Private Equity Funds of Funds: “PE Lite” or Equally Attractive Finance Job?

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Private Equity Funds of Funds: InterviewsFew jobs cause as much confusion as those with “finance” or “fund” or “equity” somewhere in their titles.

We’ve already looked at the fun distinction between FIG vs. Financial Sponsors vs. DCM vs. Leveraged Finance in previous articles, so today we’ll turn our attention to the 2nd most confusing topic: what you do at a fund of funds – and how a private equity fund of funds differs from other types.

PE funds of funds sit somewhere between traditional private equity and asset / fund management roles, so the recruiting process and what you do on the job are also “in between” both of those.

And that means that these roles could be great for you, terrible for you, or… somewhere in between (a shocking conclusion, I know).

Our interviewee today will break it down for you, including how to get in, what the recruiting process is like and how technical questions and case studies differ, what you actually do at PE funds of funds, and the types of candidates they’re looking for.

Then, in Part 2, we’ll dive into what you do on the job in more detail and all the juicy details on pay, deals, exit opps, and more. Let’s go:

From Commercial Banking to PE Fund of Funds: The Path Not Taken?

Q: You read this site. You know the rules of the game. Your story, please?

A: Sure. I went to a “semi-target” school in the US, graduated a few years ago, and started out with an internship in wealth management (since everyone does the wealth management internship first) and then a commercial banking internship. I had also completed a very informal private equity internship after my freshman year at university.

I won a full-time offer out of the commercial banking internship, and since the hiring market wasn’t great at the time – and since I didn’t want to work investment banking hours – I decided to take it and be happy that I had a job.

About a year into it, though, I found myself bored out of my mind. The work wasn’t that challenging, and although the hours were good (barely more than a “normal job”), I didn’t want to work there for the rest of my life.

Q: So this is where you’re going to tell me that you networked like crazy, set up 100+ informational interviews, and then got into the private equity fund of funds against all odds, right?

A: Wrong!

I did exactly the opposite of what you’ve recommended and I began by looking for jobs online and submitting my resume everywhere I could.

At this point, I was applying to anything I could find in asset management and fund management.

The work would be more interesting and the hours might be a bit worse, but still nothing like those in traditional investment banking.

I also knew that since I had several brand-name banks on my resume and that PE internship, I would have a better shot at applying for these roles online than someone without that experience.

Q: So this story ends with you landing the offer anyway?

A: Yes, I know, blasphemy, right?

I got interest from a few firms simply by applying online… BUT there were a few factors working in my favor:

  1. As I mentioned, I already had several brand-name banks on my resume from my internships and full-time job.
  2. I had the PE internship from my first year in university (and yes, I kept it on my resume since it was relevant for buy-side roles).
  3. Although I hadn’t gone to a “top school,” it was still solid and I had high grades.
  4. Finally, I focused on opportunities on the west coast of the US – there aren’t as many candidates here, so recruiting was arguably easier than in a place like NYC or London with hordes of qualified junior people.

If these points don’t apply to you, you’ll have to network aggressively and do more than apply online.

I won an offer at one of the Top 20 funds of funds after going through the recruiting process (disclaimer: not a “typical result”).

Private Equity vs. Private Equity Funds of Funds vs. Investment Banking vs. Hedge Funds vs. Asset Management vs…

Q: OK, I’m going to jump back into the recruiting process in a bit and have you fill in the details there.

But first, can you tell us what you actually do at a PE fund of funds?

A: Sure. This is an asset management role, and we invest only in private equity funds.

Effectively, we’re a Limited Partner of funds like KKR, Blackstone, and so on (at a smaller fund of funds, you would invest in PE firms with lower AUM).

At a normal PE firm, you conduct due diligence on companies and you may invest in them or buy them outright and then sell them; we do something similar, but with the funds themselves rather than the underlying companies.

So you evaluate the management team, their track record, their portfolio companies in their previous funds (if available), and how much the portfolio is really worth. We want to make sure that the General Partners will be able to generate high returns for us in the future as they have in the past.

We also spend a lot of time working with our own clients: pension funds, endowments, family offices, and any other institutions that have invested in us. We look at their own portfolios, their risk-adjusted returns, and see how much they’re allocating to different investment classes and geographies.

So it’s a mix of evaluating PE funds and their portfolios, and also “investor relations” work with our own investors.

Q: Right, but it sounds like you also do some work at the “company-level” if you’re evaluating the portfolios of these firms, right?

A: Yes, but it’s more about doing a “sanity check” on the valuation. Some of these firms own so many companies that it’s not feasible to do a detailed valuation for every single portfolio company.

So we’re trying to find cases where the market value differs dramatically from what the firm claims its companies are worth. Also, it helps us get a sense of each fund’s valuation methodologies as some are more aggressive than others – the revaluations help us standardize the returns internally.

The core difference is that we focus very heavily on the management teams at funds and assess how good they are and whether or not their investment strategy is repeatable and sustainable.

Q: OK, but that sounds very “fuzzy” to me. How exactly do you “evaluate” a management team?

A: A lot of it comes down to team and how long the team has been together.

As a specific example, some of the mega-funds have lost their appeal and become less attractive because so many teams split off and went elsewhere once the mega-buyouts stopped (or at least “paused”). As an investor, you would be worried that you may be losing the strongest people in the team.

As a result, many LPs are moving more toward the lower end of the market.

We also look for patterns in the investments that individual teams have made over time – we assess whether or not their returns are truly “repeatable” and if there are “one-time success stories” (or on the flip-side, “failure stories”) that increased or decreased returns.

Q: That makes more sense now. So you invest in both new funds (primary) and also buy stakes from existing owners (secondary)?

A: Yes. Many funds of funds will only do secondary investing in PE funds that already have 80-90% of their capital committed, but it varies by fund and sometimes the percentages at which they’ll invest are as low as 40-50%.

Also, many funds do co-investments along with the PE firm itself – so if we’ve put money into one of Blackstone’s funds and they want to acquire a new company, we might potentially invest directly in that company alongside them.

The advantage is that we can double-down on an investment if we really like it, and effectively “over-weight” our exposure to that company or industry.

And it’s also good for analysts and associates because you get more exposure to LBO modeling and the technical skill set – sometimes the job itself is light on those skills outside of these co-investments.

Q: So what percentage of the equity would you usually invest in alongside the PE firm?

A: It varies by fund and by company, but it’s framed more in absolute dollar terms than in percentages, at least on large deals.

The minimum might be $5-10 million, but it could go up to $50-60 million if we need to chip in that much.

Contributions are also pro-rated depending on how much an LP (us and any of the PE firm’s other investors) has invested in a particular fund.

Q: Awesome, thanks for explaining all of that. Anything else to add about what “private equity funds of funds” are and what you do?

A: Not really. Note that the time spent on each of these tasks – evaluating PE funds to invest in, making co-investments, “investor relations,” and monitoring existing funds and portfolio companies – varies tremendously based on the market and fundraising environment, and also based on how your fund operates.

If you’re set on going into traditional private equity in the future, as we’ll see in Part 2, you need to find a group that makes a lot of co-investments so that you get the LBO modeling and deal exposure.

Getting Your Foot in the Door

Q: So let’s say that you’ve gotten interviews lined up for a PE fund of funds, or you’ve at least seen some interest from various funds.

What’s the recruiting process like? Is it similar to traditional PE or hedge fund / asset management recruiting?

A: It’s similar to entry-level PE and hedge fund recruiting, where you go through 3-4 rounds and then also get the infamous modeling test and/or case study.

Most technical questions you’ll get are standard; it’s not as if a fund of funds can invent a new form of accounting and then quiz you on it.

Your “story,” of course, continues to be important and you’ll get lots of questions on “Why a PE fund of funds rather than traditional PE, or rather than a generalist group at a fund of funds?” and so on.

For those questions, go back to what we talked about before and bring up how you get more variety day-to-day at a PE FoF, including a mix of modeling and deal work, fund evaluation, portfolio monitoring, investor relations, and more, and how you’d rather do that instead of focusing only on one of those.

Q: Yeah, it seems like this is the closest you can get to a “generalist” role on the buy-side since people normally specialize very quickly.

What can you expect with the case studies?

A: I got one traditional private equity case study (“Build an LBO model for this company and make an investment recommendation”) and then a fund evaluation case study.

The second one was much harder for me since you can’t exactly find comprehensive online guides to evaluating PE funds.

Q: Well, you know that’s why we’re doing this interview, right?

A: Of course… anyway, before you even go into the interview process with a PE fund of funds, take a look at the filings of private equity firms that have gone public.

These will give you a good idea of what to look for and what to expect in these case studies, and with so many public PE funds these days you have no excuse not to do it.

In “fund evaluation” case studies, they’ll usually give you:

  1. A summary description of the fund, its investment strategy, and its current portfolio companies.
  2. Valuation estimates for the portfolio and the fund’s track record (IRRs over a longer time period).
  3. Information on the management team, how long everyone has been there, and the strategies that different Partners favor.
  4. The cash flow statement of the fund. They’re unlikely to give you a full set of financial statements, which makes it both easier (less to analyze) and more difficult (less information to base your decisions on).

Q: Great, so how do you evaluate this material and make an investment recommendation?

A: The most important thing is the fund’s track record and how they’ve performed historically, ideally with the same management team over a more extended period that includes both expansions and recessions.

Valuation, of course, is very important, and you also need to dig in to realized vs. unrealized gains.

Many PE funds artificially inflate their returns by including unrealized gains – the paper value of portfolio companies rising – rather than limiting it to only realized gains (actually selling companies for a profit).

Then, you need to analyze how much value the unrealized gains really hold and the probability of those gains being distributed to the investors as “realized” gains.

With the management team, you’re looking at how much turnover there has been, if the team is big enough to support the entire fund, whether or not there have been any lawsuits, and if any “conflicts” between Partners exist.

So an investment recommendation might look like this:

  1. I recommend investing in Private Equity Fund X, because historically they have delivered an average 21% IRR over the past 15 years, with little variation regardless of macroeconomic factors, and due to the strength of their portfolio and management team. All three of their funds are in the 1st quartile compared to its benchmarks in terms of IRR, TVPI, and DPI (typical PE fund benchmarks include Preqin and Venture Economics).
  2. Its portfolio is reasonably valued and public comps and DCF analyses indicate that the stated values are within approximately 5% of the market values.
  3. Since the inception of the fund, there has been no senior-level turnover. The team has proven that they can work well together, with an industry focus on consumer retail, healthcare, and technology and a differentiated strategy based on reducing the expense profile of companies.
  4. Furthermore, the PE firm’s IRRs are not being propped up by huge “one-time” wins – its most successful investment yielded a 40% 5-year IRR, but most of the others have been in the 20-25% range.
  5. Finally, the fund has very conservative valuation policies and has seen significant increases in portfolio company operating metrics. On average, the portfolio companies have YTD revenue growth of 12% and EBITDA increase of 21%. The fund has already distributed 70% of its invested capital and expects to exit 3-4 companies this year.
  6. Major risks include a downturn in its specialty sectors and the firm’s new fund being too large (40% bigger than its last fund), but the team is planning to hire 1 Director and 2 Post-MBA Associates to support the increasing fund size.

Q: Well, I hope everyone is taking notes.

I think this is the first explanation I’ve ever seen of case studies for PE funds of funds, or maybe case studies for funds of funds in general.

Did you have anything else to add there?

A: Not really – you can also benchmark against databases like Cambridge, Preqin, and others to assess how well a fund is performing vs. others raised in the same year, but normally they don’t give you that much information in case studies.

To Fund or Not to Fund: Who Gets In?

Q: So what types of candidates are they looking for? People straight out of undergrad or those with more experience?

A: Usually, funds of funds want people with at least 1-2 years of investment banking experience.

Some funds do recruit at the very top undergraduate schools in the US, but others skip them altogether and focus exclusively on those with full-time work experience.

There’s a fair amount of recruiting out of MBA programs and out of pension funds. Lots of people come from places like the Corporate Pension Funds (like GE or Kellogg), Public Pension Plans, and so on.

Some even come from traditional, direct investment private equity funds, but that background is probably less common than the others above.

I’ve never seen anyone recruited from a Big 4 or accounting background, but I’m sure it has happened before…

Q: So most of the juniors at your fund are from banking?

A: Around 80% come from investment banking, 20% were recruited straight out of undergrad, and I’m the only one here with a commercial banking background.

Q: Great. Thanks for your time!

A: Sure thing, my pleasure.

Part 2: See below. Or just click here and learn all about what you do on the job in PE funds of funds, the pay, the work, exit opportunities, and more.

Private Equity Funds of Funds – Series

About the Author

is the Founder of Mergers & Inquisitions and Breaking Into Wall Street. In his spare time, he enjoys learning obscure Excel functions, editing resumes, obsessing over TV shows, and traveling so much that he's forced to add additional pages to his passport on a regular basis.

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35 Comments to “Private Equity Funds of Funds: “PE Lite” or Equally Attractive Finance Job?”

Comments

  1. Joe says

    This is the first time I’ve heard of anybody get into PE with a commercial banking background. Is our interviewee one of the few exceptions or is it not quite as rare as I think?

  2. Alex says

    What do you think of UC Berkeley Haas or UMich Ross for undergrad? Which is recruited from more highly in your opinion? It is easier for me to get into Ross and I have a 10k scholarship, but Berkeley seems to have more name recognition and is in San Francisco. There is a roughly 50% chance that I wont be able to get into Haas, versus a 30% chance of not getting into haas. I want to work in IB for a few years and then transition into Venture Capital.

      • Alex says

        Thanks, would you say that both michigan and berkeley are target schools? I was also accepted to UCLA, and waitlisted at UVA. Of those four schools which would you recommend? Thanks again for all the help with this!

        • M&I - Nicole says

          I’d probably go for Berkeley; I know some top firms recruit there. Michigan, UCLA and UVA are good schools, but I’d say they’re semi targets.

  3. Nic says

    I was one of the lucky few who have landed myself a 6 mths PE FoF internship last year. As a final year undergraduate student, would you think that it is good to accept my offer for the PE FoF as opposed to say an IB job? My ultimate goal is to pursue a career in the GP side of PE eventually, and i am not too sure if a job in a PE FoF allows me to do that better, as compared to an IB job.

    Also may i know specifically what are the exit opportunities of a PE FoF?

    Would really hope for some input here, thank you people!

    • says

      I wouldn’t say that PE FoF necessarily lets you do that better. People mostly stay in FoF or sometimes move to related fields like pension funds, but getting into direct investment PE is tougher and you need a lot of co-investment experience to have a good chance there. The interviewee will speak to exit opportunities more in Part 2. But bottom-line, traditional IB is better for getting into traditional PE.

  4. R says

    Hi Brian,
    Thank for the great article. I was wondering if it would be possible if you could write about wealth management?

    Thanks.

    • says

      They are similar, but the type of work you do for co-investments would be different since most HFs do not buy out companies. So it would be more valuation and public markets-type analysis and less LBO modeling for co-investments you work on.

  5. Eastern Girl says

    I never thought I’d see an interview on my field on here! There is a difference between what he does and what I do in the sense that I work for the in house PE FoF team of a major pension fund, but of course the core tasks are roughly the same. Now I’m definitely curious about part 2.

  6. Jason says

    Thanks so much for your excellent articles. I just have a quick question. I will have a year of part-time post-graduate remote investment banking internships. Is it still a good idea to network for on-campus recruiting? If so, should I network with analysts or associates or higher?

    Thanks so much,
    Jason

    • says

      Yes, you should still network for on-campus recruiting if you haven’t already won a full-time offer from one of he internships. You usually get better results with more senior people, but stick to analysts if they are not responsive or are less responsive / helpful.

  7. Allison says

    Could you do an article about networking for freshman and sophomores? You mention starting networking early within some of your later articles, but it would be great to get specific tips on how to network when you’re not sure exactly what you want to do, where/when to start, what to talk about if you don’t have any experience, etc . . .

    Also, which is a better summer internship: equity research or state comptrollers office?

  8. consultant says

    i work in a related part of the industry as an investment consultant that advises institutional investors on PE manager selections and portfolio construction (think cambridge, mercer, etc). have you seen people with my background in FoF? how would you perceive candidates like me compared to those from IB?

    • says

      The interviewee did not mention seeing investment consultants switch into FoF, but I imagine that it’s possible – the main issue is that you need to convince them you have the modeling and technical skills and will know at least as close to as much as IBers getting in.

  9. Vincent says

    I realized that most of the BBs have off-cycle internships. Can you do an article on that? Thank you so much. This is a great article.

  10. Ex Banker says

    Sorry for being annoying but as I have an interview with a secondary PE investor coming up, will the part 2 of this article be published any time soon? Thanks!

  11. Alex says

    Hi M&I,

    A bit off topic – but I was asked in a recent interview on how best to identify a target firm in a private market and specifically how to going about this kind of information if this is a company is unknown to mainstream analysts?

    A broader question – how do PE firms initially screen companies when they are picking which ones to look into for for due diligence work? Where do they look for this kind of information? Is there some sort of private info source out there or is deal-sourcing a pure relationship business and its really down to who you know?

    I would be grateful if you can kindly clarify this.

    Thanks guys

    Alex

    • M&I - Nicole says

      I am not 100% sure, I believe you’ll have to do in-depth research on the private market by speaking with people in the market, ranging from industry competitors to their customers/suppliers, etc. You may have to do some cold-calling. Another way to do that is to speak with your (trusted) friends in IB (if they’re willing to share such info) and see if they have any pointers. In terms of private company information, you may actually have to speak with the company’s management and really understand their business to verify their info, because private companies are not held to the same stringent accounting standards as public firms, and private firms’ accounting statements often differ significantly. http://www.investopedia.com/articles/fundamental-analysis/11/valuing-private-companies.asp

      Deal-sourcing is usually a relationship business.

  12. hp says

    Hey I was wondering if I could get a draft of Part II? I tried to sign up for the newsletter but have not received a confirmation (it’s been several days).

    Thanks!

  13. Ashim says

    I am also working at FoF doing some secondaries, and I am having trouble presenting the experience on my CV. What should be the key points to highlight regarding the selected / analyzed secondary interests? Also, would it be appropriate to also mention the rejected secondary proposals and further giving the reasons (e.g. high team turnover, or carry issues etc.)
    Many thanks in advance!

    • M&I - Nicole says

      You might want to highlight 3 projects you are most comfortable discussing, the analyses you’ve done, what your analyses show, and the recommendations you made. For instance you may want to talk about how you came up with your NAV in a particular project, the discount you recommended, and how your efforts advanced the deal. Yes you can mention the rejected proposals if you’re very comfortable talking about them and you played a big role there.

  14. Chuck says

    GIven a 60 minute case study in-person at the firm, what should part (2)–portfolio valuation, DCF and comps look like?

    It seems like the material the firm could give on the fund/underlying companies will be very limited. In other words, how would I go about quickly valuing the portfolio of a fund? It seems like they will be expecting a DCF model–how will I be able to model a DCF given the limited info? Same question for comps/precedents. Along with the time constraint, what’s the best approach here?

    THANK YOU SO MUCH.

    • says

      I would just do a quick valuation based on comps you find on Google Finance for the portfolio companies… just look at historical P/E or EV/EBITDA multiples to save time.

      A DCF would be impossible if you had to build one for every single portfolio company… so maybe do a “spot check” where you create 1 for 1 or 2 of the companies to back up your results from the comps and show a specific example.

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