Entrepreneurial / Low Scale PE
I always read about people trying to get to mega-fund PE firms. I know in real estate there is a combination of people attempting the same. There is another group that wants to own and start their own small shop. Is this not as common in traditional PE? At least in real estate there is an advantage be had for deals that cost in total sub $10mm. Is there something comparable to this in PE for firms with say $500k - $2m EBITDA?
Yes - Micro cap PE. You are describing on the small small end, but check out a firm like Shore Capital Partners.
We are moving upmarket now but that's how we started. Only able to move upmarket now due to a very niche focus which keeps smart money away from deals we are looking at + an operating background that allows us to diligence much faster.
Very good summary:
https://thegeneralist.substack.com/p/the-state-of-micro-private-equity
My only question is how profitable is micro PE to investors?
Measured by MOIC, returns tend to be great. There are two issues: 1) the total dollars invested are small, so while the % returns are great it takes a lot to generate meaningful carry dollars for the fund, and 2) sometimes hold periods need to be pretty long in order to realize real scale, so MOIC might be great but IRR might be solid but not mindblowing
I've made a handful of comments in the past about the economics of microcap private equity.
What I've observed is that some of the smarter people playing in that world move from the investor side of the table to the operator to generate their wealth.
Break it down. You find some underutilized business that has all kinds of room for optimization. You pay $4m for it at 2x revenue / 4x EBITDA / 1x owner-walkaway number / whatever. You do some really basic stuff. Modernization for the internet economy, supplier de-concentration, channel partnerships, whatever. You are able to sell it for $20m in just two years. You paid $2m in cash and borrowed $2m from a bank or a search fund-friendly lender. You have a 10x MOIC and a gaudy IRR. Cool.
With the most likely economics, you got paid $3.6m pre-tax. That's amazing, but now that you've got a taste, you realize how annoying it is doing that kind of work. It was all brute force.
You stared into your screen doing all the SEM, SMM, digital marketing stuff. You slogged through months of phone calls at odd hours with suppliers in five different time zones. You did all the strategic analysis (which is an exaggeration, because it was non-scalable low-level research finding the right leads) on who could be the right channel partners, then sat through the games played by low-sophistication people learning a new thing (partnerships) for maybe the first time.
Why would you keep doing all that work for the promote? You could go farther faster if you weren't fixing existing problems in a company. You can do it from scratch on your own.
I have seen a few guys ease back and use their earned dollars to build a team that isn't pointed at investing as much as running a company well. Sometimes it looks like a mini MacAndrew and Forbes holding company, other times it's just a flat-out newco built around whatever idea the guy had.
Now run the numbers. You drive it to $10m in recurring revenue after three years. You engage a strategic, you reach out to a dozen lower middle market private equity shops, you sell the thing for 6x revenue. Your $60m EV accrues completely to you, less whatever equity grants you may have given away.
There's a wide weird world of interesting people doing this kind of stuff. Some do it all at once; invest personal money into other people's deals, oversee their own companies getting built, real estate with friends, invest external capital with a promote into any of the above.
That's very interesting. How does one get good at something like this? Niche skillset? Or is most of the process just figuring it out as you go along, then multiplying that via more and more encounters / business opportunities (in addition to leveraging some business relationships/partnerships you have)?
It isn't really a niche skill-set as much as it is grit, a self-starter mindset, and ingenuity. Scrappiness, in a nutshell.
I wrote a long comment in a thread titled "Out Of College, What Kind Of Experience Would Be Best For People Trying To Start A Search Fund?"
I wrote another in a thread titled "HF To PE Post-MBA - My Story And Seeking Advice (Long-Time Poster)!"
There are a couple others I just tried to go find, but they changed this site during my hiatus last year and you can't search your own post history as easily as you used to.
You would be surprised how much low-hanging fruit exists. The average person who is smart and hardworking enough to get not only a banking job but a private equity one immediately following that is definitely smart enough to find ways to optimize a small business or young company.
The problem is two-fold. One, there's none of the resource layer that's easy to take for granted at a big institution. No admin pool, no technology department, no global colleague pool you can email with a "looking for historical pages" message, etc. Two, it's uncommon to have the psychological profile to withstand the ongoing pressure from all 360 degrees at all moments.
If you're adaptable and resourceful enough to overcome those two things, you will get 'good at something like this' simply from repetition. Then the rest of your sentence becomes true: it multiplies from more and more encounters.
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