GP Stakes - Private debt and Infrastructure

Private debt and infrastructure are among the fastest-growing segments in private markets, presenting attractive opportunities for both acquirers and owners of fund management businesses.

Despite a generally more muted M&A market within the broader Financial Services (FS) sector, we have observed several transformational transactions. BlackRock's acquisitions of Global Infrastructure Partners (US$12.5 billion) and HPS Investment Partners (US$12 billion) are particularly significant and setting reasonably high watermark prices for these types of firms.

In this blog post, we will explore the perspectives of both buyers and sellers, and highlight some of the key drivers, benefits, and trade-offs of M&A activity in this sector. The asset management industry i.e. traditional asset management and private markets may look very different over the medium term therefore strategic M&A is rewarding for both parties.

Buyers' perspective

Buyers of private debt and infrastructure asset managers are looking to capitalise on the growing demand from investors trying to find less correlated asset classes ie. to diversify away from stock market Beta. Traditional 60:40 equity/bond portfolios have not worked in the recent past given the interest rate cycle. Furthermore traditional active asset managers are finding it tough to compete against passive players driving fee margins lower. Private Debt and Infrastructure provides higher fee margins and asset classes more difficult to replicate with passive solutions.

However, buyers also face some challenges and risks in pursuing these deals, such as:

The limited number of private debt and infrastructure asset managers that are open for a transaction, and the high competition and valuation expectations that this creates.
The complexity and due diligence involved in assessing the performance, quality, and sustainability of the underlying assets, portfolios, and teams of the target fund managers, and the potential for hidden issues/disputes or regulatory issues.
Continued LP community support for the platform, without which there is an increase in complexity for a transaction
The integration and retention of the key talent, culture, and relationships of the acquired fund managers, and the alignment of their incentives, governance, and strategy with the buyer's objectives and vision.

Sellers' perspective

Owners of private debt and infrastructure asset managers are looking to realise the value of their businesses. Some of the motivations behind these include working capital to fund growth initiatives and incentivising the next generation through equity in the business. Owners also see the benefits of being part of a larger house, such as access to more resources, capabilities, networks, and markets, as well as the potential for economies of scale, cross-selling, expanding into new products and geographies, attracting capital from private wealth (democratisation of alternatives) and enhancing their reputation and credibility.

This is particularly relevant in the current difficult fundraising environment, where institutional investors are increasingly consolidating their relationships and allocating their capital to fewer and larger managers, creating challenges for GPs (outside the top 10) who often lack access until they reach a certain size.

However, sellers also have to weigh the trade-offs and challenges that selling their businesses may entail, such as:

Loss of entrepreneurial dynamism, control, and identity that may result from joining a larger organisation, and the potential for misalignment of interests, values, and incentives.
The difficulty of finding the right buyer who can offer a fair price, a strategic fit, and who can help them grow the business (vs.promises).
The impact of the transaction on their existing and prospective investors, who may have concerns about the continuity, stability, and performance of their funds and assets.

In conclusion, the infrastructure and credit asset manager sector offers attractive opportunities for both buyers and owners. Both private debt and infrastructure are likely to see more activity and innovation in the coming years, as the energy transition, regulatory environment and the investor demand shape the future of the asset classes, it this value: Our top three tips for both buyers/sellers are:

Have clear objectives

Ensure that you have considered your strategy, outcomes and what good looks like to ensure you create the value you need.

Focus on chemistry at the start, synergies and integration as the deal progresses

Chemistry is very important as the overall deal process/outcome is generally different from status quo (such as perception of value paid, rebrand, managing LPs etc). In terms of integrating and deal synergies, Infrastructure and Private debt firms are more difficult to integrate into traditional asset management firms given the nature of the firms and the way money is managed, so cost synergies are lower than typical acquisitions. Therefore focussing on revenue and distribution synergies and having a clear plan at the start is very important.

Together you are worth more

Valuation and form of consideration can be an issue of contention for both buyer and seller. Future value involves both buyer and seller working together to achieve the joint business plan which is not possible without the legacy of the business (i.e. historical track record) and the potential the business can realise under the new ownership structure. Therefore both buyer and seller need to be sensible about splitting the difference.