Three LPs offer perspectives on how to co-invest successfully
Heiko Bensch, Senior Portfolio Manager, Alternative Investments, Ampega Asset Management
We have seen co-investments develop as large investors with big and direct investing teams have pushed for them as a way of gaining exposure to deals without paying fees or carried interest. We’ve observed managers that we pay offer these fee-free arrangements and so we felt we needed to gain exposure to co-investments.
The problem is that we are like a tanker – we’re a large vehicle with few people on board. With our team, we can do a limited number of fund
investments per year. We don’t have an M&A team we can call on to assess deals and we didn’t want to go the co-investment fund route because we wanted to deal directly with the GPs we have relationships with.
Our solution has been to find a partner – an investment and consulting group called FCM that has the M&A and deal-level analytical capability we needed. Together with FCM, we have founded a co-investment club. FCM brought together like-minded investors, each of them with contacts and networks that we can all draw on. FCM’s professional M&A team allows us to move quickly and match the GP’s pace on deal processes.
Our aim – as a first step - is to build a portfolio of 10 to 15 co-investments like a fund but with a club deal structure. This approach means we have mitigated some of the issues with co-investments from a risk-return perspective, we have adequate diversification – it will take us two to three years to build this - and we have access to high quality M&A capability.
Ralph Guenther, Head of Continental Europe Investor Relations, Pantheon Ventures
In co-investments, you have to do your own due diligence, but it’s not the same as analysing either fund investments or direct deals. It’s somewhere in between, which means you need a dedicated co-investment team. You have to find a balance between being thorough and assessing potential deals in relation to your specific investment remit while not trying to outsmart the GP.
We’ve learned this over the years. We started our co-investment exposure years ago with syndicated deals done by the fund investment team, but we found this was not ideal and we created a dedicated team in 2009. Over time, we have also moved completely away from syndicated deals to focus on co-underwriting deals.
That means we get involved with a GP before they find a target and can gain access to good quality and frequently off-market deals as a supportive backer.
Diversification is also vital. That’s why we believe it is critical to size all co-investments evenly so that we can complete around 50 to 60 deals across three years. We also try to diversify across all dimensions, including by sector, segment, geography and currency.
Christiaan de Lint, Partner, Co-founder, Headway Capital Partners
Managers raising first-time funds are increasingly offering co-investments to LPs as a way of forging relationships as well as gaining access to the capital they need. We are also seeing many managers start as fundless sponsors – and they clearly need co-investment capital to get off the ground prior to being able to raise a fund.
These are different opportunities from co-investments with established managers. If you’re looking at traditional co-investments, you’ve already done due diligence on the manager and you shouldn’t need to dig deeply into the asset. Yet with independent/ fundless/first-time sponsors, the due diligence requirements are totally different. You may have a team that hasn’t worked together before that needs in-depth referencing and you need to start due diligence from scratch and spend time verifying the manager’s due diligence on the asset.
However, you also have to go beyond due diligence to establish the right structure, alignment and terms with the GP because the rights you should have are very different. In a traditional co-investment, you’re generally just there for the ride; with independent sponsors, you need to agree stronger governance so that if things don’t go according to plan, you have the right to take some action. For sure, you also want a no-fault divorce clause, and it’s far easier to invoke in these situations because you may only have around three LPs to corral as opposed to hundreds potentially in fund.
Independent sponsor co-investments are more volatile than traditional co-investments and LPs will need to pay some element of fees and carried interest, but they offer the opportunity to back emerging talent at an early stage, often involving investments that are off the beaten track.
