7 Essential Tips To Manage The Private Equity Maze

As we kick off 2009, I'd like to outline how you can personally navigate the private equity maze and get to the finish line. It might feel daunting, but these guidelines will help.

Here's what you should do:

1. Don't be afraid to try. There are all sizes and flavors of private equity groups looking for investment opportunities. The only way you will find out if you qualify is to put your investment opportunity in front of them. Although the larger funds have minimum dollar investments and can be more than one project, there is always “Country Club Money.” All of you have potential investors in your community who know you, trust you, are convinced you are smart and know your business; if they're presented the right opportunity and structure, they'll jump at the chance of earning greater than CD rates if they feel comfortable with the risk profile.

2. Be ultra-conservative with your projections. Under-promise and be prepared to over-deliver. Make sure you use today's — not yesterday's or tomorrow's — absorption projections and pricing, and run your projection analysis flat — don't project price increases or higher absorptions. Make sure you are aware of and consider negatives, such as projected job losses in your area, and deal with them directly in your narrative. Include an IRR calculation for the investment. Private equity groups live and die by IRR calculations. If your investment opportunity is approved, the first tranche will have the cheapest cost. If you are overzealous and your monthly financial reports show you're not delivering the projected results, and you find your original capital requirements will not cover your capital requirements, any additional funding granted will be at a much higher cost.

3. Be totally transparent. Make sure everything — the good, the bad and the ugly — is out on the table for your investor to see. Make sure there are no surprises when the investor personally diligences or hires a qualified expert consultant to review your project and projections. Be prepared with facts to defend your investment thesis.

4. Be prepared to give up some control. Except for “country club money,” private equity will want to have a say in how the projects or business is being managed. They will not want to manage your business or second-guess you. If they have any doubts as to your organization and management skills, they will not invest with you. At the least, they will want a seat on your board and may even want voting control over the entity used just in case you are not performing as you projected. Missing projections a month or two won't have your partners looking for the nearest bridge to jump off, but missing them for a quarter or more might have them starting to ask questions as to whether you are managing well.

5. Start looking for capital before you're brain dead. Definition of ready: you have at least 6–12 months of operating capital on your balance sheet or available from house closings. I receive 10 calls a week from builder-developers, 4–6 who waited too long to start the search and don't have the wherewithal to make it through an arduous 4–6 month marriage process. Investors are interested in builders who are going to be able to survive and not those builders whose capital and credits have run out. The exception to that rule is if you think you may need to file a Voluntary Chapter 11 Bankruptcy petition with a plan of reorganization simultaneously and are looking for DIP (debtor in possession) and exit financing to come out the other side.

6. Be prepared for rejection. You might have to talk with 8–10 funds until you find the right one that is interested in funding your capital requirements. Keep a stiff upper lip and keep plugging and asking until you hopefully get the right answer.

7. If you are faint of heart, don't enjoy dialing for dollars or can't handle rejection, hire an expert consultant that has existing sourcing arrangements with multiple funds. Don't be afraid to spend some money to try to save your business, projects and yourself. I have often gasped at how foolish builder-developers are when it comes to using professional help they have to pay for to try to save limited cash resources. It sometimes seems that they are willing to sit around and watch their enterprises crater rather than pay someone to help them get to the finish line.

Good luck and good hunting! I will be happy to answer e-mail questions directed to mike.kahn@michaelpkahn.com.