Episode 59: John Bailey of OneFund Investments on 
What To Look For in PE Operating Teams and Partners

Episode Transcript  

 Shiv: Alright John, welcome to the show. How's it going?

John: It's going great, Shiv. Thanks for having me.

Shiv: Yeah, excited to have you on. So why don't you start with your background and what you do at OneFund, and we'll take it from there.

John: Yeah, absolutely. So I'm the co-founder of OneFund Investments. We're a tech enabled fund of funds. So you can think of us as like a typical institutional investor on the fund to fund side. But instead of bringing in LPs who are, you know, 10 to a hundred million dollars or more net worth, we're tech enabled. And so our LPs tend to be more in that like, you know, 1 million to $10 million net worth range, really with the goal of helping more folks get access to private equity and venture capital. But before doing that, I was an operator at General Atlantic, which is a large growth equity fund. So there I focused on commercial due diligence as well as value creation projects within the portfolio. And so I kind of melded that experience into a lot of how I think about allocating capital, right? In terms of, as capital markets, especially private capital markets have developed and matured, capital's become increasingly commoditized. And so funds are starting to think a lot more about, okay, how do you get in and win deals aside from just paying the highest price and the highest multiple, right? You know, like if you're winning all of your deals because you're going in like, you know, like what Tiger Global did, for example, three, four years ago when they were just, you know, paying the highest price for everything. Eventually, you know, that's going to come home to roost and it, you know, it might not be the best outcome for your LPs. So thinking about finding funds that are actually creating value for their portfolio companies. Funds that the portfolio companies want them on their cap table and can use that to generate outsize return for their investors.

Shiv: And so how do you do that? Walk me through that process. Like if you're meeting a private equity, I mean, I think the clarification upfront is important is that you're a fund of funds. And so it's getting access to an asset class that usually people don't get access to, right? That's what you're doing inside your business. And so how are you vetting this on behalf of the people that are investing with you?

John: Yeah, absolutely. So we have a pretty standard due diligence process, but I think when it comes down to the operational component of it and seeing how are these private equity funds actually helping their portfolio companies. It's interesting because if every private equity fund will tell you they do a ton to help their portfolio companies and they're instrumental in, you know, the value accretive journey of those companies, but a lot of that is not entirely true. There's a few different models out there that private equity funds use when it comes to setting up their operating teams and actually deploying value. The first is, just don't do it and they bring it outside consultants or they have a really good network of co-investors. And that's actually totally fine. If the investor is like, look, we know what our strengths are, it's not operating companies, it's identifying and investing in really excellent portfolio companies and we do that really, really, really well. That's great. The flip side of that is you can have private equity companies that have an entire team, dozens and dozens of people who are built out and are dedicated to actually dropping in and helping portfolio companies. That's also great. What starts to get tricky is, you know, do they have that large team because they just want to say to people, we have this large team, or are they actually doing something with it? And then it gets even more complicated when you have kind of the shades of in between, right? Where you have some operating teams that a private equity fund will just have, you know, I call them sort of, you know, the retired gray haired CEOs who go in, meet with a portfolio company for an hour. The portfolio company feels great. Cause they're like, I just met with the former, you know, CEO of Zoom Info or something. but at the end of the day, not much actually got done. That's what we try to shy away from. We really want to invest in funds, at least from an operational standpoint, that have lean teams that have a lot of experience, that are dedicated to investing in, that are dedicated to helping the portfolio companies. And it gets even more complicated when you start thinking through, you know, incentive structures. I think one of the dirty secrets in the private equity industry, when it comes to operating teams, is oftentimes they actually function as independent consulting firms where they're a profit center. And the private equity fund is kind of telling the portfolio company, Hey, you need to hire our consultants to do work for you. And so really it's about making sure it has to be a lean team that's highly impactful and incentives fully aligned. And when you get that, can be extremely, extremely powerful. OpenView, for example, was great at this back in the day when, when they were still investing. General Atlantic, my old firm, really, really excellent at that as well. And it can really help generate outsize returns, for LPs through a lot of different vectors.

Shiv: You opened up a lot of threads there. So let's talk about the incentive structures to start. What in your mind is the right kind of incentive structure? Like I'll give you an example with us. We are an external partner for private equity firms. And so we're not on their payroll, but we work with 50 plus PE firms and they'll bring us in based on when an investment needs help on the marketing side. And so. And then our client is the actual portfolio company. Usually they're the ones paying us unless it's part of a transaction, then it works through funds flow and things like that. How do you, where do you see those incentive structures in other cases where they're very misaligned or maybe it's not set up in the right way to do what's in the best interest of the company.

John: Yeah. So I love that model that you just described because it's simple. It's clear. It's also very transparent from the private equity company in terms of what's going on. I also love the incentive model where the operating team goes in for free and does work for the portfolio companies. That's what I think is the best. And the reason for that is because you know, that the private equity fund number one is incentivized to keep that team lean. Number two, you know, they're deploying that team when they think that it can really deliver outsize returns. The model that I think starts to get kind of tricky, and I won't name any names here, is there's quite a few firms that will have outside. Well, what will appear like, you know, part of the firm, and they go to these portfolio companies and say, Hey, let us invest in you. We have this great team that will work with you. And then there's a giant bill at the end for the portfolio company that the portfolio companies then paying back to the private equity fund. And that's not to say that those deals can't be hugely beneficial for the portfolio companies. Often it's great and generates a ton of value, but you can see how that situation starts to get, starts to get a little bit tricky. And I think that the operating space will come to a bit of a reckoning here. You're chatting with the founder of Volition and one of the previous episodes. And I know you were talking about how it felt like 10 years ago, 20 years ago, not a lot of private equity funds had operating teams. And now it feels like almost all of them do. And part of this is just sort of the natural shakeout that's going to happen over the next 10 to 20 years. As these teams become more institutionalized, more standardized, and it starts to look more similar from firm to firm. And right now though, that difference is creating an opportunity for allocators to invest in funds that truly have differentiated and high quality operating teams that drive value.

Shiv: Yeah, one thing I think about because our business is in this space. So yeah, five years ago when I started this company, there were no real operating teams like outside of the large ones like Vista, if you think about or Insight. And then slowly I started to see operating partners be brought in to some of the even mid-sized funds. And now I see a handful of folks inside those companies. And I kind of think about it because when I was building our last company, I was the CMO there. Internally, I was because we didn't have investors, we were bootstrapped until we sold our business. And I was kind of playing that role of all the different strategic levers and optimizing it. And I think what's happened inside private equity firms is like inside companies like the portcos themselves, there aren't that many people thinking about pricing or product or marketing or sales at a strategic level. And so the work inside the portcos being outsourced to the private equity firm, but the private equity firm doesn't have enough talent to be able to make that work. And then the business model kind of breaks because the private equity firm gets paid based on their management fee plus carry. The carry is not happening until you're selling the company. So you're basing it on the management fee and you can easily over hire on the operating partner side. And then the portco doesn't have enough talent internally to be actually be able to do some of the things that I just described. And so I think the reckoning that you're talking about that I kind of expect or I kind of envision happening at some point. And we were talking to one really large PE fund a month ago or so, and they mentioned that they had over hired on their operating team and they were now instead shifting to keep a few core team members and then build a Rolodex of partners. And that's why we were having the conversation. Whereas like a year ago when we were talking to them, they were like, no, we're bringing everything in house, well, lets touch base in a little while longer. And now they're shifting back because the economics don't work. Like you have to pay these people if they're on your payroll or you have to go the route of the kind that you're describing where you're forcing your portfolio companies to use your consultants to make the economics work.

John: Yeah, I think the number one thing, if you're a private equity fund and you're building an operating team is you just, you have to keep it super lean. You know, if you're able to hire kind of a few really smart, really hungry individuals, they can do the work of a consulting firm many times over, know, like how many times have, you know, is it, does a deck get put together from McKinsey that's like 200 pages. And what you ultimately care about is like…

Shiv: Three slides.

John: Exactly. Like the like 10, five pages in the middle, right? And so you have to be like very disciplined and like, look, we're actually going to do what matters here. And another thing that I think is really interesting, and you alluded to this a little bit in terms of like, how do you think through the capabilities at your own portfolio companies is you also want to be constantly threading the needle of how do we do high impact work for our portfolio companies while also making sure that we're building up those capabilities internally. So for example, when I was at General Atlantic, I did, I focused mostly on pricing. We do a lot of pricing and packaging work for our portfolio companies. And typically what we would do is we would go in, we would do a study for them. We would reprice their product, you know, have revenue lift anywhere from 20 to 50%, which is an amazing outcome. But then we would help them build up those capabilities so that they could do proper AB testing internally so that they could have pricing managers who could manage pricing going forward so that we would build in cadences so that they'd have a yearly review of pricing. And, those sorts of capabilities are also what really allows like a small team, to have a really, really large outsize impact.

Shiv: Totally. Yeah. I think one of the issues is just that there's not enough talent in the marketplace for certain areas. Like pricing is one of those where I noticed you worked with Simon and Kucher. I mean that obviously the pricing background comes from there, but they even, even there, like, even though there are firms that have done it for years and there's this breadth of work, not everybody's doing pricing the right way. And you come to domains that I guess newer or even less talent is out there like marketing, the domain that we work on. It's very rare for me to come across a CMO where I feel like, okay, this person has this completely nailed down and this company set up for success. And the same applies for domains like sales, where you have chief revenue officers being fired all the time and talent being turned over. And so I think that the battle there is to really have the right person or people in those seats instead of trying to make it up with volume and trying to build like this internal agency, which ends up eating costs and more than just actually more than the value it actually ends up creating for those companies.

John: Yeah, it just has to go along with alignment, right? and it's completely true. Unfortunately, I think when you take sort of a lot of these high impact, but more specialized roles like pricing, data science, digital marketing, et cetera, the people who are really, really good at that end up going on and doing other things, right? Like they end up founding their own consulting firm, or they end up moving into general management, or they end up switching over to start their own company. And so there's, there definitely is a dearth of talent. And like you said, firms sometimes just try to make up for that by hiring too many people. There are a couple that come to mind that have really, really big operating teams. And, you know, when we're allocating, I think basically there's like three models in the market for private equity funds that have operating teams. There's the operating partner model where you have, you know, the former CEOs who come in, have an hour meeting. You have kind of the consulting model. and then you have the integrated team model. And definitely from our perspective, when we're allocating to funds, we vastly prefer the integrated team model, but the consulting model is also okay. We get a little nervous when we look at a funds operating team and it is just like 20, like dudes in their sixties who are former CEOs. Cause I'm like, they're not doing work. 

Shiv: Yeah. They're not plugged in with our company.

John: Like, yeah, they're, they're sitting in, in a board meeting twice a year, giving some suggestions. And then the portfolio company has to go out and hire consultants to do it or spin their own wheels, trying to make it happen. And so that's really what we look for. One thing that we look for really analytically, when say we're building different products and trying to find funds to allocate to is oftentimes we'll try to look at data on what is the purchase price that this firm has paid for investments in the past for portfolio companies compared to what the other bids were. And if a company is like consistently, if a private equity fund is consistently able to win deals, not being the highest bidder, that is really, really, really good news. And often the operating team is a big part of that. 

Shiv: Where do you get that data from? That's visible to you?

John: Yeah, so it varies. Oftentimes you'll have to like kind of triangulate it across multiple sources. And oftentimes we'll end up doing reference calls when we're investing or finding funds to invest in. And so we'll end up looking at companies that are on the portfolio and talking to people who have accepted capital from these firms before. And so unfortunately it's not as simple as like, it's never as simple as an Excel spreadsheet, right? 

Shiv: It's not like in Pitchbook or something, yeah.

John: Exactly. No, no, no. It's never in Pitchbook. You really have to do very detailed diligence calling, doing reference calls, talking to people who have taken capital from that firm before, and really just asking them why, like, Hey, why'd you end up taking capital from them? What were the other offers? And when somebody says, you know, they offered me an amazing, valuation. It's like, okay, cool. But when they're like, well, they offered XYZ on the operating side, they actually truly delivered on that. Then you can kind of start to piece together a story on why this fund is winning deals.

Shiv: Right. That would be an interesting data tool. Yeah. I was like, I have never seen data like that where you can see all the other competing bids that didn't go through. So yeah. 

John: It's unfortunately very manual.

Shiv: But, but I can see how that would tell you something about a firm, right? It's one thing to win a deal on valuation. It's another to win it on the value that you can bring. And I think a lot of firms are winning deals more in valuation than the value. So beyond that, like, how are you vetting the expertise because it's something you said there really resonated where you said the types of operating partners that they have if they are the seasoned CEO. Like one bias that I noticed in certain private equity firms is when they think about value creation, there's this bias to always go for people who have been there and done that. And somebody that's been there and done that for 20 years is automatically like more qualified in their minds. And I think in general with the way the world is moving at the pace that it's moving at you have to actually find alpha from people that are doing things differently. And that would be a better fit for the investment. So kind of talk to me about that piece. How are you evaluating the talent that they have there and this integrated model and which ones are gonna be more capable of driving an investment forward?

John: Yeah. So I'm very partial to an inverse, to a pyramid structure when it comes to operating teams. You, you do need to have some senior operating partners who are, you know, in charge of relationship management, general strategy of the group, but you really don't need that many. What you need are, you need associates, senior associates, and some vice presidents who worked at McKinsey, who worked at BCG, who worked at some of these other firms who are hungry, who have done this work a lot, because that's ultimately what's, you know, what we alluded to earlier, right? Like when you think about what drives value for McKinsey, it's not those hundred slides, it's those like three to five slides in the middle. And so you want to get people who are extremely sharp, who are extremely hungry, who are generating those three to five slides. So, you know, when I see that an operating team is heavy on associates and not that heavy on partners. You know, that means they're running lean on salary because an associate is making like one 10th, if not less of what a partner is at a firm like this. And also they're probably generating a lot of work. Now that doesn't mean that you should have 800, a lot of associates in absolute terms. You don't want to see that they have an operating team that's just as large as their investing team, but relative to the senior partnership. And then also obviously just seeing like, where are these folks coming from? Right? Like, like what's, what's the background? Because there is something to be said, you know, it really comes down to the firm, right? If it's specializing just in financial services, that's great. want to have financial service focus people, but if it's a generalist firm, you want to have generalists on that operating team because otherwise it just risks getting too bloated. In my opinion, if you're seeing that, they have all these operators dedicated just to tech deals, just to healthcare deals, just to consumer deals. Yeah, it's really just about efficiency.

Shiv: How do you go about vetting their ability to help across different functions or domains? So as an example, finance is an area that most PE firms can help their portfolio investments on. Sales may be a smaller portion, pricing might be even smaller. Marketing, we found that like it's very rare to come across an operating partner that's really strong in marketing. And that's why we've been able to build a business that we have. So how do you look at that and which functions do you think are necessary that need to be core and which ones can be potentially not in that core but maybe are you're leveraging partners for?

John: Yeah. So in terms of expertise, you kind of look at it the same way that you would, or similar to how you'd look at the expertise on, the deal team side, it's kind of pedigree and in track record and granted track record is not as readily available when it comes to operating folks, but you can generally get a sense from somebody's background and from somebody's tenure. Like, Hey, do I generally think this person is good? It's not. As an allocator, as somebody investing in private equity funds, you're not going to go and talk to each associate and be like, Hey, what did you do? What do you do now? You kind of have to trust that based off the people that I'm talking to the track record of the firm and the way that the team is structured, is this a reasonable expectation or is this, is this a reasonable setup? When it comes to actually thinking through, like, okay, how much of this is internal versus external? You really want to try, the place you get your most bang for your buck, and when we look for this, when we look at what are the expertise that these funds have, the place where you get the most bang for your buck on the operating side is you want to focus on skills that are really mission critical to a business, but are not something that a business necessarily has internally. And that sounds really odd because you're like, Hey, anything that's mission critical, a business should have that function for, but that's not true, especially in businesses that are more in the growth side or even on like the mid market side of things. And the reason for this is because take pricing, for example, you might visit pricing once a year, and it might be like a one month, two month exercise. You're not going to hire somebody who just focuses on pricing. If that's how you handled your pricing. But if you're a private equity firm, you might have 50 companies where pricing is critical and maybe a quarter of them have somebody dedicated to pricing there. And so having functions that are high criticality to the success of the business, but are not, but each of these businesses do not necessarily have a dedicated professional for is really, really huge. It's a lot easier to find that if you're investing in earlier stage companies, ‘cause a lot of them, when they're growing, they have these pains. But so for example, things like specialized fields in marketing, like digital marketing, perhaps advanced data science roles, pricing, these are all areas that can move the needle in that way. The other, and so yeah, I just, you don't want to, as a private equity investor, be providing capabilities that these firms already have. Like if you're investing in industrials and manufacturing companies, you probably don't need somebody who's like fully dedicated to supply chain and that's not because supply chain isn't critical to these companies. But it's because if you're investing in large cap industrial and manufacturing firms chances are they have very well built out supply chain teams and if they need supply chain help you should go to a big consulting firm So it's really about finding those areas looking at your portfolio saying what are the areas that are critical to the business? And then kind of overlaying that with, the businesses themselves actually have these capabilities? And the places where things are critical and the businesses don't necessarily have the capabilities. 

Shiv: They don't always have the capabilities. 

John: Yeah, that's where you can leverage the PE firm platform.

Shiv: Yeah, I like that framework. I think that's a good way to think about it so that you're not duplicating effort or outsourcing something that shouldn't be outsourced and keeping those core competencies inside. Talk about the commercial due diligence process because you mentioned that's one of the reasons or how you kind of got into OneFund and how that's kind of guided your decision making. So how do you look at that and what are some key things that operating teams and investors should be keeping in mind?

John: Yeah, absolutely. So one of the key things is that value creation components need to be integrally tied into commercial due diligence. So commercial due diligence is really all about going out and performing due diligence on the product, the customers and the market. And you're trying to see, is this product good? How does it compare to our competitors? What do the customers think about it? And how big is the market? How fast is it growing? So that's everything from doing TAM work, understanding how large is the market? This is a market that we even want to play in all the way to trying to understand, Hey if we were to buy this company, what would we do to make it better? And that's when the operating team becomes quite important, right? If you're like, Hey, if we were to buy this company, could we do a marketing change? What would the impact of that be? Could we do a pricing change? What would the impact of that be? Are there any data science initiatives that we can do to reduce churn? And by incorporating those components into due diligence, you can earlier start underwriting those potential changes and allow you to win more deals and be more competitive in deals and have better outcomes for your limited partners. So I'll give an example. When I was at General Atlantic, I worked with chess.com a little bit. And we went in, ended up actually investing in the company. But a big part of that due diligence was going through and doing a lot of research on understanding what are some ways that the business can improve. And we brought in marketing experts. We brought in pricing experts. We brought in data science experts. Ended up making the investment in chess.com and eventually ended up kind of working with C-suite, C-suite minus one there to bring about some of these changes and really not only improve the financial performance of the company, but help improve the product, increase customer, increase customer retention, engagement, and just in general, help make the company a lot better. And this was something that was able to be incorporated into and underwritten in the due diligence process. And so that's, know, aside from just like going to companies and saying, Hey, we have this value. We have this operating team that can really help you. This is one of the key ways that smart, savvy funds can utilize those capabilities to win more deals and pay better prices.

Shiv: Yeah. And I think that then has a downstream effect of being able to have a, able to make the investment in an ops team, because then it kind of pays back in the form of the alpha that you're generating from your investments. and that becomes kind of like the cashflow aspect of it. We, we were, we're often part of these commercial due diligence engagements with clients. And in general, when you look at value creation plans, there's only like five to 10 things that exist on most first hundred days plans or value. It's like, pricing is one of them, pricing efficiency, sales efficiency, go to market strategy, paid media efficiency or marketing efficiency, upsell, cross-sell, like you kind of go down the list. It's usually the same stuff, but the more you can nail down exactly what you're going to do as soon as the deal closes, the faster you can run when the deal closes. I think that's one of those gaps that even now when I meet PE firms, they kind of hold off on it because there's this, there's a hesitation to invest as much in that time period because they're not sure if the deal is gonna close or not. And then if they miss on the investment or they go with somebody else, now they've front loaded this investment before the deal closes. And so I think it's coming around more and more now, but it's not as widely adopted as you would expect. And we see it on the marketing side all the time where like, I've seen companies be bought that are 10 to a hundred million plus, even 500 million plus and they don't do full marketing due diligence and then we're brought in and we'll find like $20 million of inefficiency inside a business like that. So, just wondering, like from your perspective, how do you see that on the adoption side? Like you think enough PE firms are investing enough into commercial due diligence?

John: I don't. I think that a lot of times PE firms look at their operating team through a relatively simplistic lens, which leads back to how, like we discussed earlier, a lot of them just build out these massive teams because they're like, let's get bodies on it. Let's throw bodies at the problem. And especially if you operate your private equity team as this kind of semi-autonomous, semi-related consulting firm, you're definitely not including them in due diligence as much as you could or as much as you should. And you alluded to it, but we've all seen those, you know, for a hundred days, six month value creation plans that go to the investment committee. And it's just very general. We believe we have an opportunity in pricing, marketing, in paid media, et cetera. It's so much more powerful to be able to go into your investment committee and say, we've identified a 22% pricing opportunity. We believe we can capture 50% of that in the first year and the next 50% of it over the next two years. We've modeled in 25% of that pricing opportunity into our base case scenario. And that just gives you the ability to say, we feel comfortable with this price because we can do XYZ. We have data to back it up and we have a team that's going to go in and execute that change who is the same team that underwrote it? And that's just how you get everybody aligned, right? Like if. You're not, if you're operating team who's underwriting these pricing changes or these marketing improvements, or these churn reductions is the same team going in and actually executing on it, you just have a lot more alignment. and it just allows you to make better deals.

Shiv: Totally. Yeah, we had a call a few months back and the PE firm said we have this investment, but part of our thesis is to cut $10 million in spend from paid media. Can you help us out and figure this out? I'm like, well, I don't know if that's possible yet. You kind of have this, you have this on your slide, but let us go verify. And actually, we found more than 10 million. So they were, they ended up being right. But it's one of those things that like, we had the data to explain that and that gave them confidence and they made the investment and then we started implementing those changes, right? So, totally agree that when you have that alignment before the deal versus after the deal, then getting to that value is a lot faster.

John: Yeah. And ultimately I think what we're seeing too is say you've like, there's a, there's a 10 million opportunity, $10 million opportunity to cut paid media. I could say with not knowing anything about how that deal was ended up being underwritten. I can say with pretty strong confidence that they did not end up writing into their base case financial model that they were going to cut $10 million in paid media. Right. People are always taking a haircut off of these value creation underwriting processes in the due diligence process. And A, that's smart because it shows that you're taking, you're making risk adjusted decisions, but B, it also shows me that more, if you can take such a huge cut off of these value creation processes and due diligence, it tells me you just straight up that not enough private equity funds are doing this or doing this intelligently because if they were, you wouldn't be able to win deals taking such a massive haircut off of these different value creation initiatives.

Shiv: 100%. I cannot tell you how many times we've cut 10 million, 5 million, 7 million, 15 million. And the impact ARR is like less than a million. It's, it's, it's countless. I can count. So, and, that's, and that tells me that the founders definitely are not doing it. And even when a PE firm owns the asset, they're not doing it because they're not fully aware of what it takes to make that type of a decision. So there's like this informational discrepancy or arbitrage that exists where some funds understand this and other funds don't and the ones that do are driving way more return for their LPs.

John: 100% and those are the funds we try to invest in.

Shiv: Yeah, totally. So that kind of comes full circle. So with that said, as we're wrapping this up, as PE funds that potentially want to work with you or other founders that want to learn more, where can they go to learn more about you and what you're up to at OneFund?

John: Yeah. Anyone can always visit our website anytime. One Fund Investments.com. Anybody can always connect with me on LinkedIn, John Bailey. And you can always email our company at hello at OneFund Investments.com. Always spelled out O, N, E fund investments.com.

Shiv: Awesome. And with that said, John, thanks for coming on and sharing your insights. I thought it was a great conversation. And I think a lot of operating teams that we see and just in general listeners that are trying to build good ops teams can learn a lot from it. So I appreciate you coming on.

John: Shiv, awesome to connect.