As we have reported many times in recent years, endowments, pensions, sovereign wealth funds, family offices and other large investors are working outside the typical private equity structure. In order to have greater discretion over the deals they allocate to and to avoid traditional fees, these investors are more and more looking to place capital via co-investments, direct investments, and club deals with other institutional investors. By no coincidence, independent sponsors, or fundless sponsors as they are sometimes called have risen to greater prominence and grown in number and size over recent years. Despite this shift in favor of independent sponsors and a greater willingness by investors to allocate to the deals they lead, many family offices and other investors I meet with are still unfamiliar with what an independent sponsor is and what separates an independent sponsor from a traditional private equity investment vehicle. I thought it would be helpful to provide a brief primer here on independent sponsors.
So, what is an independent sponsor? An independent sponsor is a type of investment vehicle that executes private equity or alternative investment deals outside of the traditional fund structure. The independent sponsor typically sources an investment opportunity, executes a Letter of Intent, and then reaches out to its investor network to raise capital for the specific deal. The independent sponsor’s actual involvement in the transaction varies, with some firms simply sourcing the target company and engaging capital partners while most independent sponsors take a more hands-on role improving the company and structuring the deal from start to finish, as would a private equity sponsor.
At our recent Family Office CIO Summit in Los Angeles, one of the featured speakers remarked on the emergence of independent sponsors and how almost half of all private equity funds today were in fact independent sponsors. Private equity firms and other equity funds raise capital from investors in order to make investments in companies and have agreements signed by the Limited Partners to invest in the acquisition targets that the fund selects. In contrast, an independent sponsor lacks the upfront capital to execute a buyout and has to raise that money after securing the LOI.
Independent sponsors tend to be selective in the deals they represent because they have greater flexibility in mandate and structure than a dedicated fund with an agreed-upon mandate for capital commitments. Given that most independent sponsors are executing deals one at a time and not endlessly managing a pool of capital, they have less consistent revenues than if they enjoyed an annual management fee on assets under management. The firms are usually very lean and loosely structured with only a few partners and far less infrastructure than a traditional investment firm. The fees these entities charge varies and largely determined during negotiations with investors; many investors can needle down fees or gain concessions, especially with newly-formed independent sponsors.
Written by Richard C. Wilson