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How Carlyle’s Metropolitan sale deviated from the past

The private equity giant took a different exit route in splitting from its indirect real estate platform than other sub-scale businesses in recent years.

It has been a month since BentallGreekOak finalized its acquisition of multi-manager real estate platform Metropolitan Real Estate, now called BGO Strategic Capital Partners. But takeaways from the deal have continued to become apparent since.

Most significantly, the parting of ways between The Carlyle Group and Metropolitan is understood to have differed from the private equity giant’s recent approach to shuttering its other less successful businesses, PERE has learned.

Schwarzchild: promising opportunities can be found in real estate secondaries and co-investments.

With $2.4 billion of assets under management as of December 31, Metropolitan was one of Carlyle’s smallest businesses, representing just 1 percent of its $246 billion in total assets under management. The firm raised two funds as part of Carlyle’s Investment Solutions platform: the $550 million Metropolitan Real Estate Partners Secondaries & Co-Investments Fund in 2016 and the $1.2 billion Metropolitan Real Estate Partners Secondaries Fund II in 2019. However, Metropolitan shrunk in size under Carlyle’s ownership, having had $2.8 billion in AUM at the time of its 2013 sale to the private equity firm.

“At the end of the day, at $2.4 billion, it’s not going to be a needle mover one way or the other,” said Meghan Neenan, senior director at Fitch Ratings.

With the departure of co-chief executive Glenn Youngkin in September, Kewsong Lee, now the sole CEO of Carlyle, is understood to have wanted to focus on large scalable businesses at the firm, notably private credit. By contrast, he wanted to get out of businesses that lacked growth potential. Indeed, Lee’s Investor Day presentation in late February highlighted “focused, large and scalable platforms” and “pursuing size and scalability.”

“When they’re thinking about the fee rates that they can get and the scalability of other platforms, it’s easier to put investment dollars behind the credit platform, because that one is more likely to pay off,” Neenan remarked. “Whereas this business is just not going to move the needle for them, so is it worth it for them to put that time and attention into it, where even if it doubled, it’s still a very, very small part of their platform?”

Rather than sell them outright, Carlyle has often exited sub-scale businesses in recent years through spin-outs, as was the case with its Asia real estate business in 2018, its Carlyle Cardinal Ireland Fund in 2019 and its Carlyle Sub-Saharan Africa Fund last year. However, Sarah Schwarzschild, co-head of Metropolitan and its global head of secondaries, is understood to have wanted the platform to be part of a larger organization rather than be independent. BGO subsequently submitted an unsolicited offer to Carlyle during Q3 2020. There was no sale process for Metropolitan.

Origins in a broader strategy

TIMELINE

2002

Metropolitan Real Estate Equity Management founded by David Sherman and David Nasaw

2013

The Carlyle Group acquires Metropolitan Real Estate

2014

Sarah Schwarzschild joins Metropolitan as vice-president from Partners Group

2016

Metropolitan closes on $550 million Metropolitan Real Estate Partners Secondaries & Co-Investments Fund

2019

Metropolitan raises $1.2 billion for Metropolitan Real Estate Partners Secondaries Fund II

2020

Kewsong Lee becomes sole CEO of Carlyle

2021

BentallGreenOak buys Metropolitan from Carlyle

Carlyle acquired Metropolitan in 2013 to further build out its secondaries platform following the 2011 acquisition of private equity fund of funds manager AlpInvest and the 2014 purchase of hedge fund of funds manager Diversified Global Asset Management. “AlpInvest is one of the largest fund of funds businesses globally and it has been very successful,” said Neenan. “So they thought about rounding out that product set.” AlpInvest currently manages $49 billion of assets.

However, Carlyle has “a bit of a mixed track record when it comes to acquisitions,” she pointed out. With DGAM, which the firm shut down in 2016, “they had a harder time really leveraging it and growing it the way that they wanted to, so I suspect that’s maybe some of the issue here [with Metropolitan], or they felt they’re very focused on growing fee earnings over time.”

One industry player in the real estate secondaries space observed that Metropolitan was never integrated into the larger AlpInvest platform. “The issue there is private equity and real estate are cousins but distant cousins,” he said. “AlpInvest is a massive $50 billion. Metropolitan is $2.5 billion, which is not tiny, but compared to $50 billion, it is not very big. From that standpoint, the things you hope for in a business – fundraising synergies, middle- and back-office synergies, obviously relationship synergies – they just don’t exist between private equity and real estate.”

PERE understands Metropolitan had expected Carlyle to help the platform raise a significant amount of capital, but Metropolitan did not receive sufficient support when it initially went to market the Metropolitan Real Estate Partners Secondaries & Co-Investments Fund. Carlyle’s real estate specialists were at first asked not to work on the fundraise while the firm’s generalist fundraising team handled the capital raising. “The fundraisers, they sell what’s easiest to sell,” said an unnamed source familiar with the firm. “It’s easier to sell Carlyle’s more typical traditional private equity products. This was a little, niche product.” The fundraise was later taken over by the real estate specialists, who went on to raise $500 million in nine months.

Both of Metropolitan’s fundraises under Carlyle took more than a year. The firm held a first close for Metropolitan Real Estate Partners Secondaries & Co-Investments Fund in October 2014, according to a filing with the Securities and Exchange Commission, but did not announce the fund close until July 2016. Meanwhile, Metropolitan had been in market since at least January 2017 with Metropolitan Real Estate Partners Secondaries Fund II and announced its final close in January 2019.

Notably, the fund’s strategy shifted from secondaries and co-investments to secondaries only – a change that PERE understands was made to avoid potential conflicts with the US direct real estate team led by Rob Stuckey. One of Metropolitan’s recent secondaries deals was the formation of a strategic partnership, announced in October, with Summit Real Estate Group to acquire and develop infill, last-mile warehouse and distribution buildings in high-growth markets across the US Sun Belt, alongside Summit’s Arrowrock Income & Growth Fund III. The GP-led secondaries transaction was made through MREP Secondaries II.

Kalsi: his firm made an unsolicited offer for the Metropolitan platform

However, the firm has raised considerably smaller amounts of capital for co-investments than for secondaries. For example, the firm amassed $475 million for Metropolitan Real Estate Partners Co-Investments Fund II, according to PERE data. Metropolitan has deployed this capital into co-investments such as the acquisition, announced in November, of a 363,800-square-foot cold storage facility and adjacent development site in China’s Greater Bay Area, in partnership with Houston-based manager Hines.

Metropolitan also earned lower fees as a real estate secondaries fund manager, charging a 1 percent management fee on committed and invested capital, according to a document from the City of Southfield Retiree Health Care Benefits Plan and Trust. This translated to low fee-earning revenues while also having to pay its portion of overhead costs at Carlyle, according to the unnamed source.

Performance was another factor that impeded Metropolitan’s growth at Carlyle. The business was generating a 3 percent total net internal rate of return as of December 31, according to Carlyle’s Q4 2020 earnings results. By contrast, AlpInvest generated a 12 percent total net IRR. “It’s easy math in that sense to say, where do we want to put our focus?” Neenan remarked. “If it’s underperforming peers, it’s going to be very hard to scale and grow follow-on funds.”

She added: “I think there is a business that will grow over time. But the question is, do you want to put in the work and wait it out for it to really gain scale? Maybe it just has a better home somewhere else.”

Schwarzschild, however, explained that BGO Strategic Capital Partners’ most recent and largest programs are still in their investment periods, adding that the platform had taken a deliberate approach to deploying capital. “Our team made the conscious decision during 2019 not to stretch for peak-pricing, choosing instead to time our capital deployment for better opportunities,” she told PERE. “That dry powder positioned our programs well, as the majority of the funds’ capital will be invested post-pandemic. The opportunity set we are seeing today in both the secondaries and co-investment space has been exciting.”