What’s at stake? The firms that acquire GP stakes

For years, bankers and consultants have pitched consolidation as a miracle cure for the multitude of challenges facing fund managers. 

Fee margins are coming down? M&A!

Regulatory pressure is ramping up? M&A! 

Fund flows bifurcating between low-cost passive and high-margin alternative products? M&A!

The mantra is working:

Just last week, Blackrock agreed to acquire Global Infrastructure Partners for a cool $12.5B. According to Financial Times, “the deal could accelerate a wider wave of consolidation. The largest privately held alternative firms may be forced to consider stock market listings or strategic partnerships with traditional asset managers.” 

In fact, in recent years hundreds of alternative managers have raised external capital, though not necessarily from strategics. 

Enter General Partner (GP) stake acquirers. 

These firms, often of American origin, specialize in acquiring both minority and majority economic interest in asset managers, especially of the alternative kind. Private equity, hedge funds and real assets.

We’re talking about firms like these:

NB: not to be confused with private equity secondaries investors like Ardian or Coller, that invest in funds or investee companies. 

How big is the investable universe?

According to Bain, global alternatives AuM is poised to grow from $26T in 2022 to $61T in 2032.

The bulk of these assets are institutionally managed: Harvard Business Review estimates that there are 10,000 private equity firms alone.

P10’s proprietary database lists nearly 5,000 GPs (snapshot below). 

At the same time, the alternatives industry is consolidating. The largest players such as Blackstone and KKR have been absorbing a growing % of institutional allocation. More recently, fundraising as well as deployment have stalled, putting pressure. 

These trends have fuelled the growth in GP staking, which grew from practically nothing 20 years ago, to a $3-4B market 10 years ago, to a $10B market currently. According to Pitchbook, the market sees an average of 100 deals per year. North America and Europe based GPs represent the lion’s share of deal flow. 

There’s more to come given the $30B+ in dry powder raised in the last 3 years. 

• In January 2023, Blue Owl, Dyal’s owner, closed the largest ever GP stakes fund, at $12.9B AuM. The fund, whose LPs include sovereign wealth investors, public and corporate pensions plans, endowments, foundations and family offices in the Americas and Asia, aims to invest in approx. 20 managers over fund lifetime. 

• Closed in late 2021, Blackstone’s second GP Stakes Fund has an AuM of $5.6B. 

• Petershill closed its fourth fund at $5B in 2022. 

Too many buyers?

According to an Investcorp whitepaper, “The overall competitive landscape remains relatively benign, with fewer than 10 overall dedicated buyers”. 

Several industry players that I spoke to disagree. Their counter is that there have been new entrants to the GP stake investing arena, represented by LPs themselves, such as insurers (Apollo’s Athene / Diameter, Sofinova, Guardian Life / HPS) and sovereign wealth funds (Mubadala / Silver Lake). Unlike dedicated acquirers, these investors bring very meaningful capital commitments. 

According to the Athene / Diameter press release:

How are these deals structured?

Aggregator investments come in three main varieties:

1. Revenue shares

2. Profit shares

3. GP equity (majority / 100% acquisition)

The first two structures can be likened to royalty finance companies: think Hipgnosis or Canadian mining royalty and streaming companies. As this article from Cleatry Gottlieb explains, in profit share deals the investor may “seek an expense cap or approval rights with respect to the GP’s budget or particular categories of expenses that could diminish the distributions the investor receives”. 

The majority of GP acquirers are structured as funds. Very few are structured as corporates, most notably AMG, which can be compared to Swedish style decentralized HoldCos (see our article on this topic). 

Let’s take a closer look at Petershill Partners plc (PHP), which IPO’d in London in 2021. 

Petershilli, a division of Goldman Sachs Asset Management (GSAM), is the operator of PHP and exclusive investment manager and Alternative Investment Fund Manager. At the IPO, Petershill’s LPs switched their LP interests for PHP shares now managed and coordinated by GSAM. 

PHP is a minority investor. In H1 2023, it reported “implied blended Partner firm FRE (Fee Related Earnings) ownership” of 13.5%. Its investor presentation painstakingly explains how GPs themselves make money across multiple revenue streams; and how PHP’s ownership translates into actual cash flows: 

The sum of these revenue streams makes up PHP’s Distributable Earnings (DE), or dividend income. This is effectively its EBITDA, which is then subject to PHP’s expenses – tax, net interest and operating expenses.

Let’s back up…What’s the point of GP stakes investing?

From a seller’s point of view, the rationale is fourfold:

• Strengthen balance sheet to meet regulatory capital requirements and invest into high ticket items like infrastructure upgrades

• Meet GP co-investment commitments

• Seed new strategies ahead of raising external funding 

• Enable succession by buying out retiring partners

From an acquirer’s point of view, marketing fluff aside, it boils down to two things: 

• Tapping into a growing asset class that they, as alternative managers themselves, intimately know and understand

• Access recurring, high-duration management fees (Petershill reported 8.9 year weighted average capital duration in 2022) enhanced by carried interest and proprietary investments

Where the parties’ interests overlap is distribution and overheads. 

To quote from an EY article, acquirers “mediate the GP/LP relationship, offering a professional perspective to meet changing LP demands, from fee reporting to ESG implementation. Furthermore, they can assist with fundraising by leveraging their reputation, market knowledge, and network to attract new capital and open distribution channels”. 

This can be a lucrative business model

Given the differences in structures and reporting standards, like-for-like comparisons among listed GP stakes acquirers are challenging. Nevertheless, knowing that publicly listed alternative managers like Blackstone, KKR and EQT run on operating margins of 50-60%+, you won’t be surprised about AMG’s 35-40% margins. 

Market data as of 12 January 2024

For established players, investment returns have been solid. According to Blue Owl’s investor presentation, as of September 2023 gross IRRs were as follows:

• GP Stakes III: 30.7% (2016 vintage)

• GP Stakes IV: 71.3% (2019 vintage)

• GP Stakes V: 43.3% (2023 vintage)

Note that we don’t have visibility on how fund IV and V IRRs were calculated as there haven’t been meaningful realizations yet. Fund III experienced a securitization in 2020 (akin to a leveraged recap).

With that said, it hasn’t been plain sailing for everyone. PHP’s shares have lost more than half their value since the IPO (vs. flattish performance from AMG).

What happened?

To quote from a JP Morgan broker report “a number of consensus EPS downgrades during 2023 on a slower Partner-firm deployment, lower Partner-firm management fees and higher Partner-firm expenses … drove FRE expectations down”. 

To be more specific:

• PHP’s took a $807M writeoff in 2022 – equivalent to a whopping 16% of investment portfolio IFRS fair value as at YE 2021

• Partner firm management fees have flatlined on subdued fundraising, while carry has cratered (down by 2/3 YoY in H1 2023)

• In the course of 2023, guidance on capital deployment was downgraded from $100-300M to sub $100M. Eventually no new investments were made

Tactical problems you’ll say… Unfortunately, there’s more.  According to UBS analysts, PHP’s bigger challenges are a) its complex closed-ended structure that deters some institutional investors and b) small (c.20%) free float compounding stock overhang from GSAM’s commitment to reduce ownership.

OK, but what’s the exit strategy?

As this PEI article points out, even the LPs that bought into the low volatility / high yield investment thesis, used to struggle with the exit path.

HoldCo builders, does that sound familiar? 

Creative structures abound. Single asset and portfolio sales, NAV loans / securitisation of stakes, even an odd IPO (Petershill). In a twist of events, in 2023 Coller Capital – a leading private capital secondaries investor, sold a minority stake to Hunter Point. 

Still, backend liquidity will remain tough – especially for minority acquirers with complex structures who are being outcompeted by deep-pocketed LP acquirers.