10.1 Fund Manager Selection: The Process

Question 1

Fund Manager Selection Process: What does it consist of?

1. Determine wish List
   2.
   3.
2. —>
   5.
3. Commitment

Answer 1

2. Classify Management Teams
3. Deal Sourcing
4. Due Diligence –> Screening, Meeting the Manager, Evaluation, Final DD
5. Decision

Question 2

Pre-due diligence phase

1. Determine Wish List: based on … and …
2. Classify Management Team: ___ is important, rank manager teams according to …
3. Deal Sourcing: ….., Approaching Selection –>
   ..
   Critical criteria: …

Answer 2

investment strategy of the investor, resulting portfolio design

track record, fund performance and duration

network of industry contacts,

reactive deal by LPs not effective; Typically, word-by-mouth reference of top fund manager teams;
long-term relationships

Question 3

Market Mapping of Fund Performance

▪ …: top-quartile performance; at least two business cycles

▪ …: top-quartile performance for most
of its funds; at least two business cycles

▪ Emerging: ; characteristics to become an established team

▪ Reemerging: previously blue chip or established
team; potential to…

Answer 3

See slides 9 for important diagram

Blue Chip

Established

limited joint history

reemerge as an established or blue chip

Question 4

Why Due Diligence?

▪ Origin of term ‘Due Diligence’: Derives from the US capital market and investment protection law

▪ Definition of Due Diligence: … conducted to evaluate an investment opportunity

▪ Goal: …

▪ Reasons for Due Diligence
a) …
b) …

Answer 4

Research, examination, and analysis

determine whether an opportunity is suitable to the investor’s objectives and needs

Performance Persistence in Private Equities; Agency Theory

Question 5

Agency Problems

In which contexts do you use the following approach?

Fund Manager Due Diligence: (in which agency problems are possible)

Answer 5

Check slides 11

When we try to understand “How to select the right fund manager” –> Hidden Manager + Hidden Information

Rationale:
Fund manager
▪ Wants to portray himself in the best possible light
▪ Raise capital with ideal terms
▪ Has a disincentive to share potentially detrimental characteristics/information

Question 6

Performance Persistence of Private Equities

▪ Performance persistence of PE buyout fund managers
▪ Investigation on 3,977 individual managers from 801 different private equity firms active in 5,030 buyout transactions
▪ Persistence for individual managers …

Answer 6

still exists while at PE firm level it has declined

Question 7

Individual Manager Persistence

▪ Positive and significant impact of…
▪ Effect for … than firm-fixed effects
▪ … has no significant effect on performance

▪ Clear evidence for … can be found
▪ “Manager fixed effects explain 3.7 times as much variation in the cross-section of performance relative
to the firm fixed effects.”
▪ … therefore might be a suitable proxy for future returns

Answer 7

lagged deal performance

single manager larger

Industry experience and educational background (human capital)

performance persistence of individual managers

Individual manager ́s track-record

Question 8

Due Diligence

Screening: Private evaluation of what 4 things? (Private Placement Memorandum)

Meet the Manager: WHY IS THIS STEP DONE?

Evaluation: what happens within this step?

Final in-depth Due Diligence: What happens in this step?

Answer 8

check slide 15 for the the answers. The goal is to understand the little details within each step of the Due-Diligence process.

Question 9

Importance of Investment and Operational Due Diligence

Investment Due Diligence
▪ …
▪ Identification of …
▪ Evaluation of past performance of fund managers
▪ ….
▪ Interdependencies between investment risk and other risk categories (e.g.,…)

Answer 9

Appropriateness of fund managers investment strategy with investor’s strategy
financial exposures and uncertainties
Qualifications of investment team
organizational risk, legal risk

Question 10

Operational Due Diligence
▪ … can be a drag on performance and service level
▪ Increased … (e.g., Alternative Investment Fund Managers Directive in Europe)
▪ Growing complexity of …
▪…. (e.g., legal risk, business risk, reputational risk)
▪ Greater focus on…

Answer 10

Poor operational infrastructure

regulatory requirements for operational risk

alternative investment fund operations

Interdependencies between operational risk and other risk categories

outsourcing of the investment management function