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Castanea Goes Outside for Fund II
by Kenneth MacFadyen

September 20, 2004 - It's been a little more than two years since Newton, Mass.-based Castanea Partners raised its debut fund the internally capitalized, $75 million Castanea Partners Fund I. For the firm's follow-up effort, however, Castanea went outside its inner circle, and in early September closed the $207 million Castanea Partners Fund II, L.P., the buyout shop's first institutional vehicle.

Castanea exceeded its $150 million to $200 million targeted range, bringing on seven new limited partners including Yale University and Princeton University, as well as other endowments, pensions and foundations. Like its first fund, the firm's second fund also includes a chunk of its own capital.

"Raising this fund obviously gives us more powder and allows us to diversify our own holdings, but most important, this represents the appropriate next step for the firm to build Castanea for the long run," Castanea Founder and Managing Director Brian Knez told Buyouts.

While Castanea will have more capital at its disposal, the focus will not change. The firm will continue to seek out small- to mid-market investments, which Castanea defines as businesses with enterprise values of between $25 million and $100 million. The firm will also continue to seek out deals in the publishing, education, business services, consumer product, specialty retail and marketing services sectors.

The sector focus comes from the firm's founders, Knez and Robert Smith, who from 1999 to 2001 shared co-CEO titles at Harcourt General and high-end retailer Nieman Marcus. "One of the reasons our sector mandate is broad is because we were each brought up in Harcourt," Smith said. "At the time, Harcourt General was essentially a public holding company, with publishing, specialty retail and other consumer product businesses in its portfolio."

Castanea will typically make equity investments ranging from $10 million to $20 million, and usually looks for control transactions, but if necessary will also engage in club deals with other sponsors. Castanea pursues management buyouts, private company sales, industry rollups, growth equity transactions and troubled situations.

In putting the capital to work, Castanea has given the new fund a jumpstart by rolling over three of the firm's four investments from Fund I. Investments in healthy drink maker FUZE Beverages, carry-out restaurant EatZi's and pharmaceutical research publisher Decision Resources were all rolled over. Lee Munder Capital Group, which received an $11.5 million minority investment from Castanea in 2002, will not join the others in the new fund. "From the limited partners' point of view, it's about an alignment of interests," Knez said.

So right off the bat, Fund II is a little less than 20% committed, giving the firm roughly $167 million of dry powder for new investments. Castanea expects to close two deals in the next couple of months. The firm's Fund I had invested about $45 million of its capital prior to the raising of Fund II.

And while Fund II has gotten off to a quick start, Castanea doesn't expect to keep up this pace going forward. "We're not looking for lots and lots of deals," Smith said. "We're looking to do seven or eight good deals. We need enough resources here at the firm to add value after the investment, and two or three deals per year make sense." For this reason, Castanea limited its fund size to just $200 million.

Knez added, "We probably could've raised more money, but this is what's appropriate. We're a small-market firm, and from our perspective and our limited partners' perspective it was prudent that we cut it off at around $200 million."

Email Kenneth.MacFadyen@thomson.com

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