Raising capital as an emerging fund manager is often a natural evolution for successful investment professionals. But managing a fund requires more than just making lucrative investments. To run a successful fund, a first-time fund manager needs to understand the mechanics of a fund's operations beyond the pure investment process.

Often, the process may seem overwhelming and more complex than anticipated. With this article, we set out to help emerging fund managers start their first fund and walk them through the process to make it as simple and successful as possible.

Here are five (5) essential things you need to consider when starting a fund.

1. Articulate a Compelling Strategy

It all starts with a strategy. A strategy is one of the critical aspects investors evaluate when underwriting first fund opportunities. It's essential for first-time managers to design a compelling investment strategy and articulate it in a way that will attract investors' attention. 

To take on a higher risk that comes with a first-time fund, investors usually demand more than another "me too" strategy. Instead, they want to see a unique competitive advantage approach as well as something that differentiates the new fund from competitors—an innovative idea for seizing new market opportunities in a category where investors show investment appetite. 

This is the time to decide about vital fund characteristics across dimensions such as stage, vintage, and sector. Here are some of the key questions to consider.

Will the fund focus on a specific industry or certain geographies and why?

Funds usually have an industry focus. Technology, life science, real estate—these are widely different industries, all requiring different domain expertise and skill sets to succeed. 

Next, will the fund diversify investments across regions/continents or will it focus on investing in the domestic market? 

If you intend to diversify across geographies, do you intend to invest in developed markets or will your fund seek exposure to emerging or frontier markets? This decision is essential since success in an international environment is often closely linked to knowing the complexities of the local market. 

What is the target stage of investment opportunities the fund will pursue?

Do you intend the fund to invest in early-stage startups or on growth equity, investing capital in established, growing companies? 

Will it pursue buyout opportunities taking private companies public or will it focus on special situations or distressed opportunities, targeting companies in some unusual circumstances, such as restructuring or turnaround?

Finally, will it focus on individual investments or fund of funds instead?

What are the fund's goals?

The goals reflect the way the fund will create value: will it aim to improve the operational or strategic capabilities of the portfolio companies or to improve their financial profile before selling them at a profit?

Why is the fund manager the right person for the role?

A significant factor that makes the strategy compelling to investors—and this is particularly essential for first-time managers—is clearly articulating why he or she is the right person to execute the selected strategy. 

This is the time for you to think hard about what makes you different from other managers in the sector. 

Ideally, the fund's strategy will align with your own competencies and strengths. This means that a chosen strategy is connected to areas where you have a competitive advantage either through previous experience, domain expertise or easy access to a network that you can use to secure the deal flow. For example, a professional with experience working in a biotech startup or a corporate venture fund affiliated with a pharmaceutical will have an edge when launching a life science-focused fund. 

2. Find Suitable Sourcing and Investment Opportunities

The success of the fund is closely linked to the success of its investments. As a result, fund managers consider many potential deals, sometimes hundreds, before selecting the best among them.

Securing uninterrupted deal flow is vital because it ensures that you have access to an adequate pool of investment opportunities to choose from when making investment decisions. 

You can source deal flow in various ways. Inbound deal sourcing includes companies that come to you—either directly or as referrals through your network. Inbound leads tend to be the strongest since they usually come from other investors participating in a deal or from entrepreneurs with whom you already worked. Although it can be challenging for emerging fund managers, inbound deal flow grows over time as they build their reputation within the investment community. 

Unlike inbound deal flow, outbound deal flow involves investment opportunities that you actively seek out. Fund managers often have a dedicated team responsible for prospecting or keeping track of companies aligned with the fund's strategy to reach out to them when they are ready for funding.

Managers increasingly turn to social media such as LinkedIn, Twitter, or Facebook to source promising investments. That's why a strong presence on relevant social media platforms is becoming key for promoting the fund, communicating the investment strategy and establishing relationships with other investors and potential portfolio companies.

3. Institutional Investors Want to See a Track Record

The reality is that for private market investors, track record tends to trump all—it is often the most important factor they consider when evaluating managers.

Since selecting fund managers is mostly about performance, it can be challenging for first-time fund managers. To overcome this obstacle, some managers choose to opt for a SPV structure, so they can develop a track record and build their reputation of successfully sourcing, managing, and exiting investments. 

Unlike the traditional private equity model in which a fund raises a pool of committed private capital to invest it in multiple portfolio companies of its choice, the SPV model operates with no committed equity capital. Instead, fund managers of SPVs raise capital on a deal-by-deal basis.

It can also help to think of a track record in a more creative way because performance history can come in different shapes and sizes. For first-time fund managers, that can mean the history of working under more established brand name funds. If a new manager can demonstrate that their past experience can translate to future success, that can provide some comfort to investors. Investors may be willing to invest capital in a new firm, but the managers should not be new to making private investments.

4. Team Continuity is Important

When evaluating first-time managers, investors examine the strength of the team and a strong alignment of interests. Anything that indicates a potentially unstable partnership may lead to a hard no from investors. Many have seen their investments failing due to team challenges, so often even a hint of these issues is not taken lightly.  

For new shops that emerge as spin-outs from existing firms, it's a bit easier as these professionals can demonstrate an ability to work together. If you team up with other professionals with whom you have a history of success, it can considerably lower the perceived risk of your partnership.

5. Establish Fund Operations/Back Office

Building a back-office infrastructure supporting fund investments is critical to cover all essential aspects of running the business, including tasks such as legal, tax, accounting, and compliance. See how Allocations’ fund admin services support first time fund managers.  

As a first-time fund manager, you can choose to have a dedicated COO or CFO responsible for running all non-investment-related operations. Outsourcing these roles, entirely or partially, to qualified external providers is also an option, especially for newer fund managers. This setup allows fund managers to concentrate on the investment side of things. 

External providers can deliver essential services such as middle and back office, valuation, compliance, trade processing, investor relations/marketing, and more, freeing up the time to focus on activities that impact the bottom line, from fundraising, due diligence, and deal flow management to building relationships with investors and prospects. 

6. Taking the First Step as First Time Fund Manager

Although it's never been easier for emerging managers to start a fund, it can still be overwhelming—even for those with investment or portfolio management experience. Fund management is such a complex process involving many aspects beyond pure investing. Managers are not only responsible for investment strategy, but they also need to make sure that the business as a whole runs smoothly. 

We highlighted some of the essential considerations about fund management realities to help first-time managers like you on their private equity journey. 

Are you an aspiring fund manager looking to start the first fund? You’re not alone. 

10,000+ investors and fund managers build, raise, and close funds on Allocations — the fastest and most advanced fund platform in the world.

Build your first fund or SPV today

Disclaimer: The information provided in this document does not, and is not intended to, constitute legal, tax, investment, or accounting advice; instead, all information, content, and materials available are for general informational or educational purposes only and it represents the personal view of the author. Please consult with your own legal, accounting or tax professionals.