard to compile, or subject to confidentiality constraints. In extreme cases, a trawl through publicly available data may be required to put together the track record. LPs also look to partner with their GPs on a multi-fund basis, so that in order to attract investors, new GPs need to have an appropriate long-term outlook for their business which can convince potential investors that the relationship they intend to build can succeed for a number of funds, and not just for the purposes of the initial fundraising. 4 January 2011 BVCA Briefing A first time for everything The terms of the fund are also key. These should be at least in line with, or more generous than, prevailing market standards. Economic provisions are fundamental – LPs will look for a management fee which is based on budgeted costs and overheads (and may well ask to see how these are calculated) and a carried interest based on a ‘fund-as-a-whole’ waterfall, with appropriate clawbacks and guarantees from the investment team. LPs will also almost certainly want to see a substantial amount of investment in the fund from the principals to further align interests between GP and LP, although investors are likely to be reasonable with first-time GPs, taking into account the financial position of the principals. For new funds targeting institutional money, the Institutional Limited Partners Association (ILPA) represents a powerful investor lobby, and adherence to the guidelines set out in ILPA’s Private Equity Principles is also a means for a new GP to stand out from the crowd. A word of caution, however: while the majority of the principles are reasonable and many either are or are becoming market standard, some are more controversial and should be less acceptable to managers. It is important when discussing these to ensure that the fund has legal advisers that are attuned to the latest market developments and can advise on what is and what is not acceptable when looking to embrace the Private Equity Principles. Along with choosing the correct legal adviser, new GPs should ensure that their other advisers (including placement agents, administrators, compliance consultants and auditors) are experienced in the establishment of private equity fund businesses so that these advisers are able to give tailored support to the GP in matters where the investment team may not have detailed or extensive experience. We regularly advise new GPs on the structuring of their private equity fund management businesses and the launch of their debut funds, and are a trusted strategic partner of the BVCA in providing training to debut private equity fund businesses. If you have any questions on any aspect of establishing a new private equity fund business, please do not hesitate to contact us.
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