Monday, June 3, 2013

Hunting for Capital in North Carolina

Hunting for Capital in North Carolina

I ran across a brief mention of an investment made by the North Carolina Innovation Fund into a private equity fund managed by a firm called Falfurrias Capital Partners.[1]  Before we can dig into this investment, I need to lay out a bit of background.  The North Carolina Innovation Fund is an entity created by the State Pension Plan in 2010 designed to earn returns by investing in companies in North Carolina.[2]  Credit Suisse manages the fund. Falfurrias[3] is a private equity firm, whose chairman is Hugh McColl, Jr. and is located in Charlotte.
Singapore Tour (1999)
Falfurrias according to its website, generated top-decile returns in its first private equity fund raised in 2006.  The firm invests in middle-market private equity deals in the southeastern US.  The Innovation Fund is an investor in the second fund.  I haven’t been able to determine how big the fund is or how much the Innovation Fund committed.  There’s also no way of knowing whether Falfurrias’s top-decile name stands up to scrutiny.  However, the Innovation Fund has a team of experienced professionals, and I am sure they kicked the tires.

As best as I can tell, Mr. McColl remains very active at age 77 (he’ll turn 78 later this month).  Not only is he the chairman of Falfurrias, he’s also chairman of McColl Partners, an investment bank, and sits on numerous boards.  Mark Oken, 66, the former CFO of Bank of America, runs the day-to-day operations of the business.  Together they’ve assembled a small investment team.

Private equity investing requires a long-term commitment from investors, as the funds usually have a ten-year life.  So in all likelihood, Falfurrias II will still be in existence as Mr. McColl approaches his tenth decade.  There’s certainly no reason why a savvy investor can’t continue to be active into his 80s.  However, there are the small matters of succession and the allocation of carried interest.  In a liquid investment, these issues are quite as important, because you usually can redeem your money if the firm starts to fall apart.

As an investor, I paid a lot of attention to two questions: (i) who owned the firm, and (ii) who received carried interest (incentive profits).  As money managers began to approach their mid-fifties, I wanted to see ownership begin to move to the next generation.   If ownership remained with the older generation, there’d likely be issues of business continuity somewhere over the course of a ten-year investment relationship.  I was also expecting carry (20% of the fund’s profits) to be allocated to folks who were going to be around and deeply involved throughout the life of the fund.[4]

Unless Falfurrias is in the midst of implementing a succession plan, Mr. McColl, his wife, his son, and Mr. Oken own all of the company, according to its ADV filing with the SEC[5], and the McColls own the vast majority of the firm.  We have no way of knowing what proportion of carried interest is reserved for Messrs.’ McColl and Oken, but given their ownership and their positioning on the web-site, it is probably substantial.  Even if the first Falfurrias fund was a top-notch fund, I’d be wary about making a commitment to a firm with this structure.

In addition to Mr. McColl’s firm, the Innovation Fund has investments with six other managers.[6]  None of the other six appear to have the acute succession challenges of Falfurrias.  They do, however, share two common characteristics.  The principals are, for the most part, incredibly well connected in North Carolina political circles, and they are white males.  You can find a female controller, office manager, or marketer, but when it comes to investment decisions, there’s no diversity.  While there’s limited disclosure about the Innovation Fund’s investments, one thing is clear.  Membership in the good old boys club pays.

[3] The firm is names for the town in Texas where Mr. McColl and his co-founder, Mr. Oken have a hunting camp.
[4] If retired, older partners, or absentee partners had undue amounts of carry, I quickly lost interest in a potential investment, even if the track record was exemplary.
[6] Carousel Capital, Frontier Capital, River Cities Capital Funds, Kion Capital, Hatteras Venture Partners, and Novaquest Capital Management

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