Is this offer from an independent sponsor fair?

Hi guys,

I've recently received an "offer" from an independent sponsor to join him in sourcing and execution on deals in the LMM space ($3m - $10m in EBITDA). Would be curious to hear all of your thoughts to see if this offer is fair, whether it makes sense for me to take it and if I'm missing anything. 

Some background info:

  • 1.5 years experience in M&A / Growth Equity in a small shop in a niche industry + 1 year experience in strategy @ startup. 
  • Since the start of the year, I've gone independent and am taking a career break. I have set up a small M&A advisory shop working on small equity raises and deal origination. I'm also putting in motion my own independent sponsor shop focused on building a portfolio of businesses in the micro PE range (<$2m in EBITDA)
  • He's an experienced PE investor with 20 years of experience  who can teach me the nuts and bolts of doing a PE deal. Most importantly teaching me how to do a deal as an IS. We also get along very well and he seems like he genuinely cares about my career development.  
  • He has a fairly good track record, for the three investments they have done over the last 5 years (which is quite low, admittedly), they should deliver 25%-30% IRRs on all their deals upon exit. Larger track record for realized investments is around the ~25% IRR mark.
  • My aspiration is to eventually be able to tackle an IS deal in the LMM space by myself. I've taken steps to set up a shop to do this independently, but I realize that it wouldn't hurt to work under someones guidance who can teach me more. 
  • I'm inherently attracted to a higher risk/reward profile financially. I realize I am young, live modestly and have some savings behind me so I can take risks that others may not be able to. 

The "arrangement":

  • Source, originate and execute on deals within the $3m - $10m in EBITDA range. 
  • The arrangement is low salary / very high upside in the form of bonus / carry should a deal close. 
    • I'm being paid a base, although it is very low.  It is however enough to cover my living expenses and I do have some savings behind me. 
    • Sourcing fee between 1% - 2% of cheque invested depending on quality of introduction
    • Deal-by-deal carry depending on value add anywhere between 5%-20%
    • E.g, let's use round numbers -> we deploy $10m in equity. If I directly originated -> $200k to me. If I can genuinely add value in a board position -> 10%20% carry on a 3x return over 5 years  ->  $500k-$800k in carry. 

A cherry on top:

  • The MD at the IS is thinking about raising a fund within the year with three other experienced partners in the LMM space around the $100m range. They have secured a $50m anchor investor and are currently talking to another $50m anchor investor. 
  • There is a strong possibility that I can join the fund at inception in the associate / senior associate capacity.

The cons:

  • They have only executed on 1 deal in the last 3 or so years as an independent sponsor. This to me seems extremely slow given the dealmaking environment in the last 5 years. I would've assumed they could have got at least 3-4 deals in that timespan. 
  • I have concerns about the current deal making environment. Assets seem to be ballooning everyday and I am concerned we, for reasons not just limited to ballooning valuations, cannot complete a deal whilst I'm working for him. 
  • Base is low and so the opportunity cost is high relative to if I were to go down the route working for an actual fund with a solid base + bonus (albeit probably little to no carry)

My questions:

  1. Does this arrangement seem fair given the risk/reward?
  2. If it's not fair, which parts don't seem fair and should I renegotiate? 
  3. What else should I be vetting in this offer and him / the independent sponsor?
  4. What am I missing? 

Apologies guys if this is a bit long but wanted to get my context out there with all its nuances - thanks!

Private Equity Interview Course

  • 2,447 questions - 203 PE funds. Crowdsourced from 750k+ members
  • 9 Detailed LBO Modeling Tests and 15+ hours of video solutions.
  • Trusted by over 1,000 aspiring private equity professionals just like you.

Comments (19)

Apr 30, 2021 - 8:59am

You said you set up your own shop already. Will you have to be exclusive with this new guy or can you work on your own? Seems like if you go in with him and continue to do your own thing that you'll be in the best of both worlds. How many deals does the guy look a and reject? How does he keep busy if he only does one transaction every few years? Have you been able to verify that everything he says is legit? Have you seen his models and audited statements etc?

Apr 30, 2021 - 10:25am

Yeah under the terms I will be able to pursue deals independently outside of their size range (I focus on sub 2m EBITDA, they look at 3m+)

Regarding conversion rate, he looked at 110 or so deals, which led to 7 or 8 offers which they did due diligence on and eventually executed on one. He chalks it up to a confluence of being too conservative, unlucky (vendor pulling out / getting cold feet) and COVID-19 stuffing up the most recent deal. It seems like he shut up shop for the 6-9 months during COVID.

I've known him for a couple years and I trust his character. I haven't officially looked at an audited track record or anything but I have done reference checks, looked at their investment materials etc. Some of the exits have even been in financial publications so I've been able to verify that its not BS. I will definitely give this a think though, thanks for flagging. 

Learn More

300+ video lessons across 6 modeling courses taught by elite practitioners at the top investment banks and private equity funds -- Excel Modeling -- Financial Statement Modeling -- M&A Modeling -- LBO Modeling -- DCF and Valuation Modeling -- ALL INCLUDED + 2 Huge Bonuses.

Learn more
Apr 30, 2021 - 12:17pm

PM me and I can jump on a call with you, then put you in touch with a few guys I know that could provide the capital you want for doing smaller deals depending the industry focus. The capital is the easy part btw, executing and finding the right deal is difficult but doable.

Apr 30, 2021 - 11:33am

Why do you feel you need him? If the deal is good you can find the capital. The hardest part is sourcing the deal and getting the entrepreneur to sign the LOI. Feels like you already are entrepreneurial. 

The arrangement could be fine with him, but seems there are lot of grey zones in terms of ranges, how is going to evaluate your value add and determine if its 5 or 20% carry?  Feels like you guys are partners and should have defined economics going in and not all these ranges that will be up for debate every time. The salary is  way to make you work for him and will prob cost you a lot of economics. If the salary is that low just dont take one and ask for better economics in the deals imo. 

Apr 30, 2021 - 2:12pm

I do realize that I'm young and inexperienced in handling an independent sponsor deal from front to end and it wouldn't hurt working under the mentorship of someone who has  done it and is willing to teach me. I would say I could learn a thing or two from an experienced PE investor in the execution standpoint.

But to take some examples, capital is abundant in this day and age but there are certainly nuances in raising a $10m - $20m cheque for an IS deal. Or dealing with nuances of working in white collar industries with 60-70 year old owners when I've previously come from a tech banking / growth equity background. I'm all for jumping in the deep end and being entrepreneurial but after being in this "game" for the last six months I realize there are things I could learn.

The grey zone in the carry range does suck, but I can see the viewpoint him and his investors are taking in regards to who is getting is carry in the deal. I've done reference checks in this regard and he seems to be an overly generous guy in regards to giving carry to team members in previous deals. In regards to that salary, I put it in because I know first hand the risk in deals falling through in this space. I'm happy to push through deals as a sourcing function in the top end of the funnel, but I put that in place such that I was at last recognized for my work in the event that I can't control the output (i.e. actually closing the deal). I wouldn't feel comfortable getting rid of the salary even if economics were better. Of course, my BATNA is just continuing to just go 100% in on my deals and keep significantly more economics (albeit at a smaller scale)

Btw, appreciate the thoughts. I've kept up with your posts before and it sounds like we're in somewhat of a similar situation/mindset in regards to ETA. I wonder if you've ever had the same thoughts that I'm having?

May 1, 2021 - 3:56am

You would be surprised.

As a seperate example, I know of a 23 year old guy who spent a 2 years at a BB and is making over $500k+ a year advising sell-side bolt ons. He had a big 2019 when his sector was super acquisitive and he made even more bank that year. He kept his relationships with strategic buyers and leveraged that to these smaller $3-$5m bolt ons. I know of a few guys who spent a couple years in M&A and are now consulting for startups and small businesses, it's not really that uncommon. 

May 2, 2021 - 12:28pm

I will take a slightly different stance here than the majority. For some context, I am based in Europe so my advice and point of view might not be entirely applicable to the US. Furthermore, I also work in the LMM space with a lot of independent sponsors so I have some direct exposure to the advantages and disadvantages of the model. 

To answer your questions: 

I) Working with independent sponsors it is quite typical that you get a relatively low base salary but high upsides. Thus you shouldn't expect a MF salary but with your upsides this should at least give some fair compensation. To give you some indication I have seen base salaries that are 50% lower than a MF fund but with carried interest earlier on in the career.   

II) In terms of fairness I can't advice you here as I think it is a mix of personal circumstances. Personally I would say that if you can survive on your base salary and generate some savings, plus that you have upsides in the deals/future fund that is quite fair. I assume that the MD is not compensated and thus you might be the best paid employee. 

III) In terms of vetting I would say have a look at his track record, what companies he worked at in the past and his access to investors (i.e. is his investor base consisting of five family offices or is he just trying to build it at the moment). Also make sure that you clearly discuss how the compensation model will work (i.e. when do you start to get carried interest, what is the vesting period etc.)    

IV) Some people on this thread have mentioned that one deal for the past three years is a bad indication. I cannot speak for the US, but in Europe this is quite usual. Most independent sponsor will have been up and running for 3-5 years before they close their first deal (bear in mind these are also independent sponsors from reputable MF/MM funds) however after they have managed to close their first deals they do on average one deal per year. The primary reason why it takes time for them to close one deal is solely finding investors. Even for people who come from a MF and with great track record it is difficult to find funding for your deal.  

To give you some advice, if your objective is to start your own LMM independent sponsor/fund I would definitely advice you to take up on this offer for the following reasons: 

I) If the MD is knowledgable (i.e. I assume that he worked for a PE firm in the past) I would say that you can learn a lot from him at a young age. The nice part of independent sponsors are that the teams are lean and you get direct access to anyone who is in the company including hearing how they think about PE transactions. 

II) For you to raise your first fund it will be essential to have a positive track record. In the independent sponsor market in Europe I have came across all sorts of background ranging from people who had a senior position at a MF to people who left university a year ago and is trying to have a go at being an independent sponsor. Needless to say, those who have no private equity experience (or in some instances impressive entrepreneurial experiences) rarely ever manage to fund their deals because investors have no track record to assess them on. 

III) This is related to point #2, but assuming that you don't have any connections with institutional investors, family offices or UHNI, it will be near impossible to raise money without these relationships already in place. It seems that the MD has a quite good network and trust already from existing investors ($50m in funding is quite good for a first time fund). It wouldn't be a bad idea if you built rapport with the MD's investor base (and even perhaps help to expand it) to help your future fundraising. 

At the end of the day I think it boils down to what you want to do post your time with the independent sponsor. From what I can read so far the guy seems experienced and have access to both deals and investors (which is the most difficult part for any independent sponsor) and thus you should be able to build a nice track record fairly quickly. 

I hope that my points made sense but happy to answer more on this thread or on PM if that helps. 

Start Discussion

Total Avg Compensation

May 2021 Private Equity

  • Principal (7) $694
  • Director/MD (17) $582
  • Vice President (64) $370
  • 3rd+ Year Associate (66) $267
  • 2nd Year Associate (127) $250
  • 1st Year Associate (271) $223
  • 3rd+ Year Analyst (24) $164
  • 2nd Year Analyst (60) $136
  • 1st Year Analyst (172) $117
  • Intern/Summer Associate (19) $70
  • Intern/Summer Analyst (195) $60