Fund Operators Shift Tactics on First Closes

As they solicit capital from still-cautious investors, fund operators are increasingly locking in some equity before launching broad marketing campaigns.

While the tactic has been used in the past, it’s become more common as fund managers compete for scarce capital in the post-crash environment. Having some commitments in place can be a big advantage for an operator at a time when investors are sorting through hundreds of pitches, looking for reasons to say no.

“Investors deluged with that flow are making a threshold decision: Is there a first close or not?” one veteran placement agent said. “If not, I’m not even going to look at it.”

A fresh example of the trend is Cerberus Capital, which has been quietly talking with its existing investors about its planned $1.25 billion Cerberus Institutional Real Estate Partners 3. The firm hopes to line up roughly $300 million of pledges before midyear, and then launch a full-fledged marketing campaign.

Atlanta fund shop Noble Hospitality has chosen a similar path. It recently held a first close on an estimated $80 million of equity, all from a previous limited partner, for its planned $200 million Noble Hospitality Fund 2. Now it’s ready to launch a broader marketing campaign for the vehicle.

Other managers that have used the technique in recent months include DivcoWest Properties of San Francisco, Related Cos. of New York and Westbrook Partners of New York.

Quietly raising initial capital before beating the drum for more has multiple advantages. It signals that the operator has a good chance of building critical mass for a viable fund. It makes the vehicle more attractive to foreign investors, an increasing source of fund capital that typically prefers making commitments at later stages. And it can help overcome investors’ reluctance to be one of the first to sign on. “A lot of those folks like to see some familiar names and faces before they dive in,” one market player said.

Doug Weill, co-founder of New York advisory shop Hodes Weill, said that most initial closes are backed by managers’ existing investors — a sign to potential new backers that the operator has delivered on its return promises in the past. “Funds are still moving very slowly through the market,” he added. “And a major ‘check the box’ for new investors is that old investors continue to support the manager. It’s a lot more effective to go to the market with capital in hand.”

The Cerberus vehicle would target 13-16% returns via both equity and debt plays. With leverage, it is expected to have at least $3 billion of buying power. The fund would be the New York hedge fund operator’s first real estate vehicle since it completed raising $1.2 billion in 2008 for Cerberus Institutional Real Estate Partners 2. Cerberus is working with placement agent Greenhill & Co. of New York.

For its fund, Noble would shoot for opportunistic returns by buying hotel properties valued at up to $30 million. Noble is being advised by Allegro Advisors, a New York placement agent.

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