Private equity is not an easy industry to get into. There are 200-300 junior applicants for every role according to private equity recruitment firms. This might have something to do with the fact that private equity can be very well paid. It might also be related to the fact that private equity jobs are seen as more interesting than investment banking jobs - even though the reality is that both involve heavy financial modelling for the first few years at least.
However, the private equity industry is changing. As we reported in January, it's becoming much more client focused - investments are being tailored to clients' risk profiles and the focus is on making real operational improvements to the companies being invested in, rather than simply on restructuring the books financially.
Now McKinsey & Company have produced a report adding to the sense that private equity is an industry in flux. If you work in - or you aspire to work in - private equity, this is what the McKinsey consultants are saying.
Generalist approaches to private equity (PE) investing are falling out of favour, say McKinsey. If you work in private equity, you need to specialize. Find a sector. Get to know that sector very well.
Private equity pay is all about carried interest. And carried interest is all about the performance of the fund. If you work for a non-performing fund, you won't earn carried interest and could be stuck there for years.
Unfortunately, McKinsey says it's become far more difficult to predict which funds will perform and which funds won't. In the past, one high-performing fund was usually an indication that another would follow. Since 2008, it's become far more common for a top-performing fund to be followed by a fund whose performance is in the bottom quartile.
This is making life harder for investors. It's also making life harder for the people who work in private equity. Before joining a fund, make sure you do your due diligence - how realistic is the investment strategy? How capable are the partners and principals?
Firms that consistently perform from fund to fund
Now that past performance is a less accurate predictor of future performance in PE, McKinsey says investors like pension funds are having to put far more effort into identifying the best private equity investments. Canadian pension funds, for example, have built 'internal teams of investment professionals' and research teams focused solely on the PE industry. These professionals are paid more than those working on other asset classes.
McKinsey says it's becoming far more important for PE firms to communicate their strategies to investors. This is creating opportunities for investor relations professionals in private equity. It also means that the best private equity professional will be those who can articulate their investment strategy and show how this sets them apart from rivals.
Finally, McKinsey & Co suggest there may be a future movement away from private equity management fees and in favour solely of carried interest. In other words, pay will be for performance, or not at all.
McKinsey says some PE firms already allow investors to choose between a 1% management fee and 20% carried interest, or a 2% management fee and 15% carried interest. In future it's not inconceivable that the management fee could be dropped entirely, If this happens, private equity pay will become even more differentiated than it is already and choosing the right fund to work for (point 2) will mark the difference between earning a fortune and earning nothing at all.