By Jackson Eisenpresser and Dana Hollinger
In the world of investing and investments there are several types of fund structures in which to invest. The traditional fund structure, the Evergreen Fund structure and what we will call the “Enhanced Evergreen structure.” This article will explain the funds, outline their differences, and draw attention to the Enhanced Evergreen Fund.
In a traditional fund structure general partners raise a set amount of money from external investors for a fixed number of years. After this process, the doors close, money is put to work and, at the end date, the fund is wound up and repaid. The Evergreen Fund is an open-ended fund that has no termination date and investment returns are typically recycled into the fund rather than distributed. Carried interest or performance fees are generally paid on an interim basis with metrics such as cash flow and portfolio net asset value as criteria.
The Enhanced Evergreen fund provides investors options they might not otherwise have. The general partners often take a seat on the Board of directors of invested companies and take an active role in stewardship. In addition, investment returns are distributed rather than recycled and there is the ability to exit.
In both the Evergreen and Enhanced evergreen funds, investors and entrepreneurs benefit from having decisions based on merits verses a set time horizon. Investors may stick with a successful entrepreneur and the first opportunity to invest in a follow-on offering. A follow-on offering is a subsequent investment made by an investor who has made a previous investment in the company, generally a later stage investment compared to the initial investment. By making initial investments in these companies the managers have both trust and access to the entrepreneur that creates the opportunity to increase their investment in these companies. In traditional funds follow on offerings do not make sense so they get skipped. This is because the fund is closed, and the managers move on. An investor does not have the option of deploying additional capital. And not deploying additional capital may cause a dilution in value by forcing the investors to exit at an inopportune time at a distressed value.
And so, the Enhanced Evergreen fund differs from the tradition Evergreen fund in several ways. Let us explain.
- First, in the Enhanced fund, carried interest is realized by the GP’s taking an increased stake in their companies, aligning their interest with their entrepreneurs. When carried interest is converted into in kind shares into the companies the general partners invest, their ownership of the fund is effectively reallocated, so the general partners end up with an increasing stake. The general partners have the risk of loss on those assets. This enables the general partners from their position of influence to work with the entrepreneurs to establish a robust process with effective governance and remain confident in that process. They are incentivized to grow the companies with the continued goal of long-term value creation.
- Next, in the Enhanced evergreen fund investment returns are distributed to investors rather than recycled back into the fund.
- Finally, in the Enhanced Evergreen fund an investor can exit, typically, in 4-5-year cycles. Since money is not recycled any investor that chooses not to reup their shares can be side pocketed in the fund and wound down. Management fees are taken up to 4 years then they cease even if the assets are not liquid regardless of value
Let us mention that Enhanced Evergreen Funds are not for every investor. The decision about Enhanced Evergreen Funds should be based upon investment objectives, investment time horizons and general market conditions.
There are differences in Traditional Funds, Evergreen Funds and Enhanced Evergreen Fund what differentiates Enhanced Evergreen Funds are:
- Improved governance structure.
- Carried interest is converted into stock ownership in the portfolio companies.
- There is an ability to exit.
- Investment returns are distributed to investors rather than recycled back into the fund.
Because of these reasons’ investors should explore Enhanced Evergreen Funds as they consider the deployment of capital.
Disclosures: The report and commentary contained herein is specifically written for institutional investors and is not intended for distribution to non-institutional investors. Such investments may not be suitable for all investors and each should make their own suitability and investment determination, independent of the material provided herein. This material reflects commentary prepared by ABG, LLC. Nothing herein should be construed as a solicitation or recommendation to buy or sell securities or other financial instruments or to engage in any specific trading strategy. Some information contained herein may be from outside sources the firm believes to be accurate and reliable. However, neither ABG, LLC, nor its affiliated entities, guarantee the accuracy or reliability of such information. ABG, LLC does not have beneficial ownership of 1% or more of any class of common equity securities of the subject company. The firm has processes and procedures in place to address conflicts of interest with respect to the activities of personnel assisting in this report. ABG, LLC is registered with the SEC and is a member of FINRA. For additional disclosures, please see our website www.abgadvisory.com.
Dana Hollinger is a Managing Director of ABG Advisory and previously served on the CalPERS board, ICGN board, and the Women’s Leadership Board to the John F. Kennedy School of Government at Harvard.
Jackson Eisenpresser is CEO of ABG Advisory and previously served as Director of Principal and Advisory Strategies at Tony Blair Associates.
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