GP-stake sales controversial among LPs

When Blackstone Group agreed to acquire a minority stake in BC Partners at the end of August, details of the transaction were not released, but the deal was widely reported to have been worth around €500m for a 10-15% holding in BC's GP vehicle. The manager said in a statement that the fresh capital would be used to expand the business, with a particular focus on its relatively new real estate and private credit operations.

Houlihan Lokey's Andy Lund says this is fairly representative of the types of transactions he has seen at that end of the market. "The typical vanilla transaction is a minority stake of 10-15% non-voting shares in the GP vehicle of a large-cap firm," he says. "We have seen a slight increase in those over the past few years."

"In general, LPs do not like to see it," says BFinance's Sweta Chattopadhyay. "In order to make a return for an investor in the management company, the GP needs to expand its fund size and maximise cash flows from management fees. You need to ask yourself as an LP whether this is behaviour you want to encourage."

Chattopadhyay accurately reflects the views of LPs polled by Unquote in recent months. For example, Argentum's Høegh-Krohn said in an interview on the topic: "We are very cautious about that. In principle, LPs should be LPs and GPs should be GPs. We believe active team members should own 100% of the GP because we do not like passive investors in the GP." However, he says: "You have to be practical and if they want to sell, we have to handle it and consider it in the context of the broader relationship."

The timing of the stake sale and identity of the buyer are important contextual factors. As Chattopadhyay says: "Selling a stake to a competitor is going to raise a lot of questions for your next fundraise."

There can be a good reason, and often funding the GP commitment to the next fund is a good reason. At least it is a better reason than wanting to retire." - Sweta Chattopadhyay, BFinance

Motivations
One of the first questions will be around what the funds raised are used for. "There can be a good reason, and often funding the GP commitment to the next fund is a good reason," Chattopadhyay says. "At least it is a better reason than wanting to retire."

Houlihan Lokey's Lund echoes this sentiment. "GP stake sales can also be used to retain talent at a firm," he says. "If fund size is increasing quickly and the GP commitment is increasing in line with that, then junior team members may struggle to fund that commitment. Proceeds from a stake sale can be used to assist with this as an alternative to an external debt solution." Previously, this kind of problem would be solved by a loan from a more senior partner, or a specialised debt provider.

This makes sense in the large-cap space, and probably explains why most of the activity so far has been confined to this segment, but it does not really hold true for the mid-market. "The more nascent market is for mid-market GPs and even first-time managers," says Lund. "It is a bit more difficult for a variety of reasons, but I think there is an opportunity there.

"You could set up a strategy to invest in emerging GPs with a VC-like approach, where you took a minority stake in five or 10 new managers on day one," says Lund. "You would be making the bet that within 10 years, one or two of them have significantly increased their AUM and potentially turned into household names."

Of course, this could be difficult to sell to other LPs. The Polish Development Fund has a mandate to invest in lower-mid-market funds up to a total size of €300m. When asked whether she had seen this type of transaction in that bracket, head of PE Annemarie Dalka said: "No, and I think it is a good sign. Unfortunately, I have spoken to institutional investors in the US that say once you are listed as a PE manager, your incentive is to maximise fixed fees. All investors from the public side want to see as much management fees as much as possible, which drives up size." 

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