Morgan Stanley Continue to Move Forwards in Private Equity


January 9, 2015

The financial crash in 2008 has had a profound impact on private equity and many large financial institutions have had to change the way they operate. Despite some institutions and banks moving away from private equity, Morgan Stanley continues to push forward with its latest fund raising $1 billion.


The Announcement
The bank released a statement on Thursday evening stating that its closed its second credit fund with $1 billion raised. The fund is called the Morgan Stanley Credit Partners II LP and it is set to help create new loans as well as buy existing debt of companies operating in North America and Western Europe. According to Seeking Alpha, the companies the fund will invest are required to “have earnings of $15 million or more before interest, taxes, depreciation, and amortisation”.


In the statement, Ed Moriarty, the head of merchant banking & real estate investing said, “This significant capital raise for Morgan Stanley Credit Partners speaks to the strength of the team’s rigorous, credit-centric investment approach and the strong investment performance they have achieved”.


Mister Moriarty went on to say, “Our clients appreciate the differentiated approach Credit Partners brings to this opportunity set as well as the benefits the team maintains by being part of the Merchant Banking & Real Estate Investing platform, including access to Morgan Stanley’s global network as well as resources dedicated to providing best-in-class operations, risk, reporting and client service.”


Furthermore, the managing director and head of Morgan Stanley Credit Partners, Hank D’Alessandro outlined the fund’s core mission by stating, “Our Credit Partners investment team continues to focus on finding investment candidates that have leading market positions and generate strong free cash flow and returns on invested capital”.


The previous fund by the bank, which closed in 2011, was able to raise a similar amount of money. The Business Insider reported that the fundraising began 15 months ago.


Fundraising from Unexpected Sources
Perhaps more surprisingly, the bank didn’t rely on its usual wealthy individual client base for fundraising the capital. The new fund raised more than twice as much institutional money compared to the first fund. The Business Insider, as well as other newspapers, failed to get a respond on the percentages of institutional and individual investors.


According to Reuters, the bank was able to increase its wealthy individual clientele after the buyout of Smith Barney from Citigroup.


The fund has already started investing money. It has invested in four companies with a combined total of $144 million.


Effects of the Volcker Rule
The new fund has managed to raise money despite the effect of the Volcker Rule in the private equity industry. The financial crash in 2008 has left marks in the sector, with the so-called Volcker Rule limiting the amount of money bank and its own employees can invest in these funds.


Although some institutions have been quiet in investing in private equity after the rule, Morgan Stanley, with its latest fund, show the bank is committed to build its private equity funds. Morgan Stanley is one of the only banks that not have only remained committed to invest in private equity, but that also doesn’t invest outside of fund structures.


At the moment, the wealth and investment management businesses of the bank operate separately and according to the Business Insider, “its financial advisers are not allowed to advocate investments in Morgan Stanley funds over others”.


Due to the Volcker Rule, Morgan Stanley and its affiliates have a capital commitment of 3% in the new fund.


We reported on the effect of the Volcker Rule at the start of last year, when a number of banks announced the ruling is making it difficult to continue operating in private equity. Citigroup sold its private equity arm CVCI to the Rohatyn Group in order to comply with the ruling and it has been considering getting rid of its remaining private equity assets.


Banks disappearance from the private equity market has been welcomed by a number of analysts. Many believe it provides a much better and wider operating ground for pure private equity firms.


The final deadline for banks to comply with the new rules in the US takes place later this year. Banks have to change their private equity investment structure or sell the assets before the end of July this year.


Not the Only Fund
The current credit fund isn’t the only such fund for the bank. It has also been fundraising capital for a global infrastructure fund, with the aim of raising $4 billion. Furthermore, it also raises money to a $2.5 billion global real estate fund and another private equity fund which size is not known.


As reported last year, its $1.7 billion private equity fund focused on investing in Asia closed in 2014.


The bank believes there’s a strong need for investment vehicles such as its funds. D’Alessandro told The Street, “There’s a core need in the middle market where companies can’t access junior capital in the liquid markets and need a private market alternative and that’s what we provide”.


Mixed Response
Although the bank is determined the second fund will succeed, not all the experts were as optimistic on Thursday. The Street’s credit rating team gave the fund C+ rating. The team believed there’s plenty of optimism, especially as its stock price performance has been stable and its revenue growth has been steadily rising. Furthermore, the earnings per share have outperformed many similar funds operating in the sector.


But the analysts also point out the gross profit margin for the bank has remained lower than expected, currently standing at 29.42%. According to the Street, “the net profit margin of 17.83% trails the industry average”.


It remains to be seen whether Morgan Stanley will continue holding on to its private equity assets as vigorously and what other major banks will do before the final deadline. In pure fundraising terms, the latest result is another proof that investors are keen to invest in private equity funds.

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