Deal-by-deal funding structures may be gaining ground in some parts of the private equity real estate market – or at least, Equity International’s recent experience demonstrates that even veteran managers may need to adapt their strategies in line with changing investor sentiment.
The Sam Zell-led firm, which orchestrates investments mainly in Latin America and other emerging markets, has ceased fundraising for its latest opportunistic vehicle, ZEIF VI, after garnering around $300 million towards its original $650 million target, multiple sources have confirmed. Launched initially in 2015, the fund’s commitments included a $125 million investment from the Teachers Retirement System of Texas (TRS). The firm declined to comment on the fundraising.
Appeasing wary investors
EI’s decision was notable in part because it halted its efforts at a point where the fund had raised a little less than half of its target and of its predecessor; Fund V attracted $650 million in 2011, but, according to a TRS spokesperson, was generating a return of -4.94 percent, as of March. Even more noteworthy, was that the Chicago-headquartered firm opted to convert roughly half the capital raised into a non-discretionary ‘club-like’ pool giving investors greater control over investment decisions.
The rationale for these changes?
The moves were closely linked to investors’ uncertainty over emerging markets and desire for differently structured investment pools, according to several sources familiar with EI’s decisions.
“Institutional investors have got much more savvy and more interested in doing deal-by-deal [investments] as opposed to going into a blind-pool fund,” said one source close to the firm, noting EI would no longer focus on blind-pool funds alone.
And in this case, sources suggested, investors? desire for a different sort of governance arrangement was amplified by emerging markets volatility.
Latin America’s powerhouse, Brazil, for example, has been mired in a protracted period of recession and political uncertainty that has sent ripples across the region. An IMF survey released in April has forecasted a 0.5 percent contraction in the entire region’s growth this year, marking two consecutive years of negative growth that was last seen only during the debt crises in 1982 to 1983.
“The environment has definitely played a role,” the source close to the firm told PERE, noting that while deals had picked up recently, it had been difficult to find transactions fitting EI’s risk-return profile. “Emerging markets in the last four years have been a mess and investors have not been interested.”
Indeed, PERE data reflects a tepid appetite and fewer managers launching such funds. No new Latin America-focused real estate funds have been launched this year so far and neither have any funds announced a final close. In 2015, two new funds came to market and six funds attracted a total of $1.4 billion in final closes (see chart). The most active year for fundraising in the last decade was 2012 when 12 new funds were launched and 20 funds received a total of $5.12 billion in the final closing.
EI’s chief executive Tom Heneghan told PERE via email that although emerging markets have been impacted by higher volatility recently, they should not each be considered in the same light and noted the firm was nonetheless actively investing.
He pointed towards Mexico, which is attracting increased investments in manufacturing, and Argentina and Brazil, where there is less competition for deals due to capital scarcity. In August this year, EI agreed to invest R$400 million ($124 million; €110 million) in Estapar Estacionamentos, a parking infrastructure and services operator in Brazil, its first new investment in Brazil since 2011. It has also made entity-level investments in Mexico, including investing in a retail developer.
The restructuring of ZEIF VI happened amid some internal changes at EI including a streamlined back office – EI has combined this ‘services’ function with affiliated private equity firm Equity Group Investments – and around 10 or so staff departures including Heidi Levin, formerly in charge of capital raising; Brad Beanblossom, who was responsible for portfolio management; and Ravi Hansoty, who’d been appointed head of Asia-Pacific operations in 2015.
Asked about the turnover, the firm told PERE a certain amount was expected noting not every person fits into every organization. It added that its “investment team is as large as it has ever been at EI and its C-level team is intact.”
While Hansoty’s departure has caused speculation as to the firm’s Asian strategy, Heneghan says EI plans to maintain its profile there with “investment professionals actively engaged in managing our Asian portfolio companies and searching for new opportunities.” Among those is its $205 million ZEI Co-Invest 1 Fund. Closed in September, it attracted $200 million from TRS for investment in Japanese logistics real estate projects being developed by e-Shang Redwood, the Asian logistics firm formed in January by the merger of e-Shang and The Redwood Group. EI had made a corporate investment in Redwood in 2013 and post-merger is thought to have approximately a 12 percent stake.
The personnel turnover and the restructure of its latest fund may have shone a spotlight on Zell’s emerging markets real estate investment strategy. But, in spite of recent changes, its message to the market is very much one of continuation and catering to investor preferences.