Capital Raising: Emerging Managers' Seven Mistakes
Updated: Mar 26, 2022
Capital raising is the most important part of the fund creation process. If the manager is not able to raise enough capital to cover the start-up and operating costs of the fund, it will quickly fail. Empirical research has shown that chronic fundraising difficulties and failures explain why less than 20% of all start-ups and emerging managers manage to reach the symbolic threshold of $100 million in assets under management.
Launching a new investment fund is no small task. Fundraising can be extremely time consuming and is invariably hard work. The international pandemic has even worsened the fundraising environment for both established and emerging managers, causing some to halt their fundraising campaigns.
The statistics around the number of (firms raising funds a) and amount of capital raised by emerging managers in 2020 was significantly lower than in years past, as investors have been inclined to continue investing with managers they know. This time of constraint requests more than never a well thought fundraising plan. In this very tough environment, we have identified seven mistakes that any manager should avoid if he wishes to grow his fund.
Mistake #1 Lack of marketing plan. Research shows that 80% of all start-ups and emerging managers do not have a documented marketing process
Most start-ups and emerging managers are full of enthusiasm for the actual or potential performance of their funds, leading them to engage in capital raising activities with excessive enthusiasm, in the mistaken belief that 'returns' will attract AUM. But trying to raise new capital without a well-thought-out marketing plan is a major source of failure. Indeed, good performance only attracts a certain level of attention. Without a documented, disciplined, and focused marketing plan and protocol, most small managers end up frustrated, exhausted, and disillusioned.
A well-designed marketing plan should provide a clear protocol for a high and consistent level of execution of the business development strategy. It should create visibility, awareness and seek to develop the necessary relationships, including with external service providers, to not only broaden but also diversify the investor base. In addition, it provides accountability and a quantifiable method to measure marketing efforts and return on investment. Growth or lack of growth in assets under management is a late indicator of the success or failure of the marketing plan, as well as the level of marketing execution.
Mistake #2: Lack of marketing budget. Research shows that only 1 out of every 275 sub USD 250 million AUM funds established a marketing budget
Typically, those same young managers and small funds that do not have a marketing plan also do not have a marketing budget, which explains the high failure rate in raising capital for this category of managers. One of the most common misconceptions is that the true financial costs of marketing and fundraising are not assessed and considered early in the process of launching an investment fund. The other common misconception is that marketing and fundraising costs can be minimized or eliminated by outsourcing fundraising activities to a "third-party marketer" ("3 PM") who will be compensated based on "commissions" indexed to the fund's performance while assuming all marketing and sales costs.
To conduct successful fundraising, 3 PM's mission includes a wide range of activities that can be tailored to the size and background of the manager. 3 PM's engagement is comprised of developing investor materials (digital and paper), new product orientation, investor database development, media relations, RFP development, event marketing, and sales (making phone calls, attending industry conferences, managing a sales team, conducting conference calls and site visits). Implementing these activities involves significant costs that may exceed the financial resources of small funds, but cannot be the sole financial responsibility of 3 PM, but of the fund's client.
Mistake #3: Not focusing on the most appropriate investors
Most startups and small managers waste valuable time and resources "chasing institutional unicorns." They try to get allocations from investors that don't fit the fund's profile, as evidenced by some structural issues such as lack of scale or operational robustness. Discussions of institutional allocators and small funds are largely obscured by the significant operational requirements associated with managing trust assets, which most small and medium-sized funds cannot meet. As such, identifying ideal target segments and profitable investors is critical to success on both the manager and investor sides. Choosing the right marketing techniques to reach potential intermediaries and investors is also critical.
Mistake #4: Too much information drowns out information. Failing to develop a clear, concise, coherent, compelling and consistent strategic sales message
Strategic selling messaging is the careful development of accurate and succinct communication tools that quickly convey the key message(s) the manager wants to get across to investors. Don't ignore Rule 37 of the 42 Rules of Marketing. In today's hyper-competitive environment, a manager who fails to get his or her message(s) across quickly and with resonance risks losing potential investors. The message(s) must be tailored to the type of client-targeted and must provide answers or explanations specific to the solutions sought by each client or group of clients. Otherwise, the manager will make a poor impression on potential investors who will think that he/she does not understand their needs and requirements.
Mistake #5: Believing your fund will sell itself
Most startups and small managers make the mistake of thinking that their fund is so great, the returns are so outstanding, and the alpha generation is so compelling that they don't need marketing to tell their story to the investment community. There are several thousand new funds launched every month by emerging and mature managers! How can an investor (or intermediary) spot the best opportunity in this sea of proposals? The reality is that investors and intermediaries need to be educated on why they should invest in one fund over another. They need to reach a very high level of conviction to simply decide to meet with one manager over another. Regardless of pedigree, management quality, fund and investment performance, no manager can do without active and sustained sales efforts to attract, retain and grow assets under management.
Mistake #6: Neglecting relationships with existing investors
Most small funds focus primarily on growth by attracting new clients. Unfortunately, this often leads to a lack of proper maintenance of relationships with existing investors and a lack of organic growth. Existing investors should not be neglected, and a high level of communication should be maintained to maximize retention rates. This will ensure stability, growth and diversification of assets under management. Unfortunately, the lack of strong relationship management (service, communication and education) with existing investors often leads them to look elsewhere, making higher allocations to managers who do not neglect them.
Mistake #7: Lack of patience, wanting too much too soon
Often, start-ups, emerging managers and, in general, funds with less than €250 million of assets under management that embark on new fundraising are disappointed and discouraged because the expected results do not show up immediately. Raising new capital is a long process based on patience and trust. It takes time to create the necessary and sufficient level of interest and confidence to get allocations from investors.
All marketing professionals are familiar with Rule 7 of selling, which states that most prospects will need to come in contact with the products or services offered 7 times before they buy. This rule has been confirmed by empirical research and can be broken down as follows:
- 2% of sales are made on the first contact
- 3% of sales are made during the second contact
- 5% of sales are made during your 3rd contact
- 10% of sales are made during your 4th contact
- 80% of sales are made between the 5th and 12th contact.
In conclusion, the recipe for converting a potential investor into a true investor, the manager starts with communication through a consistent marketing process that creates an exceptional holistic experience for the investor. The manager must build a "360-degree trust" relationship with potential investors, one that allows them to "know" and "trust" the manager, his product offerings, his promises and his performance, enough to take the risk of making the allocation.
Gone are the days when promoting pedigree and returns was the only or primary marketing tactic for raising funds. Smart processes are essential and central to all marketing and asset gathering, regardless of the amount of capital to be raised. Managers should start by establishing a sales plan with clearly defined protocols and strive to stay the course, follow the plan/process/protocols, then it will pay off. There is no such thing as instant success. Avoiding these seven common mistakes and allocating a reasonable marketing budget is the path to successful fundraising. After all, it takes money to raise money!