Table of Contents



Preface

  1. What is Reflections of an Allocator?
  2. Why Pursue Investing?
  3. About Me/Contact Me

Overarching Themes & Principles
  1. Want to Predict the Future? Look at Incentives.
  2. Culture Really Matters.
  3. People, People, People = A Winning Formula for Success.

Asset Allocation & Risk Allocation

  1. Where Have All the US Public Companies Gone?
  2. Why Invest in Private Equity?
  3. Creating a Private Equity Investment Strategy.
Manager Selection & Co-Investing

  1. Creating a Manager Selection Framework.
Direct Investing & Security Selection

  1. Creating a Business Quality Framework. (Part 1)
  2. Creating a Business Quality Framework. (Part 2)
  3. Creating a Business Quality Framework. (Part 3)
  4. Creating a Business Quality Framework. (Part 4)

Business & Industry/Sector Research

  1. Aggregators in the Public Markets (Part 1): TransDigm Group.

Creating a Manager Selection Framework.




Preface

The following is a framework that I have been working on for manager selection due diligence. Whereas performance/historical results are inherently backwards looking, I believe that there are certain timeless principles that can be potential predictors/factors of success. The framework is simple by design, as it is distilled down to the core areas that I’ve learned are key. Note that the framework is not designed to be comprehensive, rather it should be viewed as a starting point, one that hopefully leads to many more questions.

This is the final piece of a three part series: 1) Why Invest in Private Equity? 2) Creating a Private Equity Investment Strategy. 3) Creating a Manager Selection Framework.

Manager Selection Framework:



In the following section, I’ve tried to describe some ways to potentially turn the Investment Criteria and Core Questions into quantitative measures:

1. High Potential Net Returns

  • Analysis of assets within the firm’s investment strategy indicate top-quartile returns as compared across the asset class. (i.e. Revenue / EBITDA / FCF growth of target investments should support top-quartile returns, ignoring market dynamics on multiples)
  • The above analysis holds true for a 1 standard deviation drawdown in market multiple.
  • Throughput analysis of investments indicates a >2.5x-3.0x Gross MOIC or >20% IRR using assumptions within the bounds of historical execution.

2. Proven Track Record

  • Top quartile past performance amongst peers.
  • Ratio of deals led by partners that will remain with the firm for the fund being underwritten.
  • Line of sight to the latest deals indicates fundamentals are in line (calculated distribution relative to historical data) with stated strategy and underwritten track record (e.g. check size, control %, Revenue, EBITDA, etc.)

3. Focused Investment Strategy
  • Count and percentage of GICS Sectors in which the firm invests.
  • How many value creation levers are exercised? (organic revenue growth, M&A, margin expansion, multiple expansion, change in leverage, etc.) Has this changed over time?
  • Measure variance in the fundamentals of the underlying investments over time. (check size, control %, Revenue, EBITDA, etc.)
  • What % of Realized Value is attributable to multiple expansion / (contraction)?

4. Clear Competitive Advantage

  • Firm's LOI conversion rate (context).
  • % of dry powder in the managers specific market area belongs to this firm. (sector / geography / strategy)
  • Sourcing Process: Historical investment-weighted averages of souring strategy. (auction, single-shingle shop, proprietary, etc.)

5. Aligned Organizational Structure

  • Team Headcount by Function, by Vertical.
  • Management Fee / Carried Interest allocation across the team.
  • Other indications of incentive alignment with the broader team.
  • GP Commitment to the Fund.
  • Average associate tenure. (Currently and by fund?)
  • Headcount growth over time.

6. Exceptional Team and Culture

  • Count of Senior Leadership.
  • Distribution of deal leadership across partners.
  • Senior Leadership years working together as partners.
  • Associate turnover / attrition rates.
  • Diversity measures - representation of varying genders, ethnicities, educational backgrounds.
  • Years of experience.

7. Effective Investment Process

  • Top of Funnel > LOI Issuance > Closure (# / %).
  • Deployment Pacing Consistency. (Avg. and Std. Dev.)
  • Distribution of Board Seats across firm leadership.
  • Investment Committee Dynamics: # of IC Members, Approval structure (unanimous, supermajority, etc.)

8. Compelling Firm Reputation

  • Passes background check.
  • Count of identified articles with negative sentiment.
  • Weighted average grading system for reference calls indicates "A" quality firm. (Grade reference feedback on A-F scale).
  • What is the existing LP re-up rate for the Manager?
  • What is the makeup of the LP base? (% ENF, % Pensions, % Family Office, % Past Partners / CEOs, etc.)

9. Accretive, Long-Term Relationship

  • Historical Coinvest $ : Fund $ Ratio.
  • Average Years of Experience for Partners.
  • Capital-weighted average realization premium / (discount) to the latest provided mark.
  • Reunderwriting frequency (eg. every 6 months)
  • The firm has an established valuation methodology. When comparing firm valuation methodology to my valuation methodology for an illustrative cohort of portcos, the valuations are within +/- 10% of the smaller value.

10. Satisfactory Outside Due Diligence

  • Partners pass background checks.
  • Any court cases against the firm and GP identified and understood.
  • Hold a conversation with the chief compliance officer.