7 Ways Emerging Managers Can Attract LPs
Speaking the language of LPs, communication skills and transparency are among the weapons emerging managers need to have in their arsenal.
For emerging investment management teams, corralling institutional capital is seen as the pinnacle of success. And successfully tapping larger pools of capital and big ticket deals requires a complete shift in mindset. Suzanne West, managing principal of emerging manager specialist Belay Investment Group, breaks this mindset shift into seven steps:
1. Lead with Your Track Record – There really is no common gathering point for operating partners (OPs) and institutional capital to connect and grow relationships, says West, and it takes time learning how to communicate and work with one another.
“The biggest problem I’ve seen is that when OPs do connect with institutional investors [oftentimes] the meetings fail,” she says. “OPs might have talent, track record, access to compelling deals, and be market entrenched, but they may not have had experience with institutional relationships before and don’t understand how to present themselves in a way that resonates with their audience.”
One tip for overcoming this problem is providing LPs with a full track record, with internal rates of return and cash flow multiples for historical deals, before a first meeting. West says that track record is often used by LPs as an initial screening tool, but it’s usually information OPs don’t put together in advance.
2. Understand Your Duty to Investors – In working with institutional investors, OPs are exposed to a different set of expectations and reporting requirements compared to “friends and family” capital. “If you now have a $100M pool of equity with an institutional partner, you are faced with a very different set of fiduciary expectations and emerging managers need to accept that it’s no longer their capital [and they cannot] make decisions in a vacuum,” says West. “An operator that is a strong fiduciary puts the institutional partner’s interests first. Surprisingly, many operators don’t have that in their DNA.”
3. Gain Experience with JVs – Post-financial-crisis, institutional investors want control and the ability to “turn off the spigot” when strategies are no longer viable or there are problems with the partnership.
“The challenge is bridging the gap where investors want tactical control of capital with discretion and OPs see competitive advantages to being nimble [and having full discretion over LP capital]. In the end, most OPs are okay ceding discretion as long as they have adequate flexibility to make decisions that are in the best interest of the real estate assets they are managing,” says West. Given these conflicting desires, creating alignment can be a delicate procedure.
West suggests emerging managers consider programmatic joint ventures and one-off joint ventures with LPs or allocator funds to stay active in the markets while building an institutional track record. This transition phase helps an emerging team get on an institution’s radar while gaining experience building a working relationship and understanding of LP communication, reporting and risk-management requirements.
4. Build an Organization for Transparency – LPs will expect levels of transparency that many smaller fund groups and OPs may never have been subjected to in the past, says West. “As an investor, I want to know what’s going on with my assets real time and what decisions my partner is making that impacts the performance. Many operators aren’t accustomed to being so transparent, never having had to answer to outsiders or justify their decisions.”
5. Demonstrate your Adaptability & Foresight – Investors value partners who remain focused on their investments, are quick to acknowledge when an intended strategy is no longer viable, and are experienced enough to formulate an alternative solution, says West.
“Some teams are so dogmatic they don’t step back and say ‘I need to come up with a plan B in the event things aren’t working,’” explains West. “It’s important to make [a backup plan] before its too late.” In formulating a plan B, investors often develop a greater sense of trust in you as a fiduciary partner.
6. Communicate Problems Before LPs Ask – When real estate performance falters—whether due to market downturns or property-specific circumstances—many managers are reluctant to report the situation or admit mistakes. “GPs generally wait too long to acknowledge underperformance, whether they are at fault or not,” says West. “The worst thing they could do is bury their head in the sand and hope that circumstances change.”
The fear among GPs is that investors will fire them or their relationship with the LP goes sour, says West. “In fact, the opposite is often true. However, they will lose credibility with their investor [by not communicating early] and that’s hard to gain back.”
7. Nurture Relationships for the Long-Term – While it’s challenging to build successful working relationships with LPs, once a relationship is established, a bond is formed and investors will likely stick with an investment team through good times and bad. As West bluntly puts it: “Your investor relationship is sacred, and you really have to screw up to lose it since it’s not always just about the return numbers on a page, but your credibility as a partner.”
Are you speaking the language of real estate LPs? Do you have a plan B if your plan A doesn’t work out? If not, you may not make it past the first meeting with an institutional investor.