Our interview picks up today with Part 2, where we delve into the industry landscape, what you do on the job in more detail, and the usual “no B.S. discussions” you’ve come to love about the real trade-offs of the job.

Let’s get started by breaking down the funds of funds industry, see where different firms fit in, and how to tell which places to avoid:

Industry Landscape & Overview

Q: So what’s the funds of funds industry like overall? Are there a lot of independent shops, or are they mostly part of larger banks or investment firms? What about industry or geographical focus?

A: Most places are actually independent, and that’s becoming more and more true over time because of the Volcker rule and how bulge bracket banks are spinning out their investment arms into separate firms.

A few of the biggest US-based, independent firms: Adams Street Partners, Pathway Capital, and HarbourVest Partners. Among banks, Goldman Sachs has the biggest internal PE fund of funds.

You can get a full list of funds ranked by capital committed here.

These funds don’t focus on particular industries or geographies because they all want to be diversified – that’s the point of investing in dozens or hundreds of PE funds, after all.

Q: I see. So what is the typical AUM of a fund of funds? And what about the investment team size?

A: They’re definitely much smaller than traditional direct investment PE funds. I don’t have the exact numbers for every fund, but the biggest (general) funds of funds worldwide might have close to $100 billion USD in AUM; those in the Top 20 might have in the tens of billions USD.

You don’t really see “small” funds of funds because you need a certain level of AUM to invest in a portfolio of PE (or other) funds to begin with; maybe there are a few with under $1 billion USD in AUM, but they are the exception rather than the rule.

Team-wise, smaller funds of funds might have an investment team of 25-50 people, and sometimes as few as 10-20 professionals. The biggest funds might have more like 100-200 investment professionals – sizable, but still smaller  than what you see at the biggest traditional PE funds.

I would be surprised if there were more than a few thousand professionals total in this industry in the US – and that count is probably not above 1,000 by much.

Q: Well, I think those are more specific numbers than almost any other interviewee has ever guesstimated, so props to you.

Anything else we should know about the industry?

A: In my mind, it’s a bit of a dying industry because PE firms are having trouble raising capital currently; they might just bypass funds of funds directly and go directly to the Limited Partners to make the process faster.

That’s not to say that PE funds of funds will actually “die” anytime soon – it’s just that these funds are strongly linked to the strength of private equity performance and ease of fundraising, which both vary over time.

One other point: if you’re deciding on which fund of funds to go to, you need to dig into their deal flow and determine whether or not the fund has dry powder.

It’s not too much fun to join a fund of funds that is 90% invested and isn’t planning to raise capital again anytime soon, because you won’t get much investment experience.

And it’s better to go to a place that does more co-investments so you get the modeling skill set that traditional PE firms are looking for.

A Day in the Life of a PE Fund of Funds Analyst

Q: Thanks for those tips, and way to be optimistic there with the “dying industry” bit!

Can you walk us through an average day in your life?

A: At most PE funds of funds, you’ll work from 9 AM to 7-8 PM, so maybe 50-55 hours per week.

But this varies by fund, and I’m currently working more like 7-8 AM to midnight on weekdays – closer to banking hours.

Q: OK, so this doesn’t really sound like “half the hours” of traditional PE, though you maybe it is an improvement.

A: Yeah, as I said, it really varies by the fund, where they are in the investment / fundraising cycle, and their investment strategy.

At any given time, here’s what I’m usually working on:

• 3-4 PE fund investments
• 1-2 co-investments (traditional LBO deals)
• Quarterly client calls and portfolio reviews
• Ad hoc client requests such as industry reports and attending conferences

Here’s how I spend my time overall:

• Fund Investments: 50%
• Co-Investments: 30%
• Client Requests: 20%

But this breakout depends on the analyst and the fund – some people here who have stronger technical skills spend more like 80% of their time on co-investments and 20% on everything else.

Q: So what exactly creates those long hours you’re currently working? Is it all because of the co-investments?

A: Yeah, exactly – it’s mostly because we have to meet the deadlines of PE shops and clients and act as a liaison to both parties.

They might come to us and say, “We’re buying this company and the deal is closing in 2 weeks – give us a yes/no answer on whether you want to co-invest by then.”

So that creates a bit of a frantic cycle where we have to do the technical and modeling work, conduct our own due diligence, make dozens of reference calls, look at the proposed debt, and do everything else quickly (there’s no reason to involve us before that since most deals fall apart in the early stages).

Client and prospective client work makes this worse as well – many LPs such as public pension funds, corporate pension funds, and family offices now perceive private equity to be “more stable” than the public markets, so they’re approaching us and asking about investing in the sector.

Q: But I thought you said earlier that it’s a “dying industry.”

A: Well, more in the sense that PE funds may not turn to funds of funds to raise capital as much in the future.

But there’s still plenty of interest in investing in those PE funds, whether directly or indirectly (through us).

Q: So it sounds like another case of “too much money chasing too few good deals”… not too surprising.

In Part 1, we talked briefly about the technical and modeling skills that are required and how you analyze PE funds rather than the underlying companies.

Did you want to add anything to that?

A: Not really, it’s pretty much what we talked about before. The main differences:

1. As I mentioned, we spend time valuing the entire portfolio of PE funds and seeing if there are any discrepancies. We also pay a lot of attention to distributed funds, realized vs. unrealized gains, and the consistency of the returns over time. Most importantly, since we are investing in a blind pool, we need to have strong conviction on the team.
2. Benchmarking is very important – we might look at several hundred funds each year and benchmark a fund from a given year against all other funds from that year either through public resources or internally against other funds in our pipeline.
3. On co-investments, you don’t get quite as much exposure to the debt side because the PE fund directly negotiates for and arranges the debt with the lenders. Sometimes we do provide input and introductions to bankers, though.

But there is another point I want to raise: your social skills are also very important in this job.

In fact, it’s even truer here than in traditional PE because you go to conferences and meet Partners at funds and C-level executives quite often.

In traditional PE, yes, you may have to cold call companies and work in a team, but your “presentation skills” don’t necessarily have to be as polished.

Q: So you just brought up an interesting point there… how much exposure to these Partner/Founder types and C-level executives do you actually get?

A: Quite a lot – in fact, that’s probably the best part of this job.

I’ve met Partners at all types of PE funds because they’re always going around fundraising. I even got to meet one of the founders of Blackstone.

Outside of that, I’ve met with the management teams of many companies and a lot of our own Limited Partners as well. Even as a junior person here, you’ll call CEOs of PE firms’ portfolio companies, help with reference checks, and more.

There’s some “senior supervision,” but they’ll generally tell you, “Go to this conference, meet people, and report back to us” and won’t micro-manage anything.

Q: You mentioned getting to meet Partners at private equity firms when they come in to pitch you on their new funds – how do you evaluate that?

In other words, what makes a “good pitch” vs. a lackluster pitch when you’re analyzing these funds?

A: A lot of it goes back to what we talked about in Part 1: consistent returns over time, minimal unrealized gains propping up the portfolio’s value, and a team that has been together a long time.

But in a pitch itself, the firm’s differentiated strategy is really important. It’s just like how you need your own “hook” to stand out in interviews. Examples:

• Do they focus on a certain sector in the market (e.g. middle-market software companies with revenue between $50 million and $250 million)?
• Are they industry experts on something that requires deep technical knowledge, like oil & gas?
• Do they have a lot of operational experience with specific portfolio company strategies and improvements?

Remember that a PE fund of funds itself is diversified – so we’re looking to invest across many more specialized PE firms.

A compelling strategy might be: “We specialize in buying out E&P companies with between $1 billion and $5 billion in revenue and using our consultants and operational turnaround experts to move the firm into unconventional energy reserves and reduce their cost basis.”

In terms of teams, here are examples of what we’re looking for:

• If you’ve worked together for 20 years across all sorts of different market conditions, that’s great (this rarely happens, of course).
• If you’re starting a new fund, ideally you will have all worked together at the same previous fund (e.g. 3 Partners who worked at Blackstone and then set up their own shop). It’s harder to tell your story if you and your Partners are all coming from different firms.
• Do you have skin in the game? I’m not referencing Nassim Taleb just for fun here: it will raise eyebrows if you and your Partners are raising a fund but you’re not contributing any of your own personal funds.
• Is your strategy repeatable? If your first fund was $200 million and you did well with a certain industry and company size, that’s great, but if your second fund is now $1 billion that’s a totally different ball game. The investment size will increase, the competition will be different, and you will almost certainly have to expand your team, which carries with it additional risk.

Q: So it sounds like it would be very difficult for a group of Partners to come to you with a completely different strategy or fund size and raise capital for a new fund.

A: It’s not impossible, but it is more difficult – at least from the perspective of a fund of funds.

We favor funds that are consistent in terms of size and investment types – and something like expanding 5x and hiring additional team members would be cause for concern.

And, of course, if this is your first fund with no track record, you won’t have much luck pitching funds of funds. You’re better off starting small and going to other Limited Partners, your own capital, and other sources initially.

Analyst Meets Limited Partner: Got Cultural Clashes?

Q: I’m very curious what the culture and hierarchy are like at your fund, because so far this sounds like a very “mixed” role where you’re working in many different capacities.

A: Sure… your question about the hierarchy is easier to answer, so I’ll start with that. It’s the same as what you see in IB or PE: Analyst, Associate, VP, Principal, and Partner.

The difference is that rather than being promoted directly or “moving to the buy-side” (since they’re already on the buy-side), Analysts here often go to business school or even take the CFA before moving up.

Culture-wise, people are fairly aggressive overall but it’s still more of a “team environment” than a typical bank.

The main reason for that: we need to leverage a lot of relationships with different funds, LPs, portfolio companies, and so on, and no single person knows all these people everywhere.

Relationships also matter in PE and banking, of course, but you specialize more there so you may not have to depend on other people at your firm quite as much.

Here, on the other hand, someone might be an expert on real estate, distressed funds, mega-buyout funds, or anything else, and we have to lean on their knowledge. Also, there are no separate pools of capital for different groups at my firm.

You still see office politics here: people are competitive, everyone wants to advance, and since funds of funds tend to be smaller, there is a lot of pressure to reach the Partner-level – otherwise there’s little point in staying on for the long-term.

The main difference is that on the buy-side you must perform to move up – yes, in banking there is also a performance component, but you can also move up at the junior levels without necessarily sourcing deals or bringing in new business. That would be almost impossible here.

So you’re judged heavily on your investment ideas, the depth of your relationships, and your ability to fund raise and conduct “investor relations.”

Finally, one last point: sometimes there are more females at PE funds of funds than in other areas of finance because you don’t need to travel quite as much, so having a family is more feasible.

Q: That’s a great description of funds of funds vs. banking and private equity… now to my favorite topic: the pay.

Let’s hear it.

A: The pay is in between investment banking and private equity compensation.

I don’t want to give exact numbers, but my base salary and bonus were both in the $70-$100K USD range as an analyst here last year.

From what I can tell, that was the middle of the bonus range here. Top-performing analysts might see 100-130% or even up to 140% of their base salaries for their bonuses.

One caveat: I’ve heard from colleagues that my particular group “pays well,” so my guess is that you’d see lower pay elsewhere, and especially at non-PE funds of funds.

Q: And senior people, such as the Partners at the fund, also get carry?

A: Yes, it’s similar to traditional PE there. You might even get carry at the level below that, as a Director or Principal.

Your compensation is even more performance-dependent than in other fields because base salaries at funds of funds tend to be lower than those in banking or PE.

Some funds of funds also have hurdle rates before carry “kicks in,” so that’s another factor to consider… but it’s also similar to how many PE funds work.

The Future: Robust Growth Expectations?

Q: So let’s say you work at a PE fund of funds for several years and then decide you want to “make an escape.”

What are your exit opportunities?

A: The two most common exit opps are pension funds and traditional, direct investment private equity funds.

A few people also go into hedge funds or asset management, or even mezzanine funds or corporate banking-type roles; hardly anyone is crazy enough to voluntarily go back into banking.

Some people claim that you’ll earn more in traditional PE but also work more, whereas you’ll work less and make less at pension funds, but I am not so sure of that – I’ve seen mixed results and people at both types of funds tend to work a lot. So that’s probably not the best way to compare them.

Lots of people here go to business school and then join a direct investment shop afterward.

Q: I am surprised that that many people go into direct investment PE firms right afterward – what if you don’t work on many co-investment deals?

A: Yeah, that makes it more difficult, but you can learn those skills elsewhere.

You have one big thing going for you after working at a fund of funds: contacts at potentially thousands of PE firms and other investment funds that act as Limited Partners to PE firms.

In fact, you might even end up with more contacts as a junior person than many Partners at a direct investment firm would have.

They remember your name because you’re their source of capital. You might not be as good at sourcing direct investments as someone who had worked in PE before, but the access you have can more than make up for that.

Q: Well, that makes more sense now.

So based on everything we discussed so far, who would fit in best with the group? And who would be a bad fit for these roles?

A: You need to have solid technical skills, but you don’t need to be an elite modeling wizard to succeed.

On the flip-side, though, if you can’t do much number-crunching at all this is the wrong role for you.

Aside from that, you should:

1. Be presentable and be good at speaking with potential clients and building long-term relationships – sometimes it takes us years and years to raise the amount of capital we need.
2. Have a good sense of the market itself and be comfortable with a more “tops-down” approach. Sometimes bankers struggle with this because they’re used to analyzing specific companies, but here it’s more about the overall direction of private equity, fundraising, and valuations.

Your exit opportunities are broader than you might think, but if you want to get into direct investing private equity eventually, you really need to be at a PE fund of funds, and ideally one that makes a good number of co-investments.

I can’t think of anyone who would be a “bad fit” – but maybe if you only want to work on M&A or LBO deals and handle the technical side, this wouldn’t be the right group for you.

Q: Great, thanks for adding that.

So what are your future goals?

A: I haven’t decided yet. I definitely like where I’m at right now, and I’m very glad I made the switch over from commercial banking.

On the other hand, I’m not sure if funds of funds have a great future in general, so I’m considering hedge funds and other asset management firms, and I might go to business school in between.

Q: Awesome. Thanks for your time!

A: My pleasure. This site was my “Bible” when I was recruiting, so I wanted to give something back!

Private Equity Funds of Funds – Series

• Part 1 – Recruiting, Interviews, and Industry Overview
• Part 2 – On the Job at a PE Fund of Funds

The post Private Equity Funds of Funds, On the Job: PE Pay and Prestige with Half the Hours? appeared first on Mergers & Inquisitions.

Look at the numbers, our analysis below, and other sources, and you can’t help but draw that conclusion.

The bad news?

The irresponsible policies of central banks around the world, led by the lunatic-in-charge at the Fed here in the US, mean that those higher bonuses could be worth… nothing in the near future.

So I hope you’re buying land, cows, dragons, Bitcoins, or something else that will increase in value even if the USD and other currencies come crashing down.

But before we get into the doom and gloom, let’s start with a visual:

If you’re reading this via email, click here to view the infographic and click here to view the Large version (or just click on the graphic itself).

The World At Large This Year

As you can tell, I’m not a fan of fiscal and monetary policy decisions in the US over the past few years.

Even if you accept that interest rates should be reduced and that the government should intervene in the economy when a recession hits, should they really keep at it for over four years?

Especially when there is little to no evidence that these policies have produced job growth or boosted the economy out of its anemic state (yes, maybe at first they “stabilized” things, but what good has any of it done recently?).

If I had to pick a theme for the past few years, it would be disparity:

• The S&P 500 has increased at a 15% annualized rate from the end of 2008 through the end of 2012 – great for everyone, right?!
• Wrong, because real GDP growth has averaged 1.5% since then, compared to a historical average of 3.2% since 1929.
• And yes, unemployment is “down” from 10.0% in October 2009 to 7.5% in April 2013… but only if you ignore the fact that the labor force participation rate has fallen from 65.0% to 63.3% in that same time.
• Performance on a state-by-state level is very mixed: witness Nebraska with a 3.3% unemployment rate due to the shale energy boom, or even Texas with a 6.4% unemployment rate… vs. California, with a 9.0% rate.

Oh, and this “recovery” in the housing market is just another case of the government irresponsibly pouring in money to re-inflate a burst bubble. Of course more people will buy houses if you keep interest rates artificially low and guarantee all mortgages… what else would you expect?

Outside the US, the picture doesn’t look much better. Europe continues its spiral into death and irrelevancy, and while there are a few places doing better than the rest (Germany and northern Europe), it’s hard to look past a 12%+ unemployment rate and shrinking GDPs in most of these countries.

And then there’s the whole issue of “deposit taxes” and mysteriously losing a portion of your savings overnight due to an incompetent government, but as long as you stay out of Cyprus you should be OK, right? Right? (See my comment at the top about land, cows, dragons, and Bitcoins)

As a cherry on top, even the BRICs are suffering now: China made big waves a few months ago when data showed slowing growth and falling industrial output. Even with a weak economy, horrible fiscal and monetary policy, and an anemic “recovery,” the US might not be surpassed by China anytime soon.

Other emerging markets – see Brazil and India – are not doing much better, either.

Oh well, at least things might be looking up in Mexico and… Nigeria, apparently.

Assumptions and Sources & Uses

You know how this one works: you’ve seen it in all the bonus predictions over the past 5 years.

We’re assuming here that bonuses are directly tied to banks’ investment banking revenue – all revenue from other sources (trading, brokerage, asset management, commercial banking, etc.) is excluded.

Historically, compensation as a percentage of IB revenue has been between 40% and 50%, but this has been falling and will continue to fall in the future.

To get these numbers, we can only use publicly traded banks – that’s why there are no numbers for Moelis, Perella Weinberg, Centerview, and so on. Some banks have also been acquired or merged over the years, which is why this set changes from year to year.

Analysts at most banks – one exception now is Goldman Sachs – are still paid in the summer, so we use the Trailing Twelve Months (TTM) numbers from March 31, 2012, through March 31, 2013 as a proxy for the June 30, 2012 – June 30, 2013 numbers, which are not yet available.

Accuracy in the Past?

This method has been remarkably accurate in the past – here’s a summary of our predictions vs. actual numbers from 2008 through 2012:

Show Me the Numbers

Let’s start with the bulge bracket performance first:

I don’t have a great explanation for JP Morgan’s numbers, but I highly doubt they had anything to do with the “London whale.”

Even some of the “weaker” banks in this list showed solid growth, though generally the past 12 months were stronger than the most recent quarter.

And then to our beloved boutique and middle market banks:

This list was impacted by acquisitions and shut-downs (see: Gleacher) and is generally more volatile than the bulge bracket numbers. The median increase is definitely lower, but revenue still increased at most of these places.

I may change around this list next year and beyond and swap in new firms – the relatively small sample size here is not ideal given the huge spread in the numbers.

The Bottom Line

Based on these numbers, we’re predicting a 10-20% increase over last year’s bonus figures. This may be less true at the Associate level and in other industries / levels (see below). To refresh your memory, here was actual 2012 compensation:

• 2012 1st Year Top Tier Bonus: $50-60K USD
• 2012 2nd Year Top Tier Bonus: $65-75K USD
• 2012 3rd Year Top Tier Bonus: $85-95K USD

Those are JUST bonus numbers. Here were the total compensation figures:

• 2012 1st Year Top Tier Compensation: $120-130K USD
• 2012 2nd Year Top Tier Compensation: $145-155K USD
• 2012 3rd Year Top Tier Compensation: $175-185K USD

So here are the 2013 predictions:

• Predicted 2013 1st Year Top Tier Bonus: $58-68K USD
• Predicted 2013 2nd Year Top Tier Bonus: $75-85K USD
• Predicted 2013 3rd Year Top Tier Bonus: $100-110K USD

And then the predicted 2013 total compensation:

• Predicted 2013 1st Year Top Tier Compensation: $128-138K USD
• Predicted 2013 2nd Year Top Tier Compensation: $155-165K USD
• Predicted 2013 3rd Year Top Tier Compensation: $190-200K USD

Hey, not bad for entry-level positions… but let’s also be clear: these are the top tier numbers.

Most analysts at banks will receive compensation lower than this, because relatively few receive these top tier numbers – especially when the economy is questionable.

Other Regions, Levels, and Industries

Someone always asks about this. The short answer: it costs too much time and money to gather and verify all this data, and I have no interest in publishing paid compensation reports.

Plenty of other places do compensation reports – I would strongly recommend the Job Search Digest reports for more on private equity and hedge fund pay.

No, they are not “cheap,” but you get what you pay for: think about how valuable these reports would be in salary negotiations for a job offer that pays hundreds of thousands of dollars.

If you are a sophomore in university, these reports are NOT for you – they are intended for experienced professionals who want the best data possible to negotiate better compensation for themselves.

Here are some stats on PE pay in 2013 (based on 2012 performance). The key takeaways: average pay was up 16%, average compensation across all levels was $273K, and 59% of firms expect to increase their hiring this year.

Here are the stats for hedge fund pay in 2013. Average pay was up 15%, average compensation was $314K, and it looks like you’ll still be working 50-70 hours per week (or more).

I don’t have much to share on compensation in other regions or predictions for those regions, but the basic differences are that some places have higher base salaries and lower bonuses, there may be free company housing in some places, and some countries such as Brazil actually pay above market rates due to the lack of qualified talent in the region.

Other Trends This Year

Many of the trends from past years will continue this year: bonus caps at both banks and hedge funds, deferred pay, and even compensation tied to Basel III capital requirements (as if to put another nail in the coffin of UBS).

There have also been some “disturbing reports” from certain banks and groups about people getting screwed in various ways:

• Macquarie apparently paid out a $10K “stub” to all first year analysts, with no bucketing. Ouch.
• UBS bonuses projected to fall by 40-50%?
• Equity research compensation at CS was apparently very bad.
• And even the strippers in London are suffering.

The message is clear: be careful where you work, attempt to move to the buy-side as soon as possible, and don’t even think about pursuing an alternate career path as a stripper in London.

Pay at the Very Top

We always get a few questions about how pay changes at the senior levels, and the answer is always the same: it fluctuates tremendously from year to year depending on the bank’s performance and the perception of the CEO’s performance (and that of other senior executives).

Just to illustrate this point, here’s how much senior-level compensation varied this year:

• Lloyd Blankfein of GS saw a 75% increase in his compensation… while James Gorman of MS had his pay fall by 30%. Notice how those numbers do not follow their banks’ respective performances at all.
• Mike Corbat of Citi earned $11.5 million in 2012, despite only taking over as CEO in October… and even though it’s unclear exactly what he has done.
• Meanwhile, know who earned more than the CEOs of JP Morgan, Morgan Stanley, and even Citi? I’ll tell you who: the CEO of a middle market bank, with a cool $19 million in comp.

So as you can see, compensation for senior-level bankers won’t necessarily follow firm performance or even the size of the firm.

Predictable is just plain boring.

Outlook for Next Year and Beyond

Most sources seem to be in agreement that pay growth this year will be solid. I am more optimistic about PE / VC / HF pay increasing this year into next.

But I am extremely skeptical that this “rebound” in the overall economy is real – or even that it was real – because the underlying fundamentals are poor, the true employment situation has not improved, and neither the US nor Europe are implementing reforms required to fix the economy.

Any number of catalysts could push everything off the cliff next year or beyond:

• Full implementation of the healthcare “reform” in the US (don’t even get me started about how stupid this legislation is – maybe I should write about it separately…).
• Continued slow-down in emerging markets and worsening demographics in China.
• Another “deposit tax” in Europe? More bailouts? Who knows.

But let’s see where the final numbers come in this year first.

And let’s hope I’m wrong about everything above – for the sake of your future bonus.

Historical Bonus Predictions & Actual Numbers

• 2008 Investment Banking Bonus Predictions | Actual Numbers
• 2009 Investment Banking Bonus Predictions | Actual Numbers
• 2010 Investment Banking Bonus Predictions | Actual Numbers
• 2011 Investment Banking Bonus Predictions | Actual Numbers
• 2012 Investment Banking Bonus Predictions | Actual Numbers
• 2013 Investment Banking Bonus Predictions

The post 2013 Investment Banking Bonus Predictions: Quantitative Fleecing? appeared first on Mergers & Inquisitions.

I have gotten about 100+ requests to feature it, and I’ve even had numerous interviewees sign up and volunteer to speak about it… and then drop out at the last minute.

The bad news is that this is still not that elusive article on Project Finance.

But the good news is that this is very close, and it covers an area that is even more interesting in some ways: infrastructure investing.

If Project Finance is the “venture capital” of the toll road/bridge/airport world, infrastructure investing is the “private equity” of that same world.

And all you have to do to get in?

Land a bulge bracket offer in Australia, get forced out, wind up in Hong Kong without knowing the language, and improvise your way to success from there.

Here’s the full story:

Offer… Rescinded? How It All Began

Q: So let’s get started with your initial plan for getting into the industry, and how you ended up in an unexpected place.

A: Sure. My background wasn’t that unusual – I studied business/finance at a university in Australia and then applied to investment banking through the graduate recruiting process.

I had no idea what I wanted to do, but sitting in an office and wearing a suit seemed cool at the time (little did I know…), so I was set on IB from my 2nd year onward.

I applied for graduate positions in my last year, and the process itself was very similar to recruiting anywhere else: online assessments, phone interviews, and a few rounds of in-person interviews with questions and mini-case studies.

Q: Really? Not much was different even though you were recruiting in Australia?

A: Not really. The only quirk in the process: the “final round interview” consisted of a cocktail evening at an MD’s house, and they made you go up on stage and tell the bankers something about yourself.

That was probably the low-light of the recruiting process for me, and I can’t even remember what I said (or maybe I blocked it out?) – but it didn’t seem to matter much: I received a call the next day with an offer to start working at this bank.

Q: But the timing wasn’t the best.

A: Right, this was as we were heading into a recession and all banks in Australia were deferring or cutting graduate hires.

They asked if I was willing to move to Hong Kong because of “headcount issues” – they liked me, but could not support an additional hire in the Australian offices.

I said “no” at first because all my friends in family were in Australia and I really didn’t want to move all the way to Asia. Plus, I had heard that the hours were very long, even by IB standards, in HK.

Decisions, Decisions

Q: What made you change your mind and say “yes”?

A: Well, for one, the economy was terrible and there weren’t that many other options for new graduates. I had no real connection to Hong Kong and didn’t know the language(s), but I wasn’t about to lose a desirable offer just because I wanted to stay at home.

I got there and was placed into the Power & Utilities industry coverage team right away.

Since I didn’t know Mandarin, they had me work with companies across the entire Asia-Pacific region and I traveled to Southeast Asia (Thailand and Singapore) quite a lot in my first year there.

I wouldn’t say the hours were “worse,” necessarily; they were just as bad as NYC/London work hours. But the travel kept me sane and made it a bit more fun than the average IB analyst role, where you really are chained to your desk 95% of the time.

Q: I see… yeah, business travel tends to be fun at first and rapidly decline in “fun value” after a few months. So how long did you end up staying there?

A: Just over 2 years. I had done a ton of pitches and a few deals by then, and I was ready to move on.

IB in HK is increasingly driven by mainland China, so if you’re not a native Mandarin speaker or you don’t have relationships there it’s extremely tough to make yourself useful.

And as previous interviewees have pointed out, it’s not just the language: you can be from Taiwan or Hong Kong or Singapore and still not be “Chinese enough” to fit in with the mainland business culture.

Banks do cover Southeast Asia and other regions out of the Hong Kong office, but deals in those places fall apart very frequently – at an even higher rate than normal deals fall apart.

So their preference is to focus more and more on deals and clients in China.

Q: Yeah, that makes sense. So then you started looking for buy-side roles right around this time?

A: Yeah, just past the 2-year mark. At first, I focused on traditional PE funds in HK but I realized that roles for non-Mandarin speakers were limited and that Southeast Asia coverage roles were not necessarily ideal.

So I started thinking about going back to Australia and branching out into areas beyond traditional PE – one field that interested me was infrastructure investing, because it is a huge, developed market there and much bigger than you’d expect based on the country’s population and economy.

I found a few firms on eFinancialCareers, applied, and got in touch with a headhunter who set me up with phone interviews and eventually in-person interviews there (which was very tricky to coordinate since I was still working full-time in Hong Kong at that point).

Infrastructure Investing 101

Q: OK, great, so before we move into the recruiting process, I wanted to step back and explain what “infrastructure investing” is.

We’ve gotten tons of questions on Infrastructure vs. Project Finance vs. Public Finance, and with this article and the previous public finance series we can address at least 2 of those…

A: Sure. Just like in traditional PE, you split your time between origination (finding new assets to invest in) and deal execution (doing the deals), as well as managing the existing portfolio. There’s also some fundraising work depending on the fund that you’re at.

The difference is that you’re investing in assets that provide essential utilities or services – toll roads, airports, power plants, telecom, or even “social infrastructure” like hospitals and schools.

Infrastructure does NOT include real estate assets that are strictly for people to live in or for businesses to operate from – the distinction is that there must be some kind of essential service offered by the asset.

Many of these assets are extremely stable and will be around for decades; some, like airports, have natural monopolies that make them incredibly valuable.

They’re also less sensitive to economic and business cycles, and, at least in Australia, most of the investors in this sector are pension funds with an extremely long-term outlook who may favor stability over higher potential returns.

Many of these assets are dependent on government regulation, or are even developed in partnership with the government.

In Australia, for example, lots of utilities and transmission/distribution networks are regulated by the government and they actually tell you what your “allowed rate of return” can be and then set the pricing and terms to enforce that.

Q: I’m getting visions of 1984.

Isn’t it risky to invest in a sector that’s subject to so much regulation?

A: Haha, yes, in a way it is because the government could always step in and change the rules to reduce your returns.

On the other hand, the government is also keen to attract investment into the sector so that sort of balances things out.

Also, these assets are very, very stable, almost to the point of being boring.

You see assumptions like revenue growing at 3% per year, forever, linked to GDP growth or inflation – it’s not like working with normal companies where growth rates and margins may fluctuate wildly from year to year.

Q: So what are your targeted returns? Lower than normal PE, I’m assuming?

A: Yes, we tend to target 10-15% IRRs here – and sometimes the holding period is 10 years or more. Partially, that’s because there’s less liquidity and the buyer pool isn’t as wide as it might be for normal companies.

But it’s also because many of the assets have long-term contracts with suppliers and we try to take advantage of those when we hold the asset – a power station, for example, might have a power purchase agreement with a retail company lasting 15 or more years.

So it’s in our interest to hold the asset for as long as possible during the terms of that agreement.

Q: I see. And why is the market so big in Australia? I would have thought that infrastructure would be more significant in emerging markets.

A: It’s mostly a result of pension funds here growing to massive sizes because everyone has to contribute 9-12% of their salary toward pensions – and they like to play it safe and invest in stable, predictable assets such as infrastructure. The same thing has happened in Canada.

Developed countries still have a need for infrastructure: just look at the US, where most infrastructure is crumbling and desperately needs to be replaced and upgraded.

In Australia, another factor is the mining boom and the additional energy and mining projects that are driving infrastructure investment here.

All these new mines need a way to transport commodities to market, and much of that transportation might count as “infrastructure.”

Q: I see… so it’s partially government-driven and partially market-driven.

Last question before we move on: what’s the difference between Infrastructure Investing, Public Finance, and Project Finance? They all deal with similar types of assets.

A: I’m not an expert on the other two, but here’s how I see it:

• Project Finance: Actually constructing the asset in the first place, over many years, developing it, and then selling it to someone else (such as an infrastructure fund on the hunt for assets).
• Infrastructure Investing: You focus mostly on acquiring existing assets rather than building new ones. The risk profile is lower than in Project Finance because these assets are already up and running and are generating stable cash flows.
• Public Finance: Less about building assets or buying assets, and more about the financing of these deals and how to get the funds to do everything – and you are raising those funds for governments rather than investment funds or normal companies.

To give an analogy, Venture Capital:Project Finance::Private Equity:Infrastructure Investing.

Breaking Into Infrastructure Investing

Q: I like your analogy, nice one. So let’s move back to your recruiting process at this firm – what was it like?

A: My fund has fewer than 20 “investment professionals,” so the process I went through was quite informal. I spoke with around half the office, and most of the questions focused on my deal experience, what I thought about the market, and how much I knew about infrastructure.

I had almost no time to prepare for any of this, but I went back through all my deals and reviewed every model there line-by-line (or at least, the closest I could come to that) and devoted most of my time to that.

They were interested in me because I had experience in the power/utilities sector, and increasingly infrastructure is expanding beyond toll roads/bridges/airports into power and energy-related assets.

As I said, the fund I’m at is relatively small so I didn’t have to complete traditional case studies or modeling tests – they mostly just asked about my experience.

Q: OK, so what specifically did they ask about the models you had built and the deals you worked on?

A: You could divide the questions like this:

• Why? – What was the purpose of the model and how did it impact the deal? For example, did I figure out that the asking price for a power plant only made sense if energy prices were 50% higher than current levels?
• What? – What did you build? For example, I might have explained that I built an operating model for a power generation company by separating it into its 3 main geographies, calculating revenue and expenses for an “average” power plant in each region, and then aggregating everything across all the regions.
• How? – How did you make the assumptions? Here, I would explain what sources we consulted for energy price assumptions, expense/margin trends, and also the impact of different assumptions on the output.
• What Next? – How did you personally contribute to this deal and what ended up happening? As a junior banker, of course, you’ll mostly be running the numbers and assisting with due diligence so most of your contributions will come in these areas. But you need to highlight discrepancies you found, numbers that seemed unreasonable, or potential problems that came up in due diligence. It’s OK if the deal fell apart, but you should probably try to frame it more as, “It’s ongoing – we’re still waiting for the buyer/seller to make a decision.”

Q: Great, I think that’s a good way to think about all your deals, even if you haven’t worked in power/utilities or infrastructure. So they liked you and gave you the offer right away?

A: Pretty much. I went through a few rounds of phone interviews, and then heard back a few days after this in-person firm visit.

They were flexible with start dates, so I had 2 months in between quitting my bank and starting at this new fund, which I used to relocate back home and travel a bit.

Q: And it sounds like, just as with traditional PE, they are really looking more for experienced candidates from IB and related fields as opposed to students straight out of undergrad. True?

A: At the junior level, every single person at my fund worked at a bank or at least in a “banking-type” role such as an analyst at a smaller corporate finance or advisory firm.

Industry experience can help a lot in infrastructure since it’s so specific. I haven’t seen anyone come here from a power or utilities company, but I’m sure it could happen.

I don’t think we’ve hired anyone from Big 4 accounting firms, but with the right skill set it might be possible. It just depends on your technical skills and how much sector exposure you’ve gotten.

For the more senior people, backgrounds are more varied. We’ve hired lawyers and other professionals who don’t necessarily have a finance background, but who do have extensive relationships and experience in infrastructure.

Q: Awesome! Thanks for your time. Now onto the job itself and the technical side…

A: Next time, next time.

Coming Up in Part 2: What you do on the job, technical skills, deals, and more.

The post Infrastructure Investing: What It Is and How to Break In appeared first on Mergers & Inquisitions.