As mid-market and emerging managers struggle for a sip of a dwindling pool of capital, opportunities abound for investors who can co-invest alongside GPs.
Elizabeth Weymouth, founder and managing partner of Grafine Partners, sees opportunities in LPs’ preference for sending big commitments to the largest firms. As mid-market and emerging managers struggle for a sip of a dwindling pool of capital, opportunities abound for investors who can co-invest alongside GPs.
Buyouts chatted with Weymouth recently on her views on the market as it stands going into the final quarter, and how emerging managers are navigating the tough environment.
How has fundraising evolved since last year and have things gotten easier for newer shops?
Sixty-four percent of capital allocated went to the top 10 firms by AUM size so far this year. This is a larger percentage than 2022 and 2023 and it exacerbates the challenges that emerging managers have raising capital.
But it’s not only emerging managers – interestingly, there’s a trend of the ‘stuck in the middle,’ mid-market buyout strategies that are raising funds V, VI or VII, that are having trouble fundraising as well. Their prior fund might be larger than what they’re able to raise now, especially if it’s indistinguishable, multi-sector and looks very similar to other firms. The returns from this group in general are sort of net 2x, net 20 percent IRRs; there’s nothing wrong with them, but for one reason or another, LPs are consolidating at the top end with fewer dollars to allocate to fewer managers, and that’s hitting emerging managers as well.
How do you try to work with established mid-market firms?
We’re very focused on finding proven investors that have experience sourcing unique, off-market, high-quality private markets deals. We are also seeing interesting dealflow from managers in our network or from fundless sponsors that may have spun out of a larger firm, but are now establishing an independent track record and are highly motivated to do great deals as they step out on their own.
What are some vital characteristics you look for in firms you back?
Our emphasis is on generating true alpha for our LPs. To initiate a partnership, we always like to co-underwrite deals with the GPs we back. That’s the ultimate diligence tool.
People we get involved with must have a robust track record of several deals and be established enough with 15 to 20 years of experience. They should have a good sample set of pure exits that were accomplished in a normal private equity time frame.
How has the emphasis on operational expertise impacted the industry?
In this environment, you need much more than financial engineering to generate true alpha from an investment. We’ve backed a team that fits this: a group of operating partners that have sector and operational expertise alongside private equity dealmakers in the founding partnership.
In some cases, the “norm” is for the operating partners at private equity firms to parachute in for a few meetings a year and stay on retainer with multiple firms. We don’t think that’s necessarily effective at creating significant value. We like to have an operating partner who is in the DNA of creating a new firm. That’s hard to find, but there are more and more of them now
Private equity gets the rap of financial engineering, loading on debt with very little operational enhancement. But this generation of private equity dealmakers are more open-minded to having the operational talent from the beginning.
We’re starting to see people migrating from just retiring from the industry and being an operational partner at a big private equity firm to being more hands on with portfolio companies or with newly established PE firms to secure their legacy as business builders.
Weymouth was one of our featured speakers at PEI’s NEXUS 2024 conference. Interested in emerging managers? PEI’s NEXUS 2025 private equity conference in March will feature an extensive lineup of emerging manager GPs, LPs and content. Check it out here for more information.