Many buyout professionals, no matter how successful, remain committed to doing small transactions.
Let other firms migrate to larger deals, far larger funds and more lucrative management fee streams. These professionals say they find the best opportunities on the small end of the middle market. It’s what they know best. They pride themselves on “sticking to their knitting,” showing “discipline.” Limited partners nod approvingly.
It can certainly be a way to wealth. Whether they do deals small or big, buyout professionals can generate millions of dollars in annual compensation through their carried interest—for most firms, a 20 percent profit-share.
But carry distributions can be fickle. The last few years have proven that again, as the pace of exits slowed to a trickle during the Great Recession. By contrast, salaries and bonuses, because they stem from management fees, tend to head steadily higher, year after year—just as they do in most other professions.
Over the years, studies of private equity compensation have shown just how much discipline it actually takes for buyout professionals to avoid the temptation to move up-market, and raise far larger funds. There may not be a direct correlation, but there’s no getting around the fact that the more assets under management at a buyout shop, the higher the management fees tend to be; and the higher the management fees, the more money firms can pay their employees in salaries, bonuses or other cash compensation.
Thomson Reuters, publisher of Buyouts, this summer conducted its first annual survey of private equity compensation practices. Response wasn’t what we needed to put together a full-fledged study (as we hope to do next year). Altogether,15 North American buyout firms submitted compensation data on about 140 employees. But we have enough information to demonstrate that, when it comes to compensation, for many job titles, bigger is better.
Consider some of the data points below (bearing in mind that the sample sizes are so small in many cases that these numbers are nowhere near statistically rigorous):
• Partners in our sample at North American buyout firms with $1 billion or more in assets under management will earn an average of $923,333 in salary and bonus compensation this year (bonus for performance in 2009). Those working North American buyout firms with $350 million or less under management will earn an average of $341,625 in salary and bonus compensation.
• Associates in our sample at North American buyout firms with $1 billion or more in assets under management will earn an average of $155, 429 in salary and bonus this year; the figure working for firms with $350 million or less under management is $133,556.
• Chief financial officers in our sample at North American buyout firms with $1 billion or more in assets under management will earn an average of $438,333 in salary and bonus compensation this year. For those working at firms with $350 million or less under management the figure, is $218,958.
In good years, carry distributions can naturally overwhelm salary and bonus compensation. But investors need to keep in mind just how much financial incentive buyout professionals have to boost assets under management. If the government ever decides to raise taxes on carried interest, buyout professionals would have even more incentive to ensure their salaries and bonuses grow rapidly.