After home run with Annie's, Solera finds fundraising slow

Solera Capital LLC made news last year when the 14-year-old firm took portfolio company Annie's Inc. public in one of the hottest IPOs of the year.

But Solera, a woman-owned, middle-market private equity firm, is now raising its second fund and investors are taking their time to make allocations. Solera Partners II has a $350 million fundraising target and a $500 million maximum fundraising limit.

If Solera's experience is consistent with similar firms that started around the same time, it should have a fighting chance.

Seventy-six percent of U.S. middle-market buyout funds that raised their first funds in 2000 went on to raise a second fund that was as large or larger than their first fund, according to Preqin, a London-based alternative investment research firm. By comparison, 73% of all first-time private equity funds worldwide successfully raised another fund. Preqin's definition of middle-market buyout for 2000 vintage buyout funds is funds with total capital of $300 million to $750 million.

Only 15% of U.S. middle-market private equity buyout firms that raised their first funds in 2000 have not raised another fund, compared with 20% of all private equity firms that raised their first fund a dozen years ago.

Preqin's research team could not determine when these general partners went out of business, switched to another strategy or began raising capital on a deal-by-deal basis.

“Some buyout firms likely closed their doors before the 2008 financial crisis since the fundraising for a cycle for a (general partner) is typically every three to four years, and they may not have been able to raise a successor fund in that time,” said Richard Stus, manager of private equity fund data at Preqin, in an e-mailed response to questions.

Middle-market and emerging private equity firms can present hurdles not normally found with larger, more established firms, according to investment consultants, all of whom declined to be identified or speak about a specific manager. These hurdles can include smaller teams, fewer resources, incomplete track records and lack of brand recognition. Many also have problems that are sometimes shared with larger firms, such as team chemistry issues.

But investors who are currently exploring how best to get access to emerging private equity managers like Solera Capital believe it is worth the effort to overcome those hurdles.

“There is a consensus in the entire group interviewed that there are indeed emerging managers in private equity who have great promise and deserve the support of institutional investors,” noted Los Angeles-based consulting firm Crosswater Realty Advisors in a private equity emerging manager report submitted to the investment committee of the $264.6 billion California Public Employees' Retirement System, Sacramento, for an Aug. 19 meeting.

“The challenge is how best to identify these managers,” the report concluded.

Solera did get off to a rocky start.

Well before the 2008 financial crisis, Solera lost half of its four founders: One switched careers, another left for personal reasons. Then the Great Recession hit, and Solera executives turned to investors in 2008 for a cash infusion, raising a $50 million annex fund the firm used to reinvest in its portfolio companies.

Now, the stresses in the executive suite and on the portfolio companies have eased.

“Nine senior executives have been with the firm for, on average, more than eight years,” said Mary Ellen Hennessy-Jones, a founder of the firm as well as president and head of research, in an e-mailed response to questions.

Julie Klapstein, co-chair of the operating council at Solera, stressed in an interview the firm is poised for continued success. “Solera is a different type of private equity firm. When we say (the firm is) values-driven, we really mean it,” said Ms. Klapstein, who has been a member of Solera's operating council since 2000. She soon will be joining the investment committee.

Indeed, the council is “highly unique” because council members are involved with Solera's portfolio companies, working on projects from a few weeks to several months at a time, Ms. Klapstein said. Other private equity firms' operating councils do not have the same level of involvement.

“We feel part of Solera; we're not a separate group. We share in the carry,” she said.

Annie's, Solera's natural foods portfolio company best known for its purple boxes of organic bunny-shaped macaroni and cheese, went public at $19 per share and rose 89% in its debut, leveling off around $44 a share.

The remaining portfolio companies in Solera's first fund are doing well, Ms. Klapstein said. “I think the portfolio companies are all in a really good place. We'll see more excitement coming out of Solera.”

Still, investors are cautious.

Oregon Investment Council, Tigard, was one of the largest investors in Solera's $245 million first fund. Its $50 million commitment represents 25% of total fund capital. But even though staff and private equity consultant TorreyCove Capital Partners LLC recommended a $50 million commitment to Solera's second fund, the investment council, which runs the $63 billion Oregon Public Employees Retirement Fund, Salem, sent staff back to renegotiate terms.

CalPERS, another investor in Solera's first fund, Solera Partners LP, also has yet to invest in Solera's second fund, said Joe DeAnda, a CalPERS spokesman in an e-mail. Investor hesitation was brought to the forefront during a May 29 Oregon council meeting. Council members had three main concerns: the firm's management structure, key-man provisions and fee terms.

During the meeting, council members voiced concerns about the concentration of returns. The majority of Solera's returns came from taking Annie's public. Annie's has performed well as a public company, producing 5.3 times Solera's investment, according to materials on the investment council's website.

The success of Annie's propelled Solera's first fund into double-digit returns, with a net 10.2% internal rate of return, earning a net 1.9 times its investment as of March 31, according to the materials.

Oregon Investment Council did not participate in Solera's $8 million annex fund. Including the annex fund, Solera produced a net IRR of 10.5%, according to sources. Solera also posted gains with the sale of The Little Clinic to The Kroger Co. in 2010 for $86 million.

“Oregon is one of our first backers in fund one. They have been supporters from the outset,” Solera's Ms. Hennessy-Jones said.

Some council members also were concerned with operational risk. “Management fees from Fund 1 have been insufficient to fully pay the firm's expenses, therefore founder Molly Ashby does not take a salary from Solera but receives the largest allocation of carried interest,” a staff memo stated. Ms. Ashby declined to comment.

The firm is buoyed by carried interest, its share of the profits.

“Carry goes broad and deep to all levels of the firm,” Ms. Hennessy-Jones acknowledged in the same e-mail. “Solera is well-capitalized and well-positioned for the future.”

In a memo to the board, TorreyCove stated the potential returns from investing in companies in sectors that are undergoing major changes or demographic shifts — Solera's specialty — were worth the risks. TorreyCove recommended a $50 million commitment predicated on several factors, including Solera holding a first close of no less than $200 million and inclusion of 8% preferred return in the terms.

James Sinks, council spokesman said discussions are ongoing. n