Fund management

Private investment funds are pooled investment vehicles typically run by professional fund managers. “Fund management” is a broad term for the years-long process of operating and administering a fund throughout the fund’s lifecycle, from raising capital to determining an exit strategy. In this article, we’ll focus on how fund management works for private equity and venture capital funds.

What is fund management?

Fund management is the process of raising and overseeing investment funds that pool capital from multiple investors. Most private equity and venture capital investment funds are structured as limited partnerships with at least one limited partner (LP), who invests money into the fund, and at least one general partner (GP)—usually an entity—that manages the fund.  Within the context of VC and PE, fund managers (the GPs) use these pools of capital to acquire stakes in private companies, with the goal of selling those stakes in the future and returning the profits to their investors (the LPs).

The lifecycle of a fund

From the time a fund manager starts to raise a fund to whenever they exit their last investment, the lifecycle of a VC or PE fund often stretches to a decade or longer. At different stages of this fund lifecycle, fund managers typically focus on different tasks. In the early years of a fund, the manager will be more focused on raising capital and capital deployment. In later years, the fund manager’s role shifts toward fostering growth at their portfolio companies and pursuing potential exit strategies. 

The role of a fund manager

The fund manager (the management company) formally is the legal entity responsible for making decisions on behalf of the private fund. But the fund manager usually “outsources” support, research, and analysis of investment decisions to the management company, a separate legal entity.  Management companies vary widely in size, from global firms with hundreds of employees to solo-investment shops.  Thus, fund managers can vary widely in the amount of support they receive. 

The ultimate purpose of the fund manager is to be a responsible steward for their LPs’ capital and provide those LPs with a financial return. In VC and PE, fund managers generate returns by investing in private companies, using the combination of their LPs’ capital and their own business expertise to help those companies grow and exit. 

In a more concrete sense, the role of the fund manager is manifold. Ultimately, every aspect of a VC or PE fund falls under the fund manager’s authority. Some of the key responsibilities include capital allocation, risk management, portfolio company oversight, asset management, and fund administration. 

Private equity fund management

The broad strokes of fund management often look the same across different asset classes. But the details of the process can vary depending on the type of fund. 

Traditional private equity firms (also known as buyout funds) typically raise funds to acquire majority stakes in mature private companies. Here are some of the specific ways that fund management applies to PE: 

Raising capital

Most private equity firms raise the capital for their funds from multiple LPs, often dozens of different investors. These LPs come in many different forms, but mainly consist of institutional LPs like university endowments, public pensions, and sovereign wealth funds, as well as high-net-worth individuals. 

Fund managers often spend many years building and nurturing relationships with both current and potential LPs. Raising capital from these LPs is the lifeblood of any private fund manager: Without capital, it’s impossible to make new investments. 

As a whole, private equity firms tend to raise larger funds than venture capital firms, in part because their majority investments in more mature companies are more capital intensive. These larger sums of capital mean that the makeup of LPs might sway more toward large institutions for PE funds than it does for VC, where check sizes can be smaller and thus more accessible to LPs managing smaller pools of capital.

Deal sourcing and due diligence

After raising capital for a fund, the next phase of the fund management cycle is to decide how to spend that capital. The process of searching for investment targets is known as deal sourcing. After a fund manager identifies a potential investment, they perform due diligence, which involves researching the target company’s market, finances, operations, and management.

If the fund decides it wants to invest, the fund manager attempts to negotiate and execute a deal with the company’s current owner or owners. 

Value creation

After acquiring a target, PE fund managers turn their attention toward increasing the company’s value in order to eventually position it for a profitable exit. 

Value creation in private equity can take an almost infinite number of forms. A fund manager with a controlling stake in a portfolio company might bring on new management at the company. They might adjust the company’s strategy. They might implement new technology or other new efficiencies. They might sell off business lines. They might take on new debt and restructure the company’s balance sheet. 

Many aspects of fund management require creative and versatile thinking, and value creation is no exception: Managers must assess each company on its own merits, decide on the best course forward, and then execute their plan. 

Portfolio management

Portfolio management is a subset of fund management that involves ensuring that your investment strategy and the actual investments you make are in line with one another.  

Before launching a fund, fund managers develop a detailed plan for how they plan to raise and manage their capital. Some of the key aspects of this plan include:

• An investment thesis

• A target fund size that aligns with the thesis

• A target for how many portfolio companies in which the fund will invest

• What size checks the fund will write

• How much ownership in portfolio companies the fund will seek to acquire

• How much capital to hold in reserves

• A plan for returning the fund to LPs

Once the fund begins to invest, a fund manager tracks the investments actually made to ensure they align with the fund’s holistic strategy. 

Exit strategies

After owning a portfolio company for some period of time—often between three and seven years for private equity—fund managers typically look for a way to exit their investment and return capital back to their LPs. In PE, the most common exit strategy is M&A, where a fund manager sells a portfolio company to a new buyer, either a corporation or another investment firm. The other most popular exit strategy in PE is for the portfolio company to conduct an initial public offering (IPO). 

Venture capital fund management

Venture capital fund managers differ from private equity fund managers in the type of investments they make: Most VCs target minority investments rather than majority investments in private companies, and those companies are typically earlier in their lifecycle. Below, we’ll outline some differences in how fund management works in VC: 

Raising capital

Since VC fund managers tend to make minority investments in young startups, they often have lower capital needs and thus tend to raise smaller funds than their peers in private equity. While there is significant overlap in the types of LPs who invest in PE and VC funds, the smaller fund sizes in VC means that the asset class can be more accessible than PE to individual investors and other smaller LPs. 

Deal sourcing and due diligence

The process of sourcing deals and conducting diligence is similar across PE and VC: In both cases, fund managers rely on their networks and their own research to locate interesting companies and determine whether it makes sense to invest. However, fund managers in these two asset classes are typically prospecting different populations of companies: PE firms typically invest in larger, more mature private companies, while VC firms look for potential investments among earlier-stage startups. 

Value creation

The most important aspect of fund management for a VC is helping create value at their portfolio companies. For VC fund managers, most of this value creation comes in the form of helping young companies grow and expand, rather than major strategic changes or financial restructurings. VC fund managers typically have some level of expertise in helping very young companies accelerate their growth and rapidly build market share. 

Because venture funds tend to invest in companies at earlier stages of their development, the potential new value that can be created is typically higher in VC than in PE. A successful VC investment might generate a 10x return on invested capital, while a successful PE investment might be closer to 2x or 3x. 

Portfolio management

While VC fund managers can help companies with value creation, after making an investment, they typically have less control over the company’s future than PE fund managers. This is because VCs make minority investments, while PE firms pursue majority deals, which allow PE firms to control the portfolio company through its ownership stake. Startups often have several VC backers, all of whom might have different ideas about the best strategic direction. Compared to PE, portfolio management in VC often requires more collaboration with other company management and other managers. 

A VC fund manager's strategy will also necessarily differ from a PE manager. As discussed, a VC manager is typically managing a smaller sized fund, investing in many more portfolio companies per fund, and writing smaller checks for minority ownership stakes. For both VC and PE managers, however, the concept of tracking investments and making sure they align with the investment strategy remains the same. 

Exit strategies

As in private equity, the most common exit strategies for VC fund managers are an M&A transaction or an IPO. 

Key differences between PE and VC fund management

To summarize, here are some of the key differences between fund management for a PE fund compared to a VC fund: 

Fund management software

Many fund managers rely on software to help organize and administer their investments. Carta provides an end-to-end platform that’s custom built to help private fund CFOs manage every aspect of their funds, from calling capital to tax return preparation to assessing fund performance.