Altaroc’s deal flow process

There are over 5,000 private equity funds in the world, so it's very important to establish clear criteria for filtering our dealflow, and to retain in a disciplined way only those opportunities in which we want to invest. First of all, we only target funds with a size of 1 billion or more. Smaller funds are managed by smaller teams, and therefore carry a higher risk, as the departure of one or two key men can be catastrophic. An exception might be a smaller fund managed by a large, well-established private equity platform, because in the event of a problem, the large platform has plenty of resources at its disposal. Secondly, it takes time to build up an institutionalized private equity firm with all the expertise you're looking for: sector expertise, operational expertise, high-quality internal processes, etc. So we look for firms with a good track record in this area. So we look for firms with at least 25 years of history. We only invest in firms that have established a culture, processes and governance, and whose team dynamics are positive. We also want to ensure that successions at the head of the firm have been well prepared and communicated over the long term. Thirdly, we need a deep and indisputable track-record to reduce our risk and be able to analyze past performance. We therefore want to invest in strategies that have at least 20 years of cash-in-cash visibility, and we need to analyze this track record in detail.

A Fund manager have an excellent track record, but this is not a strength if it was generated by partners who have left the firm; or, secondly, through a strategy that the Fund manager longer pursues; or, thirdly, for example, through just one or two very large successes with highly volatile returns. These last two criteria—firm history and strategy—are easier to meet in the more mature and deeper market of the United States than in Europe, for example. We may therefore be able to invest in very high-quality funds in Europe that do not perfectly meet these criteria. Furthermore, sector specialization is generally a recent development in private equity, so we may also invest in sector-specific funds specializing in software or healthcare, for example, that do not have exactly 20 years of history. We have also defined organizational criteria. First, team size criteria, as we seek to invest in very solid private equity firms whose success relies on extensive resources rather than on too few key individuals whose departure could jeopardize the firm’s long-term viability. Thus, the first criterion is a minimum of 3 billion in assets under management. The second criterion is a team comprising at least 50 professionals.

The third criterion is that the firm must have at least five senior partners who have been with the firm for a long time. Next, we established criteria for organizational quality in an increasingly competitive private equity industry. We want to invest with managers who stand out based on two key factors: 1. Sector specialization in one or more of our preferred sectors. We believe that sector expertise provides a significant competitive advantage in terms of sourcing and value creation, and that generalist managers represent the private equity of the past. Second, in-house operational resources, in addition to the investment teams—that is, professionals who are part of the private equity firm’s staff and are capable of creating operational value in portfolio companies, or even providing very practical assistance to managers across a wide range of expertise. In an increasingly competitive private equity environment, it is difficult to deliver returns that are significantly above average. Yet, top-quartile funds consistently generate returns significantly above the private equity average. If I look at the performance of Vintage from 2000 to 2013 for global LBO growth equity, according to Preqin—one of the leading private equity databases— on average, a IRR of over 24% was required to be in the top quartile—that is, for 75% of the funds in Preqin’s sample—and a net 24% represents 800 basis points more than the average performance for the Vintage .

This is a rather exceptional standard deviation that is not seen in listed markets, where a good Fund manager rarely Fund manager the market by more than 150 basis points per year—and even then, only for a few years. We are convinced, as are the best institutional investors, that a Fund manager cannot demonstrate strong sector-specific and operational expertise will struggle to convince management teams to work with him and will struggle to create significant value—and thus alpha. Finally, we seek funds in which the Fund manager financial commitment Fund manager significant to create a strong alignment of interests between our clients and our portfolio managers. We want the managers with whom we invest to have a significant portion of their financial resources invested in their funds. We must ensure that it is not just the firm’s two founders, for example, who are financing nearly the entire investment of Fund manager. All key partners must invest, and we must also ensure that this investment by the team does not represent too large a portion of their personal wealth, as we have seen in some cases that this can make the Fund manager risk-averse, overly cautious, and have a negative impact on the funds’ performance.

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