Starting A Private Equity Fund: A Comprehensive Guide

Starting a private equity fund is an attractive prospect for many investors and entrepreneurs. Private equity offers the potential for significant returns through investments in private companies and startups. 

However, launching a successful private equity fund requires extensive planning, fundraising skills, and investment acumen.

This comprehensive guide provides a step-by-step overview of the key steps involved in conceiving, structuring, raising capital for, and launching your own private equity fund.

Defining the Business Strategy

The first step in starting a private equity fund is to define a clear investment strategy and business plan. This involves determining what types of private equity investments the fund will focus on, such as buyouts, growth capital, distressed assets, or venture capital. The fund manager needs to identify sectors or industries they have knowledge of and can add value to potential portfolio companies.

Factors to consider when defining a business strategy include:

  • Targeting specific sectors or deal sizes that are overlooked by larger funds
  • Focusing on a particular geography or region
  • Pursuing niche investment strategies like cleantech, healthcare, or software
  • Leveraging existing relationships and domain knowledge

A focused strategy makes it easier to market the fund to potential investors.

Constructing a Business Plan

After settling on an investment approach, the next step is developing a comprehensive business plan. This is crucial for securing initial funding and attracting investor interest.

Key elements of a private equity fund business plan include:

  • Executive summary: Overview of strategy, fund details, target returns
  • Market analysis: Analysis of trends in the target sectors
  • Investment strategy: Detailed explanation of how the fund will source deals, evaluate opportunities, manage investments, and exit
  • Operations plan: Team biographies, service providers, systems and processes
  • Financial projections: Estimated fund size, projected returns, fee structure
  • Risk factors: Potential risks and mitigation strategies
  • Fundraising strategy: Capital raising timeline and methods to secure investor commitments

The business plan should demonstrate the fund manager’s capabilities, experience, and vision for generating strong returns. It instills confidence in investors considering allocating capital.

Setting Up the Operations

Most private equity funds are structured as limited partnerships or limited liability companies. The general partner establishes a separate legal entity for the fund itself. This involves choosing and registering the appropriate structure.

Key legal and operational considerations include:

  • Hiring experienced lawyers to handle fund formation and drafting of partnership agreements
  • Selecting a qualified fund administrator to handle accounting, reporting, and back-office functions
  • Putting in place IT infrastructure and data management systems
  • Adhering to regulatory requirements and registering as an investment advisor if required
  • Developing compliance policies, controls, and procedures
  • Securing directors and officer liability insurance

Careful structuring and establishment of operations provide a strong foundation for managing the investment vehicle professionally.

Establishing the Investment Vehicle

Before beginning fundraising, the general partner needs to establish the legal entity that will serve as the investment vehicle. The most common options are:

  • Limited Partnership (LP): This is the predominant structure used by private equity funds. The general partner has unlimited liability, while limited partners have limited liability up to their committed capital.
  • Limited Liability Company (LLC): Provides limited liability protection to all members but may not be tax efficient for certain investors.

Other key steps in establishing the fund vehicle include:

  • Drafting the private placement memorandum with the help of lawyers
  • Determining the fund’s economic terms such as fees, profit splits, investment period, term length
  • Developing a thorough limited partner agreement
  • Filing required regulatory documentation like Form D with the SEC
  • Setting up escrow accounts to hold capital from investors before closing the fund

Careful preparation of the investment vehicle ensures a smooth process once investor commitments start coming in.

Determining a Fee Structure

Private equity funds charge fees to their limited partners to cover costs and compensate the general partner. The typical fee structure includes:

  • Management Fees: An annual percentage (1-2%) of committed capital to fund operations.
  • Carried Interest: A share (usually 20%) of the fund’s profits paid to the general partner once returns exceed a hurdle rate.

When determining the fee structure, factors to consider include:

  • Industry standards and investor expectations
  • Fund size and strategy that influence operating costs
  • Performance incentives and alignment of interests
  • Tax implications of the fee structure

The fee terms should be clearly explained in the private placement memorandum before seeking investor commitments.

Raising Capital

Raising capital is critical for any new private equity fund manager. This involves securing commitments from limited partners to invest in the fund.

Strategies for attracting investors include:

  • Leveraging existing relationships with high-net-worth individuals or family offices
  • Targeting specific institutional investors focused on the fund’s niche area
  • Utilizing a placement agent to introduce the fund to potential LPs
  • Pitching to pension funds, endowments, and sovereign wealth funds
  • Applying to emerging manager programs run by institutional investors
  • Attending conferences and networking events to meet prospective investors

Once sufficient commitments are received, the fund can hold an official close and start investing the capital. Veteran fund managers are invaluable in helping first-time teams successfully fundraise.

Getting Ready to Start Investing

Before calling capital from limited partners after holding a final close, the fund needs to be ready to deploy the capital. This involves:

  • Having a robust pipeline of potential deals to evaluate
  • Ensuring the investment team is fully staffed with experienced professionals
  • Establishing processes for sourcing deals, conducting due diligence, approval, and execution
  • Selecting service providers needed to support investments like legal advisors
  • Completing the legal agreements with all limited partners

It can take 12-18 months from initially starting the fund until closing on the first investment. Proper planning and preparation ensures the fund is poised for success once capital is in hand.

Contact an RIA Lawyer Today

The attorneys at My RIA Lawyer have extensive experience advising clients on navigating the complex legal and regulatory requirements involved in private fund formation and management. 

Their team of dedicated lawyers can provide trusted guidance at every stage of conceiving, structuring, launching, and operating a private equity fund. 

Contact My RIA Lawyer to discuss your fund plans and how they can support your success.