In a swell of confidence in the dealmaking market, some GPs plan to ramp up management fees.
In a Dynamo Software survey of 100 global alternative asset managers, about 20% of respondents said they expect to increase their firm’s fees over the next 12 months, a significant bump from just over 5% at the beginning of 2023.
The report attributes this shift to mounting optimism among GPs. In 2023, higher interest rates, depressed exits and uncertainty in the market bogged down dealmaking and, as a result, fund returns. Private equity, for example, returned only 6.6% in H1 2023, a drop from its 10-year return of 16.4%, according to PitchBook’s latest Global Fund Performance Report.
After a rough couple of years, asset managers are anticipating a recovery in dealmaking as inflationary, recessionary and valuation concerns begin to recede. With more dealmaking comes better portfolio performance.
Signs of marginal improvement in returns have already hit the market. Fund performance in H1 2023 was up, for example, from the 1.5% drop in returns seen in Q4 2022, according to the report.
With better anticipated performance in 2024, GPs have more leverage to negotiate terms with their LPs and will likely look to balance their fee structures against their returns, said Dynamo Software CEO Hank Boughner.
“This leads to GPs saying ‘hey, the dealmaking market looks really good right now,’” said Boughner.
The survey included responses from PE, hedge fund and VC managers with AUM ranging from less than $100 million to more than $1 billion.
Andy Lund, global co-head of Houlihan Lokey’s placement agent business, said two of his clients are “flying” through the market, raising capital at a rapid pace.
“For the first time in 24 months, managers who have a good story are back in the driver’s seat to a degree,” he said. “It’s not easy out there, but you can be more robust on terms.”
‘A little optimistic’
Still, the survey results may communicate a bit of overoptimism about the fundraising and dealmaking environment.
“When I saw the study, it seemed a little optimistic on the GPs’ part to raise management fees,” said Ashley Kahn, a senior vice president at Callan, an advisory firm for institutional investors. “From our side, we haven’t really seen fees go up or down.”
Management fees typically range from 0.1% to 2% of AUM. Historically, the majority of private capital funds have charged LPs anywhere from 1.5% to 2%, according to PitchBook data.
From 2020 to 2023, for example, 70.6% of all private capital funds tracked by PitchBook charged management fees within that range.
While Kahn said she hasn’t noticed a change in overall fee percentages, her firm has seen fewer instances of GPs granting fee discounts to LPs, which could push up the total dollar count of management fees.
When fundraising is challenging, asset managers offer fee discounts to institutional investors to incentivize them to commit to a fund. Fee discounts are a common way for managers to lure backers amid market uncertainty. Since the onset of the COVID-19 pandemic, managers have increasingly employed this tactic, offering “first closer” fee discounts to push LPs to get into the fund quickly.
The practice was so commonplace that Khan said a decline—which she has noticed over the past few months— in its occurrence is symptomatic of a permanent change in fundraising timelines, which have extended since the onset of the pandemic, according to PitchBook data.
With multiple closes, even for the most in-demand fund, LPs are less incentivized to be the first to commit to a fund without that discount.
The increasing size of funds will also contribute to higher overall dollar count for fees. With larger subsequent funds in fund families, fee percentages could stay the same and take more out of LP pockets.
Featured image by Cavan Images/Getty Images
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