PE Principals & Partners of WSO - I find myself in what I think is a fairly unique scenario. I'm going to have to be frustratingly opaque to maintain any confidentiality, but I'll do my best to get at the heart of the issue.
My firm has advised a group of family offices for many years. Started out on M&A work and have gradually worked into more ongoing portfolio company oversight and investment strategy. The group of offices is related but independent and so they have different personalities and investment styles, which we have worked to accommodate. (Should also mention that they each have a CIO of sorts and investments in a variety of public and private asset classes, and our work has been focused on whatever their direct private equity allocation has been.)
One of them has proposed a formalization of the structure, that codifies us as a GP and them as LPs and irons out roles and responsibilities and economics. I love the idea in concept, as I've never been totally comfortable with the informality of the arrangement and this would enable us to "lock up" the relationships and staff appropriately.
The devil is in the details, though. We're not talking about just spinning up a PE fund with a group of anchor investors; we're talking about these groups contributing a mix of cash and existing ownership interests in operating companies (not all of which are 100% owned by these groups) that would constitute our "fund." My concerns are:
- Relative valuations of contributions will be a mess. Everyone always thinks their portion is worth more than someone else's.
- Not all of the assets are ones we would have invested in, and I don't think we can cherry-pick the best ones for inclusion in the "fund" and leave out the rest. Any economic mechanics will have to account for the heavy lifting required on the "dogs."
- I don't have a great idea as to how to structure our economics off of this kind of vehicle - it's envisioned as an evergreen investment vehicle, and the ability to grow AUM is likely more a function of cash generation from inside the fund than additional external contributions. It seems like it lends itself more to a heavy management fee and less of a promote/carry mechanism, but at the same time that seems like a less healthy way to align incentives.
- Governance is going to be tricky. I would love to hear how others have navigated LP relationships that want to be ultimate decision-makers on an IC but still want someone else to do the work. I'm leaning towards the tough conversation of "look, if you want us to truly be principals, then we need to be principals, and that means having authority and matching the economic incentives appropriately" but I'm open to ideas.
- They're all a bit different. They all like working with us and are supportive of the idea of us taking a larger role but are unsure how their own idiosyncracies will be preserved. I also don't know, short of building in sidecars / sleeves, which then opens up the risk of the perception of not treating each member equally / fairly / with equivalent attention. (They're a range of sizes, of course.)
Figured I'd throw this out into the WSO ether and see what others' experiences have been. Would be glad to chat over DM as well if it helps keep things under the radar. Thanks in advance for your thoughts.
Hey man. Love seeing you back on here.
My advice: don't straddle the middle, either do a fund (where you are an autonomous GP) or don't accept the headache.
This sounds rife with difficulty.
If for some insane reason you're committed to doing this because you are both a glutton for punishment and interested in fostering these longstanding relationships even further, a way better structure is to do this as an investment corporation.
The immediate objection is "Oh my god, double taxation!", but not only is there all kinds of tax optimization you can do, but the whole idea is that you don't actually issue distributions, you use them to fund further growth initiatives and make new investments.
This solves a lot of your issues.
This structure really works for your circumstance. You get paid for all the work you do. Instead of a management fee, you negotiate an executive compensation program that the board approves. Your shares are your long-term incentive, and because the operating distributions provide you the cash basis for further acquisitions or investments, you actually get to skip the fundraising timesuck of the fund business model. If you decide you need more capital than that path offers, you can do an equity raise at the holdco level. The easiest audience is that same set of families. The broader audience is the entire institutional investor universe.
You can run this as long as you want. If it's your forever thing, congrats. If it's for five, eight, whatever time it takes to monetize either the entire holdco or just your personal position, perhaps as part of a transaction with the first external investor joining the company, that's great and you just earned both the GP commit and track record to set you up for a traditional fund unencumbered with all the idiosyncrasies your original idea here presents.