Emerging Managers Can Bring Top-tier Returns — Ask An LP

Originally Featured December 3, 2015 on PEHub

You asked and we answered. More emerging managers than ever seem to be raising venture funds. And so a number of readers emailed their questions of how to stand out in a crowded fundraising market.

The answer is that it if you want a warm, successful introduction to an LP, you’re going to have to do some legwork.

Q: Fee concessions are sometimes required for LPs to invest in emerging managers. What concessions do LPs currently request and how do you expect them to change over the intermediate term? How much fee compression is presently expected in a first and second fund?

A: Historically, LPs have required fee concessions to invest in emerging managers. However, this has not been the case in our experience over the last few years.

What has been our experience is that thoughtful emerging managers have been judicious in their fee ask (typically 2 percent) and more open about their budgets. In this way, LPs understand the anticipated uses of management fees, and there can be a healthy discussion around aligned interests with the LP base and the conditions that best set the GP up for success.

This can result in management fees that are budget-based versus a percentage or other fund-specific scenarios. It can also result in management fees higher than 2 percent if, for example, the first fund is limited in size.

The best thing is for GPs and LP to continue to have this dialogue with subsequent funds.

Q: How do LPs view the track record of an emerging manager at a firm separating into sector-focused funds? For instance, if a multi-strategy VC stops investing in life sciences and jettisons enterprise to focus on consumer, is it relevant to focus on the favorable track record of the consumer-focused partner at the new entity, or is it cherry picking? And how important is the track record of the firm as a whole?

A: When fundraising, it is always a good idea to prepare a full track record covering all sectors invested and for all investment professionals. LPs will frequently want to do their own loss ratio and returns analysis by sector, stage, individual and for the firm as a whole.

That said, if a multi-strategy firm is going from investing in multiple areas (life science, enterprise and consumer, for example) and down to just one for the new fund being raised (consumer, in this case), it’s logical to lead with the consumer track record. It is cherry picking. However, if the firm going forward is only going to be making consumer investments and by those partners strong in consumer, then it is understandable cherry picking.

Be sure to have the full track record ready for each investing partner even if it includes other areas that are not consumer. LPs will want to understand for themselves the strength of the consumer investing vis-a-vis other areas. Hopefully, it will be as clear to the LP as it is to the GP that consumer is where their strength lies.

Q: Would you walk through what you consider to be a warm and effective e-mail thread introducing an emerging GP to an LP? Perhaps you can provide an example from your experience.

A: Example Email:

Dear Beezer,

Attached is the exec sum of [insert new GP name here] that I would like to introduce you to if you are interested. I thought you would value an introduction given your interest in [fill in the blank type of] emerging managers. [new GP] is someone I have known for many years, co-invested with in [known money making deals] and hold in high personal and professional regard. [new GP] asked me to recommend a few outstanding LPs and you naturally came to mind. I will also personally invest a little bit provided my LP Advisory Board approves. Please let me know if it makes sense to introduce the two of you.

Best,

Your GP that has returned significant capital to you

This is a mock letter as I have yet to get one exactly like this, but I wanted to highlight the elements that make for a great GP intro. First is a trusted, credible third party asking if they can make an introduction vs. a blind intro. Blind intros put people on the spot. Best to not do them.

The trusted third party can be an entrepreneur, LP, GP, angel or lawyer, someone who knows the parties well and whose opinion I (the LP) value. If the emerging manager is spinning out of an existing fund, it is even more impactful if the introduction comes from the existing fund.

Second, the referrer knows the LP’s investment focus so the intro is targeted and thoughtful. Third, the referrer has personal experience with the new GP’s investing capability. Nothing speaks louder to an LP than DPI. Fourth is putting their money where their mouth is. Finally, flattery never hurts.

Q: What are the best ways for emerging managers to get access to LPs?

A: As illustrated by the example above, a highly effective way for emerging managers to get access to LPs is to find a shared, credible third party who can make an informed introduction. I have seen this work extremely well for emerging managers time and time again.

To find a connection, do your homework. Sorry, no way around this part. LPs speak at conferences, have websites, post articles, are quoted, and can be found in databases. Find out their names, what their investment focus is and then figure out if anyone in your network is connected to them.

Don’t forget your fellow GPs. Ask your GP friends who have successfully raised funds, and potentially turned away some LPs, for introductions. Suggestion: the best time to ask a fellow GP for an LP introduction is when they aren’t fundraising themselves.


Disclosures:

The information set forth herein is not intended to constitute investment advice and under no circumstances should any information provided herein be used or considered as an offer to sell or a solicitation of an offer to buy an interest in any investment fund managed by Sapphire Ventures. Sapphire Ventures does not solicit or make its services available to the public and none of the funds are currently open to new investors. Past performance is not indicative of future performance.

The portfolio companies referred to above do not necessarily represent all of the investments made or recommended by Sapphire Ventures, and were not selected based on the return on Sapphire Ventures’ investment in them. It should not be assumed that the specific investments identified and discussed herein were or will be profitable. Not all investments made by Sapphire Ventures will be profitable or will equal the performance of the companies identified above.