Successful private equity fundraising hinges on the ability to demonstrate exceptional investment opportunities. Limited partners (LPs), who provide capital to private equity funds, are looking for general partners with the most unique ideas and implementations.
A term that typically gets thrown into any meeting between general partners (GPs) and limited partners is “proprietary deal sourcing.”
It’s something LPs Katie Moore, Managing Partner, Fund Investments at Hamilton Lane and Aditya Fontana-Raina, Managing Director at Stepstone Group, say they hear… a lot.
LPs have high expectations for GPs when it comes to deal flow, particularly in terms of proprietary sourcing. But to make sure GPs and LPs are speaking the same language, we need to define “proprietary” and more importantly examine other factors LPs are considering in their investment decisions.
Defining Proprietary Sourcing
Proprietary sourcing refers to the practice of identifying and securing investment opportunities that are exclusive and unique.
A proprietary deal can take one of two forms: 1) a deal in which a firm is the only bidder or 2) a deal in which a firm is the first of multiple bidders and has a significant head start in terms of a relationship and access to company information.
These opportunities are not widely available in the market and are not accessible through traditional channels. They are the hidden gems, the untapped potential that can deliver exceptional returns.
The exact definition of proprietary sourcing can vary from one GP to another. Some argue that it encompasses deals that are entirely non-intermediated and bilateral, meaning there is no middleman or broker involved in the transaction. Others might include deals that, while not entirely non-intermediated, still provide a distinct advantage or unique access compared to other market participants.
Our webinar panelists were purists. They defined proprietary deal sourcing as deals that were entirely non-intermediated and bilateral. They also cautioned GPs about exaggerating the uniqueness of their deal sourcing efforts. If an LP is interested in pursuing a partnership, they will do their due diligence and discover if the deals are truly proprietary.
LPs Expectations for Deal Flow
LPs do not simply look for GPs who claim to have proprietary deal sourcing; they want to see tangible results.
For LPs, proprietary sourcing is not just about finding deals that others can't. It's about the effectiveness of the GP's sourcing process. LPs want to witness a steady and robust deal flow that aligns with their investment goals and strategies.
This effectiveness can be measured in various ways, including:
- Deal Volume: LPs want to see a consistent stream of opportunities. They expect GPs to source a substantial number of deals, demonstrating their ability to uncover hidden gems regularly.
- Deal Quality: It's not just about quantity; LPs emphasize the importance of quality. They look for deals that offer attractive valuations, align with the GP's strategy, and have the potential for significant returns.
- Differentiation: LPs are interested in what sets a GP apart. They want to know if the GP has special relationships, partnerships, or insights that give them an edge in sourcing deals. This differentiation can be a game-changer in competitive markets.
The Role of Relationship Sourcing
One aspect of proprietary sourcing that LPs find particularly intriguing is “relationship sourcing.”
Relationship sourcing involves GPs leveraging their network and connections to gain access to exclusive deals. For example, a GP might have strong relationships with smaller banks. LPs are interested to learn why those relationships mean better deals for the fund. Do the smaller banks come to that GP first with their deals? Such relationships can be a valuable asset.
LPs are interested to know about your team’s relationships and how they provide early access to investment opportunities.
However, LPs emphasize that it's not enough for GPs to simply mention these relationships. They want GPs to communicate how these relationships translate into a competitive advantage. GPs need to articulate why they are the go-to choice for their partners and how these partnerships benefit LPs.
GPs often use case studies to illustrate their sourcing strategies. These case studies should provide concrete examples of how the GP has successfully identified, pursued, and closed proprietary deals. They serve as proof that the GP has a consistent and effective approach to sourcing opportunities.
LPs appreciate the transparency and insight provided by case studies. It allows them to see the GP's sourcing process in action and assess the level of diligence applied to each investment opportunity.
Grata Helps Dealmakers Find Their Edge
"Proprietary sourcing" is not just a buzzword in the world of private equity; it's a crucial factor that LPs consider when choosing their partners. To build their deal pipeline, dealmakers need the right technology.
Grata is the leading deal sourcing platform that helps dealmakers find, research and engage with middle market companies. Set up a demo to learn more.