From our vantage point as advisers to many of the world’s top investment fund managers and financial institutions, broad market forces flow through to our instructions, and ultimately drive many of the terms of the funds we advise.

In this four-part series we look at the current themes we have noticed in the investment funds market. Parts one (here) and two (here) focus on Hedge Funds and parts three (here) and four explore Private Equity.

All data, unless referenced, is taken from Walkers' in-house investment funds survey.

FUND GEOGRAPHIES
North America and Asia remain the most significant target regions for investments, but we have seen an increase in global geographical strategies. Industry/sector rather than geographical location is becoming the key driver for funds operating in increasing globalized asset markets.



Outside of Asia it has been a quieter year for emerging market funds. There has been a small increase in activity in Europe, with managers perhaps either seeing opportunities being caused by Brexit or hoping that the end of that circuitous process may finally be in sight.

FUND DURATION
One trend that has been evident from the data over the last couple of years is a lengthening of fund terms. While this year has seen a dip in the >10 year bracket, 8-10 years remains the most common term, with slightly shorter 5-7 year terms continuing to be popular in Asia.



The reduction in the >10 year terms may be a consequence of the negotiation of materially more flexible extension terms into partnership agreements. The ability for the GP, with or without LPAC consent, to extend by one to three years remains common, but a deeper dive into the partnership agreements suggests a surge of funds which have built-in provisions allowing them to extend by one-year periods for an indefinite number of years, subject to obtaining the agreed level of limited partner consent.


The willingness of investors to remain locked in for longer is also reflected by the increased number of evergreen or permanent capital private equity funds in the market.

Investors therefore appear to accept that sourcing and executing the best investments, at acceptable prices, takes time. This acceptance is also reflected in a continued widening of the investment periods of funds.

In addition, with end-of-life GP-led restructurings arising more and more frequently, some partnership agreements include provisions which seek to set out a framework for any such transactions which may arise, hardwiring in approval mechanisms such as LPAC consent and third party valuations. The esoteric nature of each of these transactions means that it is not possible to draw distinctive conclusions from these provisions, although they may indicate that managers anticipate such restructurings, and the secondaries market generally, will remain active in the future.

It is clear that the marketplace for portfolio investments is incredibly competitive. In this environment, investors are willing to allow managers a little more time to find and close high return investments to generate the portfolio returns that they expect.

FEES
The “two and twenty” standard remains broadly intact, subject as always to side letter pressure. There are, however, some interesting developments which we are seeing more frequently.

20% remains by far the most common carried interest entitlement percentage, albeit there is some activity on either side of that mark. The more interesting story however lies in the distribution waterfalls in partnership agreements, with more GPs earning the right to earn 20%+ carry in the event certain performance hurdles are met. This can often be accompanied by a corresponding increase in preferred return or discount to management fees, suggesting that certain managers are sufficiently confident in future performance to forego guaranteed amounts at earlier stages in the hope or expectation of “super carry” as they approach the end of life of their funds.



Management fees have remained at around the 2% mark albeit with some upwards deviation, perhaps reflecting the increased regulatory burden and costs on managers.



In general, therefore, while “two and twenty” is still dominant, we are seeing investors and managers continuing to work together to create performance-based reward strategies designed to more closely align their interests.

1. Section 99 of the Companies Law only affects the transfer of legal title in shares (which the Company wished to facilitate) and not the beneficial interest in its shares.
   
   
2. The grounds that should be satisfied in order for a validation order in respect of a share transfer to be granted are as follows:
   
   

   • The disposition must be within the powers of the directors;
   • There must be evidence to show that the directors believe that the disposition is necessary or expedient in the interests of the Company;
   • The directors must have reached their decision in good faith; and
   • The reasons supporting the disposition must be ones which an intelligent and honest director could reasonably hold.
   
   

3. The evidence required to demonstrate that the above grounds have been met will depend on the nature and type of the transaction that a company is seeking to have validated although the bar for successfully contesting the granting of such an order is significantly higher than that required of the applicant company.

Variation

In the same matter, the Grand Court refused to vary the terms of a previous validation order that the Company had agreed to by consent, notwithstanding that the validation order contained a liberty to apply provision which the Company unsuccessfully argued would allow it to vary the terms of the order following a change in its circumstances.

In arriving at this decision, Mangatal J made clear that good grounds must be shown to vary the order and a party cannot fight the same battle that it has previously fought unsuccessfully unless there has been a significant change in circumstances or it becomes aware of facts that it could not have reasonably been aware of at the first encounter.

¹The decision was appealed and heard at a special sitting on 11 November 2019. Judgment was reserved.

From our vantage point as advisers to many of the world’s top investment fund managers and financial institutions, broad market forces flow through to our instructions, and ultimately drive many of the terms of the funds we advise.

In this four-part series we look at the current themes we have noticed in the investment funds market. Parts one (here) and two (here) focus on Hedge Funds and parts three and four explore Private Equity.

All data, unless referenced, is taken from Walkers' in-house investment funds survey.


TRENDS

2019 has been another year of significant fundraising activity, with both established and emerging managers operating across multiple asset classes, strategies and geographies having gone to market and successfully closed funds of varying sizes. The big players have again been able to launch a number of multi-billion dollar funds, while smaller managers have still found opportunities to market and raise sub-billion dollar funds too. The amount of activity has meant opportunities for innovation, with managers and investors working together to create fund products with bespoke terms in respect of fund duration, investment periods and fee structures. 2019 therefore has been another year of intense activity in the closed-ended space, with Cayman funds dominating this market for non-US investors.

FUND SIZES AND STRUCTURES

Cayman Islands exempted limited partnerships (“ELPs”) remain the vehicle of choice for Cayman closed-ended funds, with only a nominal number of funds structured as exempted companies or limited liability companies coming to market. Those non-ELP funds moreover have been structured almost exclusively to satisfy specific investor or regulatory requirements. Cayman exempted companies remain the most common general partner vehicle, although ELPs and foreign companies, typically Delaware LLCs, remain popular alternatives.

Cayman LLCs, newly launched in 2016, are used from time to time and after a few years in the market appear to have settled in as a relatively niche choice for general partner entities (albeit they continue to grow in popularity for use as downstream or joint venture entities).

Last year saw a spike in sub $500 million fund raises and, while there has continued to be significant activity in that space, this has been a year in which a material number of $1 billion plus funds have had successful, high profile launches.

Generally, managers have not been required to fetter their fundraising with hard caps on commitments. For those funds which have agreed to be so limited, the cap sizes have gone up to reflect the buoyancy of the market.



Higher cap sizes in turn have regularly been reached during the capital raise with, on occasion, general partners (“GPs”) going back to initial investors to ask that the caps be raised.

Twelve months remains the most common fundraising period. The increased confidence in the market has seen this timeframe becoming even more prevalent, with the number of fundraising periods in excess of a year dipping from 33% in 2016 to 24% in 2019.



2019 therefore has been a year of large funds coming to market in a truncated time frame, relative to their size. There is still a huge amount of dry powder to be deployed; the private equity world is looking at the M&A market in anticipation of a correction which many managers feel is imminent, and it should be well placed to act if and when it occurs.

FUND STRATEGIES

Technology focused funds have seen the most significant uptick in activity in 2019. There have been a small number of closed-ended funds which have launched with cryptocurrency based strategies; however it is the venture capital style funds which have been most active in the technology space, raising material amounts of capital to help in the hunt for the next batch of unicorns.

This year has also seen more private equity fund-of-funds come to market. As well as the more traditional fund-of-funds strategies we have also seen secondaries funds raise significant amounts of capital, as the fast maturing private equity secondary market continues to boom.