Is Fund Size Growth a Red Flag?

Introduction

As LPs increasingly concentrate capital with top-performing GPs, fund size growth remains one of the most common—and most debated—factors in private equity underwriting. Growth in fund size can reflect strong historical performance and sustained LP demand, but it also raises familiar questions: Will additional scale push the GP into larger deals and potential strategy drift? And with more capital to deploy, can the existing team maintain underwriting quality and returns?

This paper asks two related questions about what actually happens.

1. Do GPs with larger successor funds simply execute more of the same strategy, or do they shift into transactions that change the portfolio’s risk/return profile?
2. All else equal, do funds that grow significantly underperform those that grow more modestly—and should LPs therefore treat aggressive fund size targets as a red flag?

We explore the nuanced implications of fund size growth and examine these questions using fund-level and deal-level data. Our analysis focused on North America funds raised since 2000 that are tracked in our SPI database. The analysis suggests that LPs should consider the scalability of a GP’s strategy, since we’ve seen that sequentially larger funds are likely to complete larger deals. While fund size growth is an important factor requiring careful evaluation, it is not, on its own, a determinant of a fund’s ultimate returns.

The context: Why fund sizes grow

GPs typically frame a larger vehicle as enabling:

• Broader portfolio diversification;
• Greater capital reserves for add-on acquisitions;
• Extended deployment timelines (especially if the prior fund was deployed rapidly); and/or
• Access to larger deals or the ability to increase equity stakes.

Fund size increases are often also driven by a mix of GP ambition and LP demand. LPs, however, expect a fund’s target size to be driven by the opportunity set and strategy rather than the amount of available capital. In today’s environment, many GPs are finding themselves deploying larger funds amid a relatively cool deal market.

It is natural for fund managers to aspire for growth, but a significant increase in fund size introduces the risk of strategy drift—potentially making historical performance less relevant and stretching team capacity. It may also reduce co-investment opportunities for LPs (Figure 1).
 

Figure 1: Advantages and Risks of Fund Size Growth

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Source: StepStone Group analysis
 

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