NGP explores ‘adaptation’ strategy in Fund X

Natural Gas Partners has closed its tenth fund on $3.58 billion. The fund blends the firm’s traditional focus on oil and gas-related opportunities with the ability to pursue a unique strategy – investments in the way a growing population adapts to limited resources.

The firm, which capped its fundraising at one year, came in under its initial target of $4 billion. NGP activated the fund in January and has already made 11 investments from Fund X. One of those investments falls into the NGP Global Adaptation Partners platform, which focuses on water resources and services and agriculture.

The Global Adaptation strategy only accounts for 10 percent of the capital in the fund. The balance of the fund’s capital will go toward the firm’s more core focuses of oil and gas production, oil field services and the “midstream” sector – generally including gathering, transportation and processing.

NGP could pursue more water and agriculture-related opportunities through co-investments, according to firm chief executive officer Kenneth Hersh.

“We’re investing in humanity’s ability to adapt to a changing planet,” Hersh told Private Equity International in an interview this week.

Interconnectivity

While the strategy may sound a bit lofty, it actually closely interconnects with the firm’s core areas of focus. Take oil field services, for example. “Unconventional natural resources move as much water as hydrocarbons,” Hersh said. A routine hydraulic fracturing job, in which a chemical mixture is injected into shale rock formations to break them up, allowing access to trapped natural gas, uses 3 million to 4 million gallons of water, he said.

That water has to be sourced, transported, stored, treated and recycled. Add in geography – much of the oil and gas work in the US is performed in the southwest where there is an acute scarcity of water – and the job becomes even more challenging.

Those challenges, of course, present investment opportunities.

“When you have growth in the industrial base, growth in oil and gas, human needs – the confluence of those events is causing the industry to not be able to take water availability for granted,” Hersh said. “This is a huge market.”

The Global Adaptation strategy also includes agriculture, which also ties back into NGP’s core experience. Significant increases in global demand, especially as a result of population growth in Asia, are leading to the need for increases in food production.

North America is best positioned to increase its agricultural output, Hersh said. As North America increases its food output, services around that production like logistics, handling, storage and processing, also need to grow, creating opportunities for investors.

“The water and agriculture businesses have been dramatically under-invested in over the past few decades because they weren’t seen as being critical,” Hersh said.

Convincing LPs

NGP had a tough time convincing investors of the strategy at first. The firm initially thought to raise a separate fund

for Global Adaptation Partners, but decided to roll the strategy into the flagship vehicle, two limited partners told Private Equity International last year. The original exposure for the strategy was 25 percent of Fund X, but again LPs demurred and the exposure was reduced to just 10 percent of the tenth fund.

As one market source said in a prior interview, agriculture and water services investments were “not what investors think of when they think of Natural Gas Partners”. An existing NGP LP said in a prior interview: “It was an interesting concept … people didn’t know what to make of it. A lot of potential LPs were resistant to it.”

However, the firm now has a chance to prove the strategy, and time will tell how well NGP seizes on the opportunities it sees in the sectors.

One thing that is certain: LPs were willing to get back on board with the firm for its long track record of buy and build transactions in oil and gas. NGP was able to attract back a big portion of existing LPs, though some at smaller commitments than in the past, and add some new names to its investor list.

Like every other firm in the market today, NGP found fundraising challenging; compared to the last time the firm was in the market, LPs this time around were much more focused on due diligence, Hersh said.

“The LP community has added to their processes … the level of procedure that many went through was more extensive than in the past, which is a very healthy thing,” Hersh said. The year it took to raise the fund was the longest NGP ever spent marketing an investment vehicle, Hersh said. That was partly the result of the firm’s efforts at expanding its LP base.

“We had been fairly well-dominated by endowments and foundations. In the post-financial crisis world, the endowments and foundations, while they maintain strong support for us, have been constrained in their ability to commit similar amounts to what they were able to do in the past,” Hersh said.

Ultimately, the firm was happy with the result of its marketing campaign.

“We are very pleased with the amount of capital raised during the past year, especially given the recession’s impact on the overall fundraising market,” Hersh said in an earlier statement. “[The fund] is of sufficient size to allow us to continue our core investment business over the next several years.