Hugh MacArthur – Private Equity's Challenges and Opportunities (EP.453)

Hugh MacArthur is the Chairman of Bain & Company's Global Private Equity Practice, which he helped found more than thirty years ago. Hugh's consulting team works on around 5,000 investment opportunities every year and comprises the largest practice area at Bain. He also hosts the "Dry Powder" podcast, my favorite in the private equity space. Our conversation covers Bain's work in private equity across due diligence, sourcing, value added support, and strategy for both GP and LP organizations. We then discuss findings from Bain's latest Global Private Equity Report, including data on the slowdown in deal activity, liquidity bottleneck, private wealth inflows, carveouts, AI, and competitive positioning. We close with Hugh's perspective on the winners and losers of the next era, and the strategies GPs and LPs need to pursue to come out on the right side of a changing industry. Learn More Follow Ted on Twitter at @tseides https://twitter.com/tseides?lang=en or LinkedIn https://www.linkedin.com/in/tedseides/ Subscribe to the mailing list https://capitalallocators.com/ Access Transcript with Premium Membership https://capitalallocators.com/signup Editing and post-production work for this episode was provided by The Podcast Consultant (https://thepodcastconsultant.com https://thepodcastconsultant.com/)

Speaker names marked ? are inferred from speaking time and the show’s known hosts — they are not voice-verified.

• 0:01Ted Seides?

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• 0:46Ted Seides?

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• 2:06Ted Seides?

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• 2:47Ted Seides?

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• 3:32Ted Seides?

  Hello, I'm Ted Seides and this is Capital Allocators. This show is an open exploration of the people and process behind capital allocation. Through conversations with leaders in the money game, we learn how these holders of the keys to the kingdom allocate their time and their capital. You can join our mailing list and access premium content at capitalallocators.com.

• 3:59Speaker 01

  All opinions expressed by Ted and podcast guests are solely their own opinions and do not reflect the opinion of Capital Allocators or their firms. This podcast is for informational purposes only and should not be relied upon as a basis for investment decisions. Clients of Capital Allocators or podcast guests may maintain positions in securities discussed on this podcast.

• 4:18Ted Seides?

  My guest on today's show is Hugh MacArthur, the chairman of Bain & Company's Global Private Equity Practice, which he helped found more than 30 years ago. Hugh's consulting team works on around 5,000 investment opportunities every year and comprises the largest practice area at Bain. He also hosts the Dry Powder Podcast, my favorite in the private equity space. Our conversation covers Bain's work in private equity across due diligence, sourcing, value-added support, and strategy for both GP and LP organizations. We then discuss findings from Bain's latest Global Private Equity Report, including data on the slowdown in deal activity, liquidity bottleneck, private wealth inflows,

• 5:03Ted Seides?

  carve-outs, AI, and competitive position. We close with Hugh's perspective on the winners and losers of the next era and the strategies GPs and LPs need to pursue to come out on the right side of a changing industry. Before we get going, every now and then, a fan of the show asks me to share more of my investment views. I get it. I've been around the block a few times and often have something interesting on my mind. But I prefer not to insert myself in the podcast every week. There's a difference between an interview and a conversation that often gets blurred on many podcasts. Capital Recruiters is an interview show. So instead of talking so much you can barely stand to hear my voice,

• 5:48Ted Seides?

  I occasionally take a turn on the other side of the mic and share it that way. I also record my blogs on the podcast, aptly named What Ted's Thinking. I'm doing more of that with shorter pieces this year. Lastly, I've come up with a new way to share more with our premium members. We've added a musings section to our weekly emails where I'll share brief investment ideas with a high signal to noise ratio. As examples, I've written about what's really going on with endowment secondary sales and how institutions may use interval funds in the future. If you're interested in keeping up with my thoughts from the many conversations I have with investment leaders, sign up for our premium content at capitalallocators.com/premium. It costs

• 6:33Ted Seides?

  far less than a cup of coffee a day, and I'm highly confident, in a Michael Milken, "highly confident" letter kind of way, that you'll return a large multiple of your investment. Thanks so much for encouraging me to share more of my investment thoughts and for supporting the show through our premium membership. Please enjoy my conversation with Hugh MacArthur.

• 6:56Ted Seides?

  Hugh, thanks so much for joining me.

• 6:58Speaker 02

  Ted, thanks very much for having me on your show.

• 7:00Ted Seides?

  Well, you've had a long run at Bain. I'd love you to take me back to life before Bain.

• 7:05Speaker 02

  Life before Bain. I won't go too, too far back, except to say that I'm originally from Massachusetts. I went to undergraduate school at Dartmouth College. I then thought I was going to go off and do great things on Wall Street, except I found that nobody really wanted to hire me as a history major. I also think I wasn't particularly a great interviewee in that I thought that I needed to prove to people how smart I was and that I could really solve all their problems. And I probably came across as someone who was ignorant of things I was interviewing for and a little bit too arrogant about how smart I was and how I could help people. Nine or 10 straight job interview rejections gets you humility pretty quick. So I did some introspection there and figured out that

• 7:46Speaker 02

  I was going about this the wrong way. I did finally get a job, spent a couple of years working in M&A research in New York and in London. And then I decided that I really didn't know much about what I was doing at all, and I'd better go back to business school to try and figure out if I could learn more about business. I went to the MIT Sloan School to get an MBA and met some folks at a consulting firm called Bain & Company there and became really interested as to why people were so excited about analyzing margarine and mayonnaise and automobile manufacturing components. They were all really excited about it. And I thought there must be something exciting here. And I joined Bain right in my summer in business school and have been there ever since.

• 8:27Ted Seides?

  What led to the focus on private equity in the early years?

• 8:32Speaker 02

  It's interesting. Back in those days, this goes back to 1992, there were no practice areas in consulting firms at all. So if you went and hired Bain to do something, you could literally get anybody from Bain on the case and regardless of their background. So to give you an example, my first few cases at Bain, I worked in food, consumer products, I worked in corporate charge cards, I worked for a utility, and I worked in the life insurance business. That would be absurd and impossible today to actually do, but back then it was normal. There was no internet, there was no real requirement for industry expertise, and it was let's just get a bunch of smart people and we'll solve your problem. Against that backdrop, a few of us began to notice that Bain and Company had also formed a private

• 9:17Speaker 02

  equity firm in the 1980s called Bain Capital that had been doing pretty well. And I'd love to take credit that we were geniuses and somehow figured out that there was a consulting opportunity in private equity, but it was actually one of our now clients that came to us and said, we actually do pretty well at this private equity game ourselves, but we noticed that Bain Capital seems to be doing really well. And the biggest difference we see between them and us is that they have 100% of their employment staff come from Bain and Company. Could you do for us on an outsourced basis what they seem to be insourcing, which is hiring lots of Bain people? And we thought, huh, that's kind of an interesting question. Maybe we could find an app for that, but it is common parlance now. So we figured out on a due diligence cycle, which was our first solution for

• 10:00Speaker 02

  the private equity and private asset business, how do we do things in a few weeks that we'd actually normally spend a few months doing for a corporation? It was a very different movement for us, and it required different staffing, different pools of people, different ways of working to figure out how to quickly come to answers and really take a specialized outside-in approach to evaluating an asset. Because in corporate consulting, you tend to look at a company from the inside. They hire you, you get all of their data, you figure out where their opportunities and their problems are, and you try to solve them. Well, in the private equity world, it's different. You're looking at a target, you don't have all of their data. You're looking very much at external data to try and understand how fast is the industry really growing and what's pricing going to do? And do customers like you better than the competitors or not? How is technology and regulatory issues changing? What are competitors doing?

• 10:45Speaker 02

  All kinds of things that you need to do some creative digging to find the information. And the client wants the answer in three to four weeks, not three to four months, because they have to make an investment decision. We needed some specialized approaches that were very analogous to everything that we did for corporations to do that. And that became the first practice area at Bain and Company. And there were, of course, one or two firms out there in private equity that asked us to do this because they were aware of what Bain Capital did, and they were the pioneers. But once we decided we wanted to make this a thing, that we actually thought it was a good thing, the product resonated. I remember walking up and down Park Avenue, which is where all the GPs are located, and visiting GP after GP. And the conversation went the same. My colleagues and I would be sitting there and they'd say, well, we know why we need

• 11:30Speaker 02

  an accountant to do a deal, and we know why we need a lawyer to do a deal. But why the heck do we need a consultant to do a deal? Why would we ever hire you? We'd have to try to explain, well, would you like to know these kinds of external contextual facts about businesses? And fortunately, the reaction was they were blown away. They were like, you could tell us things like that about a business? Like, yeah, we actually can. That was really the genesis of the practice. And the interesting thing for us is that I do believe that very often it's better to be lucky than good. We were at the very beginning of this great wave of private asset growth that has continued over the course of the past 30 years. And we're the beneficiaries of that by being the first ones in on the ground floor with a lot of GPs and working with them.

• 12:08Ted Seides?

  What else have you layered on to that initial outside view of an industry for private equity firms in that practice area?

• 12:16Speaker 02

  We've layered on a lot of different things because the world has changed and accelerated so much. Back in the day, when we started this business, the average transaction size was $100 million total enterprise value. And so we thought no company was ever going to be big enough to hire Bain, once they were a portfolio company, because they were so small. Now, the average transaction size is $1 billion. So that's a whole new product line. We also learned after coming out of the GFC that many, many GPs figured out, because LPs became skeptical of performance, they were worried about what private assets were going to do and what private equity was going to do in particular, that they Needed some strategies themselves. The strategy in the accumulated history of the private equity industry had generally been make your next deal a good one.

• 12:59Speaker 02

  And that actually was fine as a strategy with a cottage industry where there was enough of everything for everyone to succeed. If you were doing well, that worked fine. In an era of constrained capital, the competition for deals increasing, competition for talent increasing. You need strategy, just like in any other maturing industry. You better have a way that you're competing that's different and sustainable compared to your competitors or you're going to find life difficult. So we do a lot of firm strategy, organizational and operational consulting now for investors themselves for GPs and LPs. That didn't exist before 2010. Post COVID, it's accelerating even more, especially with the current situation and volatility in the markets. Specifically talking about the due diligence product. It's developed in waves.

• 13:42Speaker 02

  We had this initial outside in view, which was extremely analog. I mean, we're talking about 1995 here. The internet's barely in anybody's consciousness. We're doing lots of phone calls. We're looking up things in books and printed reports, trying to do some things in a few weeks where today it would seem absurd to think that you were actually doing that. And then, of course, the internet became popularized and we had all of this information at our fingertips. And we thought, oh my gosh, we can do a tremendous amount more. I call that diligence wave two dot O of technology disruption. Then we had wave three dot O of technology disruption, which were specialized data and tools that became available to us like credit card payment information.

• 14:21Speaker 02

  And would you like to know what everybody spends then on the your credit cards on certain fast foods and where they're going to? And I can do things now without even doing customer surveys to tell you where share shifts are going and where people are spending their money and how much and what customer loyalty looks like in different businesses. We came into the world of specialized tools and specialized data sets. You can do automated scrapes of LinkedIn and Glassdoor to figure out how employees are feeling about companies and how one competitor's sales force is organized compared to another competitor. That was wave three dot O, which is new, different types of information that we never had access to before that we could look at and further evaluate a business for acquisition. Now we're entering diligence technology.

• 15:01Speaker 02

  Technology stage four dot O, which of course is Gen AI and AI being able to create entirely new data sets and ways of looking in the world that were impossible. One example of that, that's a new tool. We are at Bain, the single largest firm that does expert interviews in different industries. So we call up experts when we're doing a due diligence and we interview them. We ask them about competitors. We ask them where the industry is headed. We ask them what's going to happen, et cetera. Well, we do more of those interviews than any firm in the world. What we thought was, why don't we transcribe all of those interviews? So we have every single word, compile them all over time, and then ask Gen AI to summarize for us what's going on in an industry from all of the thousands and thousands of interviews that we're doing globally.

• 15:46Speaker 02

  You can get a three bullet point summary, a three page summary or a 30 page summary. This would have been impossible two years ago. Well, with Gen AI now we can, and that becomes a huge proprietary database and you can search it over time. If you're talking to the same person three years later, you can figure out how their opinion has changed over time. You can just do all kinds of things in analysis with a data set that you could have compiled, but you can't do anything with it without Gen AI on top of it. We're at the very beginning stages of that four dot O due diligence evolution, but it's clear that there's going to be a huge and deeper change in what we're able to do because of it. So I've been fascinated looking over the decades, sitting there doing analog scratches on pieces of paper to now using AI to analyze things

• 16:28Speaker 02

  and how our ability to answer questions more accurately and answer questions we couldn't even answer 10 years ago, 20 years ago, 30 years ago, has really evolved the sophistication of what we're able to do for clients.

• 16:41Ted Seides?

  In that diligence part of your practice, what's the breadth in terms of the number of deals that you're working on with clients a year?

• 16:49Speaker 02

  If you're talking about deals that get done, deals that are thought of that don't get done, investment ideas that are looked at and then discarded after a few weeks. It's a big number. There are some clients that hire us when they know they're in the final stages of doing a deal and they really need to decide. There are some folks that have a retainer team of Bain consultants 365 days a year and every investment idea that comes in the door. They want us to look at whether it's for an hour or a day or a week or several weeks. When you add that all up, it's probably four to 5,000 different investment opportunities every single year that we look at. And that ranges from give me your best shot at it in an hour with an expert to let's do the whole four weeks of due diligence.

• 17:29Ted Seides?

  So you have the diligence part. And if you broke apart how private equity deals get done, there's sourcing and then value creation at the other side. How have you worked with clients on the sourcing piece?

• 17:42Speaker 02

  The sourcing piece is one of the more interesting evolutionary areas of buyouts in particular. The old school way of sourcing was we have 500 or 1,000 confidential information memorandums or SIMs come in the door every single year. And then a firm would typically sort through them, figure out which ones they're most interested in. And through pipeline management, they would winnow down that to the two or three or four deals that they were going to really do during the course of the year. So it's what comes in the door, sort through the thousand, we want to do these three, we do these three. The world is specialized and even hyper specialized to the extent that the notion of doing that has become very, very antiquated.

• 18:21Speaker 02

  Because people are now organizing firms, funds and talent around things like subsector expertise, not just sector expertise. We do healthcare, but we do healthcare IT and within healthcare IT, it's these areas of software and not those areas of software. So the world has become very, very specialized and therefore the knowledge development and the requirements to bid and underwrite something. The bar is going up over time. And if you're the one that knows the least at the table, that's always the worst place to be, whether you win or whether you lose. Investors are finding that as they focus in on ever more narrow subsectors and different types of investment theses within those subsectors, that they're looking at a narrower universe of deals that they want to do.

• 19:01Speaker 02

  The aperture is closing, so the notion of getting a thousand random things in the door and picking from that in that type of world is nonsensical. So what folks are doing now is they're building their own sourcing pipeline. If I'm investing in software and there are 50 different subsectors in software and I invest in eight of them, I want to know what property. That are in my check size range in those eight sectors might come to market over the course of the next three to four years and understand a lot about them before they come to market. I'm now proactively building a pipeline of opportunities so that when things do come for sale, if they do come for sale, I'm ready to move quickly because that speed to insight is my advantage. It's a very competitive world. Deals are going to be intermediated. There are going to be other buyers out there.

• 19:46Speaker 02

  The quicker I'm confident that I want an asset, I'm able to pay the right price for it and close. The more likely I am to win that asset. In that kind of a world, the proaction, building a sourcing capability is really important. And that's also one area where we're seeing technology playing an increasing role. We're seeing algorithms and we're seeing AI swimming through data lakes to try and find and proactively identify companies that have the characteristics that investors want to buy. I'm racking and stacking these things and then being able to proactively reach out and maybe meet management, maybe go to industry conferences and find these sorts of people that are running these businesses so that I really have my own robust pipeline. I wouldn't say the industry is fully moved in that direction yet, but it's clearly the direction of travel and many firms have.

• 20:31Ted Seides?

  And how about the other side? How do you work with clients on their value creation strategies once they have bought a business?

• 20:38Speaker 02

  The first thing we try to do on the value creation side is make sure that the beginning of that is at the diligence stage. Because you're underwriting something, I've always believed that you need to know the three or four things that you really want to have happen to create the value at the outset of the deal. Thirty years ago, you didn't really need to do that. When you're paying five or six times EBITDA for an asset, you could put some leverage on it. And as long as the asset did pretty well, you could cash out and make a lot of money. Now that the average multiple is 12, not five or six, that margin for error is gone. We're kind of starting from scratch and saying, we need to figure out how to make these numbers because we're probably going to have to make a competitive multiple bid off those numbers to win the asset.

• 21:19Speaker 02

  And if nobody understands how we're going to get there, we need to, in the diligence, begin to flesh out what are the opportunities for this business that are really grounded in data? And what are the three or four big things we think we need to? To do in order to win over time. So one of them might be for a consumer product, I need to figure out how to sell at a profit online because I'm not online right now. That involves a whole number of large things to do, but if I don't do that and online is growing as a share of the business, I'm not going to be able to make my revenue numbers and I need to do that at a cost level. That's actually going to mean my EBITDA is going up the way I want to. It may mean that I've got a supply chain in the wrong place and I need to reorganize it in order to put it in the right place for my cost and my resiliency. That has a lot of steps in it, but I need to do that in order to succeed.

• 22:05Speaker 02

  And it may mean that I need to gain market share with my customers and my diligence tells me that I can gain market share with my customers if I do the following three or four things well. So it might be three big initiatives like that that we would lay out in diligence and say, if we do these three things, we'll make a really attractive return on this investment, but that's going to take a lot of planning. That's the kind of head start that when we then jump into the value creation post close, we have a hypothesis of where we're going. It's these three things we of course have to introduce in partnership with management. What do you think of these three things versus all the growth agenda that's on your table? Let's debate that. Let's agree what the important things are. That's always a really valuable interaction because we always learn about something, you know,

• 22:48Speaker 02

  until you get the keys to the company quote unquote, you really don't know everything as much as we try to know everything we possibly can from the outside in, you just can't. You always learn things, sometimes things you don't want to know. You want to know them, but they're not positive. And sometimes things that are actually really, really exciting that you just couldn't have gotten to from the outside in diligence. That gets put on the agenda saying, you know what? It's not three things that are going to make this happen. It's four. I didn't realize that opportunity number four actually existed until we got inside of the business and started talking to management. But now we set an agenda and really build a value creation plan around these four big initiatives that we're going to do. And then we build our cadence, our plans, our timelines of investments, who does what, measuring success around those three to five things.

• 23:33Speaker 02

  And make sure that in every interaction we're talking, are we on schedule? Is this happening? Do we need to pivot? And that becomes the basis and kind of the map for the ownership period of the business is achieving that plan.

• 23:45Ted Seides?

  You mentioned you also work on the LP side. I'm curious how that come about and what type of work you do with LPs in the space.

• 23:53Speaker 02

  It's really interesting how that came about. We had never really done that much work with limited partners, episodic work. I got a call one day. Out of the blue, somebody knew somebody at Bain who said, do you guys know anything about investing in private equity? And somehow the call got routed through to me. And I wound up talking to someone from a large sovereign wealth fund in the Middle East. We had never worked for the sovereign wealth fund before and thought, great, this is an opportunity to potentially work for a very sophisticated, large investor on that side of the coin that we've never really mined before. I thought to myself, we have to play to win because some of our competitors had entire practice areas that were working for institutional investors and sources of capital, and we had yet to really enter into

• 24:36Speaker 02

  that game. The first thing I did was I called up all of the senior people I could think of from around the world. I called in people from Singapore, from London, from New York. We descended on the Middle East in the GCC en masse, and we spent about three months prepping for this bake-off in the industry against all of our competitors because we really wanted to win the work. We stepped up on the day we were fortunate to carry the day and win the work. And that began a 15-year wonderful relationship with a large sovereign wealth fund that was really the anchor client in us building out the LP side of our business. We were fortunate that not many people start with the largest, most sophisticated investor in the world. So it wasn't like we started with a very small

• 25:18Speaker 02

  LP and moved up. We started with, in some ways, the biggest challenge possible first. And then that allowed us that experience over time to work with a variety of other investors in other spaces. The LP world is very diverse. We started out at the sovereign wealth fund level, but that's gone all the way down to family offices and pension funds and insurance companies and banks, endowments, all the different types of institutions that invest in the private equity world we have now worked with. And the interesting way that we're organized that I think clients appreciate is that we use the same group of people to work for both GPs and LPs. So clients know that the team that's working for them can see both sides of the coin. They understand what's important to a certain

• 26:02Speaker 02

  set of LPs, and they understand what's important to GPs. We're able to integrate those two sides of the coin to get a win-win. You can't have a win-lose transaction. Action in the LPGP relationship. It's a relationship that's supposed to last over time and stand the test of time in an industry where it takes a decade or two to know what the heck's going on and how things are going in terms of results and how we're really dealing with one another. When you think of it as a relationship, it behooves everyone to understand the motivations, the needs and the strategy of the other parties so that you're able to actually try and fit what you're doing into that context.

• 26:38Ted Seides?

  What is it that you do with the LPs?

• 26:42Speaker 02

  LP work is actually very similar to GP work. They need an overall strategy. Where do you want to be in five years? What's your ambition? Typically, there's obviously a level of financial return that's involved in that. There's an asset mix, a desire that's involved in that. There are organizational issues that are involved in that. Some of these organizations are quite different. LPs are quite different from one another. The question would be typically asked, they can see many and oftentimes their cash flows out into the future in terms of the cash that will be coming in, the checks that they need to write, if they need to write checks and they'll say, well, we're a 200 billion AUM organization today and seven years will be 500 billion. How do we organize for that? What does that mean? What do our departments look like? What does our decision making structure look like? What do we need to do to manage risk better?

• 27:26Speaker 02

  There are organizational pieces of work that we do. There are operational pieces of work that we do. How do we think about one asset class versus another or within an asset class? What does investing excellence look like from the LP side of the coin? So how should I think about positions in different GPs? And how should I think about co-investment? And how should I think about strategic partnerships with GPs if I want to be doing that? What's the universe of things that are out there? And what does that imply I need to be doing as an LP to be a good partner for my GPs? There's two sides of the coin. Everybody thinks about the GPs go and they get money from the LPs. So they need to come and be good and give the LPs things that they want. Well, that's absolutely true.

• 28:06Speaker 02

  But on the flip side, if the LP is asking for co-investment and the GP is providing it and saying, I've just got this deal. Here's co-investment for you. I need an answer in a week. And you're an LP and you say, my investment committee meets once a month. It's next three weeks. That's not good. Partnership back to the GP. So we need to try to work with the LPs to say, this is how this is going to work from the other side of the coin on the GP side. And therefore, if you'd like to have co-invest, you need to be set up to be able to respond when it actually comes in the door and be able to do it in a way that makes sense to the GP. There are a lot of different things we do for the LP world. It starts with strategy, but definitely goes to operations and organizational work as well.

• 28:46Ted Seides?

  So you are sitting on top of so many relationships on really every side of the industry. I know you try to bring it together in an annual report and then a mid-year update. How did that report first come about?

• 28:59Speaker 02

  That report, I think we've done it 16 years now or something like that, came about. I remember this very, very clearly because I was very irritated, which was part of why it came about. We used to read in the media that one of our competitors would potentially partner with some academic institution somewhere and they would come out with some article that would be printed about private equity and what was going on in the world. And most of the time I thought it was wrong. We kept seeing it episodically again and again, and it just became like this little annoyance that there were things out there that were being put out into the public domain that were just incorrect about the private equity industry. And finally, if you have said, we do more of this work than anyone. We know what's going on better than anyone. We need to correct this issue.

• 29:42Speaker 02

  And it wasn't, let's go do an article and put it in the Wall Street Journal or Financial Times because that's forgotten in two days. So we wanted to create something that was more lasting. And we thought, what if we do an annual report? What if we try and get the actual facts of what's happening in the private equity industry? That's a very hard thing to do because there's no one source of information that will tell you everything when it takes years and years to really understand whether investments are paying out or not. You can spin things in many different ways and it is hard to get to the truth. I used to say tongue in cheek, there are lies, damn lies, statistics, and then there are facts about the private equity industry right over here on the edge. So step one was, let's see if we can correct some of the factual errors and say,

• 30:24Speaker 02

  this is what's going on in the industry. And then also in the annual report, talk about some of the major trends that we see or something that's hot. It could have been a geography. It could have been a subsector. It could have been a style of investing, something that's going on that we think people should know about because we see enough of it to know that it's a trend. And then we spend a little bit of time in the report talking about what we see is potentially happening in the future. So a little bit of cloudy crystal ball gazing about where things may be headed in the industry. It wound up being extremely successful, well beyond what we actually ever had thought it was going to be. That's the origin story.

• 31:01Ted Seides?

  I'd love to dive into what you're seeing now.

• 31:04Speaker 02

  I think we are at an inflection point in the private equity industry. At a macro level, we see continued penetration of private assets. One of my friends said it very well. With the public markets, you've got 90% of the world's money chasing 10% of the world's investment opportunities. The private markets are the opposite. We have 10% of the money chasing 90% of the world's investment opportunities. There's going to be a rebalancing of that over time, which means that the private markets are going to be supersized. Against that backdrop, if you look at something like private equity, we do have some temporal things going on that are setting the stage for an inflection point that will really separate those that thrive in the future and those that are going to struggle or not be here in the future.

• 31:46Speaker 02

  The best context I can set Ted is that we went through this period of about a decade where we had a zero central bank interest rate structure in the US and Europe for most of that time. That was the anomaly. People kind of got used to it as normal because it lasted for over a decade, but we had a wonderful capital cycle of people investing and interest rates being low and GDP growth being positive and compounding and multiples just going up and up and up. So I could buy something and four years later sell it for a higher multiple and the world was great and raising money was pretty good off the back of that. And the industry made great returns. In the last five years, we've seen the opposite of that. We've seen a whole bunch of 12 to 18 month periods of

• 32:29Speaker 02

  Chaos, if you will, starting with COVID in 2020, then moving on to unprecedented inflation for the industry. That led to unprecedented rapid rises in interest rates for the industry. And now we're dealing with tariffs and policy that are roiling the markets over time. There's been every year practically since 2020, an industry freak out of, oh, my gosh, let's look at the portfolio again. Here's something else we haven't seen. What do we do? How do we do it? And what that period of anomalous zero interest rates and then these periodic upheavals have masked is the continued maturation of the industry over time. Now we're pulling our heads up and looking at a world where we've got very high prices because things are expensive and there are lots of dollars chasing the same investment opportunities.

• 33:13Speaker 02

  We've got costs that are increasing for GPs because you need to find new sources of capital and compete harder for the capital that's out there with traditional institutions. Everybody has recognized now that half of the world's wealth is with individuals and those individuals have almost no exposure to private asset classes and private equity would like to go and get that, especially in an environment where institutional sources of capital are pretty tight right now. All of that upheaval has caused a great difficulty in the industry being able to exit the investments that they have. So the liquidity issues for traditional LPs are real and the competition for that money is extremely intense.

• 33:53Speaker 02

  So there's a big push into private wealth because folks like you and me are not necessarily investing in the industry the way that institutions are and GPs have woken up to that. They're saying that's where the exposure is. That's where trillions of dollars are. I need to be better at that. Well, that costs money. I'm going to have to have more people on my payroll chasing small checks than I am chasing very large checks from large institutional investors. It's just a fact. Also, the cost of getting the subsector expertise that we're talking about is going up. I've got to be sharper at what I'm doing, my investment theses, my subsectors, how I'm doing it in a more competitive world. My cost for value creation is going up. I've got to continue to develop and maintain an ecosystem for adding value. I don't know any GPs that are saying my costs are going down. So prices are high, GP costs are going up. Also.

• 34:39Speaker 02

  Fees per dollar of AUM have been going down. Folks will say, well, no, the numbers on the books that I see are pretty much the same as they were five or seven years ago. Yeah, that might be true, but this thing called co-invest. Fifteen years ago, co-invest was a hobby. Some people asked for it, some people didn't, some people didn't care. Now co-investment is about thirty to forty cents of every dollar that's invested in the industry. Depending upon the GP, there are some GPs whose dollar of fees per dollar of AUM have gone down by fifty percent over the last decade because of co-invest. Then there's some folks that write very large checks, which they know are in short supply. They don't want to pay the number on the book, and they're not. You've got an industry that has got high prices, which means the margin for error is low in generating returns.

• 35:22Speaker 02

  You've got increasing costs, you've got pressure on fees. That implies to me, you better be ready to succeed and have a strategy going forward for the next five or 10 years, because these forces aren't going away. The industry is maturing, the competition is intensifying for the people, the deals, the sources of capital. So what's your plan? Are you going to be an alpha generator? Do you have a differentiated way of doing things that you could build moats around that other people are not going to be able to penetrate? And do you feel confident about that? Great, then you can build a plan going to try and do that. Are you going to be a scale player? Are you going to be a consolidator? Are you going to buy up other GPs because you're public? And you realize that in the public world, your growth in fee-bearing AUM is what the markets are looking at, and you need to do that organically and inorganically.

• 36:07Speaker 02

  So bigger is better, and you want to be the consolidator in the market. Or are you somewhere in the middle? And you've realized that your highest and best strategy might be to be part of someone else's story. Should you consider selling to somebody else who's going to be bigger over time? I'm simplifying, but some mix of alpha generation, scale, et cetera, is becoming more and more important in the industry. And if you don't know how you play and how that's relevant, it's going to be really hard to raise the right amount of capital to do what you want to do, to get your deals that should be your deals, and to get talent excited about working for you. The interesting thing about those three things, Ted, is that if you fail at one of them, you fail at all of them.

• 36:48Ted Seides?

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• 37:26Speaker 03

  This is not an offer to sell or investment advice. Investing involves risk, including the loss of capital.

• 37:31Ted Seides?

  And now, back to the show.

• 37:35Ted Seides?

  I'd love to dive into some of these topics, and the one, certainly in the institutional market, you hear the most about now is this liquidity bottleneck. What is the data telling you about where we are and where we might be going from here?

• 37:48Speaker 02

  It's scary. It's sounding the alarm on this. I'm very surprised that there's not more discussion going on about how serious a situation this is. Last year, the distribution to the private equity LPs as a percentage of their net asset value was 11%. Historically, this number is between 20% to 30%, which matches up with a four-year cash recycling cycle. Well, 11% is more like 10 years, and no LP has a model that says, I'm getting my money back in 10 years. The last time that number was 11% was 2008. 2008, we were entering the worst recession for 75 years. We're not even in a recession, and we're hitting a number that is correlating to the worst recession in 75 years.

• 38:33Speaker 02

  To make matters more challenging, the number that I just threw out at you, 11% for 2024, in 2023, that number was 12%. It wasn't much better in terms of liquidity a year earlier. The number the year before that, in 2022, was 15%, which again, is not much better. And everybody was thinking, oh, boy, 2025 is finally going to be the year of lots of liquidity coming back. Investment banks were telling us- Our pipelines were full, GPs were optimistic. We were at incredible levels of activity in January. And then this word tariff started to come out in February. And that caused a tremendous amount of uncertainty and the deal markets have slowed and gotten slower and slower since then.

• 39:14Speaker 02

  Right now, we're kind of at a pause and people are saying, oh, my gosh, are we going to have four years in a row of horrible distribution? By the way, we've never seen four years of these types of returns per net asset value dollar for LPs. So this is an unprecedented liquidity squeeze in the industry. And last year already, we saw a 25% decline in fundraising for buyouts as a result. This year, we're seeing a continuation of that. There was no fund in the buyout world in the first quarter that closed that was above $5 billion, which is the first time I can remember that happening in quite a period of time. This liquidity issue is in many ways unprecedented. In many ways, it's not fully appreciated because we're not in some global recession. There aren't things that are fundamentally broken in the global economy.

• 39:58Speaker 02

  So it's shocking that we're in a situation that's as serious as this is. And to give you a sense of the magnitude of the situation and what it's going to take to solve it. There are about 30,000 companies right now that are being held globally in buyout portfolios worth about $3.6 trillion. And about half of those companies have been held for at least five years. Five years of sell time in the private equity world. We're talking about 15,000 companies and $1.8 trillion worth of value that LPs are expecting to see back really, really soon. For comparison, the entire TEV of the global buyout world last year was 600 billion. So that's three years of pretty healthy deal making, just to clear that if that was all that you ever did.

• 40:42Speaker 02

  And of course, that's not all of what we're going to do. So we're talking about a five plus year problem as the GFC was in order to process all of this liquidity. This is not going to go away in 2025 or 2026. It's going to be continued pressure on the institutional LPs for liquidity over the course of the next several years. And I have no doubt, having been in the industry for 30 years and having the calls that the private equity business is over again and again and again, be wrong, that the resilience See of this industry is going to come through in the end and that life will be fine. But the magnitude of this challenge is underappreciated because it's we're not in some other larger crisis that causes you to focus on it.

• 41:18Ted Seides?

  As you look at that from a GP lens and the different avenues they have to sell businesses IPO strategic sponsor to sponsor. What's preventing this volume of the last few years from accelerating? We can take out the tariffs and uncertainty.

• 41:35Speaker 02

  There's a couple of things doing that. One of them is mindset. It's important to understand that. One thing that many GPs learned coming out of the GFC is that if you just held on to a business long enough, life would be fine and you'd be able to sell it for the number that you wanted to sell it for. And that was true. There was a lot of concern. Maybe we're not going to make money on these businesses and we should just give the keys to the banks. But the GPs that held on to the assets for as long as they needed to, five years, six years, seven years, found that when the economy ameliorated, when interest rates ameliorated, they could sell and earn a reasonable return. When you thought you were going to lose your money, if you get a 10 or 12% IRR on it, that's actually a home run. So the mentality of the entire industry is let's just hold it until we get it fixed and it's right.

• 42:18Speaker 02

  That can be great for any individual firm, but when the entire industry does it, it causes a massive liquidity crisis. And that's what we're seeing right now. The LP community is getting louder and louder with a voice saying, we don't care about maximum return. We don't want a fourth year of high illiquidity in this asset class because remember there's still a trillion dollars of dry powder out there for buyouts, which means if the GP picks up the phone and says, I need your check. The LPs are writing the check and yet they haven't seen much money back in the last four or five years. That's a real crisis. The LP community is saying, we'd like to see the cash come back, even if it's at a lower return than you know you can get in three to four years. There's a fascinating dialogue going on right now.

• 42:59Speaker 02

  And we're starting to see for the first time, things being sold at numbers that are probably below the targets where the GPs wanted to sell the asset at because they know at some point in time, they're going to be back out on the road, raising their flagship buyout fund. And if they haven't returned capital in a whole bunch of years, it's going to be tough to do that from the same. LPs and you've got another effect that makes it difficult to raise money, which is that if I haven't been writing you lots of checks for the last three or four years, and we've been through the COVID bump and the inflation thing and all these other things. If I'm an LP and I'm looking at your marks, how do I know those marks are accurate? How do I know you can sell that business for that? We've been through a whole bunch of things and I know you think it's worth X and I know you think you'll make it right and you'll sell it for that in the future,

• 43:43Speaker 02

  but I don't really know what that's worth. So if you're up raising a new fund and you haven't been returning a lot of capital to your LPs, there are a lot of challenges out there.

• 43:51Ted Seides?

  When you look at the different exit avenues or the IPO market hasn't been around for a long time en masse. Strategics have tremendous uncertainty in the economic environment. You're left with this sponsor to sponsor activity. If you're a GP looking to buy a business, you're a GP looking to sell a business. There's this feeling of a gap in the bid ask spread. How is that playing out in the deals that are getting done?

• 44:16Speaker 02

  It's playing out in a lot of different ways. The sponsor to sponsor activity was up in 2024. I take that as a good sign. The bid ask spread problems are getting a little better, meaning interest rates have come down a bit. We've had two years of non recessionary GDP growth. That means EBITDA has gone up a little bit and the more of those things kind of happen, the less the spread is an issue. We've also seen that deals that are faster growing companies where debt has been less of a percentage of the capital structure. So a lot of fast growing businesses may only have 30% debt on the capital structure and 70% equity. So the bid ask spread issue is less of an issue. Some of those software businesses that are doing really well are able to trade at good amounts. Some things in healthcare that are growing really rapidly are able to trade.

• 45:00Speaker 02

  So if you have less debt in your capital structure, it's easier to get a deal done. Two years down the road from when interest rates really spiked up over those 18 months by 500 basis points. But it's in those kinds of industries where people have comfort that we're not going to see a recession that will impact it or we're not going to see macro issues that will be a problem. And we're seeing the kind of balance sheet EBITDA growth movement that will allow us to refinance a deal and make the numbers work for the seller and the buyer. Now, we're also seeing all other kinds of creative activity. We're seeing continuation vehicles in the secondary markets. We're seeing partial stake sales, which LPs like very much because it means the original GP is keeping substantial skin in the game

• 45:40Speaker 02

  while monetizing part of the investment, but not all of the investment over time. So if I can't exit fully because I don't have the right balance sheet, EBITDA growth mix, then I'm trying to figure out, can I exit partially or in a different way that will actually make LPs happy? I've spoken to a lot of LP groups over the course of the year. If I'm in person, I do show hands polls and if I do webinars, I'm doing digital polls and two thirds of the hands that go up in the air or votes to get clicked are always, we want to see more 100% cash outs. So the LP world says, I love all the creative stuff you're doing, but just give me the check back with the return because that provides certainty for the LP.

• 46:20Ted Seides?

  To the extent that the thread through that is businesses that are doing well are the ones that get sold or have a partial sale. What does that leave behind in the portfolios of both the GPs and ultimately the LPs?

• 46:34Speaker 02

  That's the big question everybody's asking. What we know is that the average GP has twice as many businesses in their portfolio than they had 10 years ago. That's a lot of companies to look after. GPs are not house flippers. Companies are organic things that need to actually be tended and they need to be pivoted, reprogrammed, or some other ways improved in order to get on an exit path. That can take 12 months to 24 months. If you need to really repivot something or rapidly accelerate performance, that takes planning, that can take investment, that can take time. There are lots and lots of companies out there that are doing buildups. Buildups are, I started with a platform and I added one or two companies to it, or I added 22 companies to it. I added some number of companies to it over time and then I'm going to sell it. Imagine you were a GP that was halfway done

• 47:20Speaker 02

  with your buildup when 2022 and 2023 happened and interest rates went up 500 basis points over 18 months. Well, that there's a lot of stalled buildups out there with those kind of doubling of the interest rates. Now I don't have 5% debt, I have 10% debt that I'm trying to put on it. My buildup doesn't work at 10% debt. That wasn't the model. So what does one do with a halfway done leverage buildup in order to create value if I can't do the rest of the buildup part of it? There's questions like that that are the big ones. So you have to think, okay, I have a valuable asset here. I can't go with plan A, but I need a plan B or a plan C. And so what is plan B and what is plan C, which may be completely different than plan A? And then have time to execute on that, show traction, show real results and give people

• 48:05Speaker 02

  confidence that it's worth a certain multiple upon exit. With some of these assets, it will take time if they require a substantial repivot in order to get them into a position where they can be liquidated at an attractive rate of return.

• 48:17Ted Seides?

  When you look retrospectively, you have this environment of low interest rates, increasing multiples and good returns for all private equity. Without the likelihood of multiple expansion, you've got higher cost of debt. How does the historical experience inform what might need to happen on operational improvements so that private equity can drive returns in the future?

• 48:41Speaker 02

  The data is really, really clear on this. If you look at the last 14 years of realized returns, roughly speaking, 50% of the returns of buyouts have been due to revenue growth. 50% has been due to multiple expansion, largely owing to the low interest rate structure that we were talking about, and zero has been from margin improvement. For a dinosaur like me that's been kicking around this industry for over 30 years, having 0% of the value creation on average come from margin expansion is unthinkable. This entire industry was founded on buying unloved industrial businesses, fixing them up, getting them to run more effectively, and then selling a better business for a better price. That's the history and the DNA of the buyout industry.

• 49:25Speaker 02

  We had this anomalous 10-year span where I really didn't have to do that because I had this zero central bank interest rate, constant GDP growth environment that was creating multiple expansion, along with the fact that the industry fell in love with underwriting growthier assets, fast-growing software businesses, fast-growing healthcare businesses, and multiples went up and up and up over time. I don't think we're in that environment anymore. There's certainly in some cases, opportunities for multiples to go up with certain assets. But I don't think the industry can bet that the amount of value that was due to multiple expansion in the next 10 years is going to look like it did the last 14 years.

• 50:03Speaker 02

  Therefore, what do I do about that? Well, I still need my revenue growth. That's good, but that margin expansion on average cannot be zero going forward if we want to have attractive returns. I mean, margin expansion in both senses. One is, yes, there's still value investing and there's room to take out costs for businesses that are bloated and that need to be streamlined and made more efficient. But with all of these fast growing businesses, whether we're talking about software, healthcare, IT, or fintech, whatever you're betting on that's growing fast, we need to get real operating leverage. All the cash flow can't go into customer acquisition and customer success or wherever it's been going. That's caused a lot of these businesses that have grown real fast to not grow margins or even have margins shrink over time.

• 50:44Speaker 02

  So getting back to and learning how to make margin expansion really a part of the value addition equation is going to be the critical acid test, I think, for this industry. To continue to generate really attractive returns going forward because you only got two controllable levers, one's revenue and one's margin expansion. The multiple is going to be what it's going to be over time. And most firms that I know don't model in big multiple expansion as a way to success because you just can't control that.

• 51:11Ted Seides?

  If you look at some of the types of deals that you would think would lend themselves to that operational improvement, more value buys than growth buys, carve outs, things like that. What's the history shown of the success of those types of deals over the last decade?

• 51:26Speaker 02

  Over the last decade, the data is not as good as it was in the decades before. Part of that is the competition for a lot of these deals has gone up over time. So carve outs is a good example. The average carve out prior to about 2012 was a two X deal because the industry had figured out that on love businesses that weren't part of somebody else's core, but were good businesses in and of themselves could be invested in and you could get revenue growth, margin expansion and multiple expansion on the back end of the deal. The problem is when everybody. Figures that out and everybody starts looking for carve outs, then the prices go up and a lot of that you have to pay for before you even get the asset. Now, in the last decade or so, the average carve outs earning more like one and a half times and trailing the rest of the industry.

• 52:11Speaker 02

  It used to be the best source of deals in terms of value. Now it's one of the more challenging sources, simply because it's known as a source and you have to pay for some of that. I also think that this question of really generating operating leverage for growing assets is a big challenge as well. You can see that the asset's going to grow. You can see that you need to invest for that growth, but how to really create operating leverage while you're doing that is not something that a large part of the industry is familiar with as an investment thesis. And it's relatively new. In the 1990s, if you said, hey, let's go get some software businesses and lever them up and that'll be a great way to do a buyout. People would have laughed at you. That was not the buyout industry and now it's the single biggest sector in all of buyouts. And some investors, of course, have figured this out.

• 52:55Speaker 02

  The rule of 40 is now the rule of 50, 60 or 70 for some folks that do it every day. But a lot of other folks have noticed these are attractive areas, but they haven't figured out how we actually do that and make sure that EBITDA goes up at a rate that is equal to or greater than revenue growth.

• 53:11Ted Seides?

  So much of what we're talking about are real challenges going forward. And then there's this fundraising trend of all this money of wealth that's going to come in. How is that balanced between the institutions that are not piling money back into private, they're already there. And then you have this interest in wealth. How do you see that playing out?

• 53:33Speaker 02

  I think the answer Ted is yes, we do see that money coming at speed because individuals would like to have access to private markets. And why is that? We've learned over the last 15 or 17 years, taking the United States as an example, that the number of public issuances is less than half of what it was in the early 2000s. And a few tech stocks tend to dominate how the market performs. That could be a wonderful thing because those tech stocks have done great, but at some point individuals say, well, I have enough of that exposure to Nvidia. What else have you got? And their advisors are telling them, you need to diversify. You need to diversify away from these few stocks and these few areas that are actually providing a lot of fuel for your portfolio growth,

• 54:17Speaker 02

  but you need other things in there to be more diversified and safe in case something happens. That's private assets. So advisors are recommending it. Individuals want it. It is the great whiteboard of capital that's out there. So GPs want it because others are liquidity constrained right now. Traditional asset managers want it. If you're a Vanguard or a Fidelity or a BlackRock and you're selling ETFs at 10 basis points, that's what you're charging for them. How'd you like to sell some private product at 100 basis points or 200 basis points or 300 basis points? Or pick your price. They're pretty interested in that as well. Everybody in the industry wants this to happen. In my experience, when everybody wants something to happen, it's going to happen. The question is just how rapidly is it going to happen and what kind of an impact is it going to have? I mentioned half the world's wealth is in private capital.

• 55:00Speaker 02

  If you just assume five or 10% on average of somebody's portfolio is in private assets, that's trillions of dollars. That's doubling the private asset industry. So you don't have to believe that you and I as individuals are going to have half of our net worth into the private markets to believe it's going to have a huge effect. It's just a question of how rapidly are the right products going to be made available and distributed? And how rapidly are people going to be educated about these types of opportunities? We run surveys every single year of ultra-high net worth individuals and we ask them, can you name three respected private asset managers for us? And the number one answer every single year is I don't know.

• 55:42Speaker 02

  As long as that is true, we do have an educational hurdle to get over before people are going to be piling into a lot of private assets. But I think like everything else, the industry will get over this issue. There are some institutions that are big enough to build their own brands and they are building brands right now. There are other institutions where the brand is already well-known. I mentioned the BlackRocks, the Fidelities, the Vanguard's of the world. A lot of people know those brands and if they start selling private product and start educating people that for your 401K, you should have a little bit of an allocation into private equity, then that's going to work. That's going to be their task to do, but the brand is known at least of the intermediary that's providing the access. And so it'll happen and it's happening much faster than I would have predicted two or three years ago.

• 56:24Speaker 02

  So I do think that we're going to see private wealth at scale in private markets very, very quickly.

• 56:29Ted Seides?

  As you look at the industry landscape as a whole, who do you see as the winners and losers going forward?

• 56:36Speaker 02

  That is one of the hardest questions to answer. My friend Jim Colter over at TPG said that the private equity industry is like a Rube Goldberg machine. And for those of you that didn't waste your childhood watching Three Stooges shorts like I did, a Rube Goldberg machine, it's a massively complicated machine that actually does something very simple. So it could go through three rooms of different mechanical things that all happen and bump against one another and then it puts the lever on the toaster down and the toast goes down at the end. And he said, the private equity industry is a Rube Goldberg machine because what we do is incredibly simple. We buy companies, we make them more valuable, we sell companies at a profit. And yet, all the subscription documents and K1s and reporting and all of the hoopla around

• 57:19Speaker 02

  it is incredibly complicated to work through. And that was all fine when it was a cottage industry in the 1990s and it was a few folks with LLC agreements buying a few companies. Now that private equity is a $5 trillion global industry, it's not fine anymore. And this is part of the change that's going to have to happen for individuals to invest, for the industry to continue to grow, is that we need to streamline the machine, use technology, get it into the 21st century, and that is happening. So who's going to win in that environment? To me, really comes down to a couple of things. It's number one, you got to recognize this is what's happening, whether you like it or not. Number two, you're going to have to have the scale in order to participate in this because it means as a GP, you're going to have to invest in technology, you're going to have

• 58:04Speaker 02

  to invest in private wealth and retail capital, you're going to have to invest in new processes that are going to be different than they were in the past. Or you need to be specialized enough that you're an alpha generator that people feel like they have to have because you know how to do things that other people don't know how to do as well as you and you can repeatedly do them and you've proven it and therefore you're the shiny thing in the window and there's always going to be appetite for that to juice alpha and juice returns over time. The challenge is going to come for folks that are trapped in the middle. If you've done really well, but you don't quite have that size to make the investments required to be part of the dismantling of the Rube Goldberg machine and you don't have the alpha generation capability to be able to deliver outsized returns going forward.

• 58:46Speaker 02

  Are you going to be able to find enough support and access to things like the private wealth channel or other channels where the bar is going up? The other correlation to this is that institutional investors that are part of this liquidity squeeze that we've been discussing, they're going to continue to write checks and invest in private equity, but it's going to be much more of a zero sum game. If I'm going to get an allocation from a certain LP, somebody else is probably going to lose their allocation from that LP. So the bar on commercial excellence and relationships and making sure customer success actually happens is going to go up for those institutional investors and that adds more costs. So if you're not quite big enough to be able to do that and do it well, and you're not quite differentiated enough to create alpha reliably in an LP's mind, it's going to be hard to see how those folks win.

• 59:31Ted Seides?

  There are only a few firms today that are large enough to be the likely scale players. What are the elements of strategy that you tell someone who may not clearly know exactly where they fit in and are worried that they might not be one of the winners?

• 59:48Speaker 02

  It really starts with your DNA. How have you been so successful over time? What is it when you're at your best that you do that has uniquely driven your success? Coming out of a world where we had these very attractive structural economics of the industry where everybody could earn a lot of money as long as you were doing smart deals over time and getting into a much more intensely competitive world, you need to sharply distinguish and specifically articulate what it is that you do well. There needs to be a there there, which for most firms that have been around for a while, there's a there there. That's why they've been for a while, but what is it? Can you write it down on a piece of paper? Because you're going to need to explain it with a much higher degree of specificity than

• 1:00:30Speaker 02

  you have in the past, and you're probably going to have to invest your resources even more in making sure you continue to do that well at a very, very high level and that you don't do certain other things that you may not be as good at, that you may have sort of diverged into over time. It's not that a lot of these firms that are good, that they can't reach areas like private wealth unless they have hundreds of people out there. Yes, it does cost more money, but if I have relationships with private wealth managers, with traditional asset managers, with investment advisors, there are ways to go to market that are actually not all that expensive, that don't require hundreds of people. But what I tell clients is if you're a mid-sized firm and you're not thinking about this now, then a lot of the choices may be taken away from you in three to five years because you're not planning out where you proactively want to go.

• 1:01:16Ted Seides?

  On the other side, if you're an institutional LP that is down the middle, meaning they have a relatively mature portfolio, they have some of the similar liquidity issues than others, how do you advise LPs to think about their strategy going forward?

• 1:01:30Speaker 02

  LPs are on the other side of the coin, obviously, and they need to think about having more structured conversations with their GP partners. It's a relationship. Many of these relationships between GPs and LPs have been around for decades. It's a different type of conversation. The conversation begins with, "Talk to me about your portfolio. Talk to me about your liquidity plan for the next three years." Typically, many GPs, they sell something when the MD that led the deal said, "We're ready to sell. Let's go." I don't want to have that conversation. I want to have the conversation around, "Show me your whole portfolio. Let's talk about the next three years. When do you expect things to go? Why? And at what sort of level of return? So I can help with my cash flow planning. Let's have a structured conversation about the entire plan for that."

• 1:02:15Speaker 02

  That's something that happened in 2008, 2009, when too many people were thinking that the private equity portfolios were all going to go bust. I don't think anybody's worried about that, but people are worried about, "When am I going to get my money back? So let's talk about a three-year window, and you take me through the whole portfolio is discussion one. Discussion two is how prepared are you for the future? On the LP side, the world is changing. We've talked about a lot of those elements that are going to change in the future. So you, Mr. GP, I want to have a conversation with you about your strategy and why you're going to be a winner five to seven years from now. Tell me about how you anticipate your fee income changing over time, given these things like co-invest in the market and where you're sourcing capital.

• 1:02:55Speaker 02

  And tell me your plan for sourcing retail capital, because as an institution, I want to know that I'm still important to you over time. How much retail capital are you going to raise? What are your costs doing? What are your fee-related earnings going to be? How many LPs have ever asked a GP what their P and L looks like? Yeah, the public ones have to report it every quarter. 99% of the industry never has to report it. That's a conversation that never happens, and LPs need to start having this conversation. So the work we're doing with LPs right now is helping them prepare for the next five years and figure out what their liquidity issues are going to be by talking to their GP partners and just having conversations they haven't had before.

• 1:03:32Ted Seides?

  As you look out at your business in the practice area, how are you thinking about how that'll evolve over the next several years?

• 1:03:40Speaker 02

  As I mentioned earlier, Ted, we think there is almost an inexorable movement toward more money pouring into private asset classes. So we will continue to broaden our business. When we first started, we literally just looked at buyouts and private equity. And now there is venture capital, growth capital, all different kinds of flavors of ice cream and private equity that didn't exist. Back in the 1990s, we have private credit that's six X the size it was 15 years ago that we now work in. Infrastructure, real estate, there are many, many different private asset classes that we now spend our time working in with GPs and LPs that are growing and getting supersized that were just not as growthy when we first started the business.

• 1:04:21Speaker 02

  So for our practice, it's doing a lot more things with a lot more people, which drives a lot more questions around strategy. And for our own business and how to do that, we're in the physician heal by self mode, which is AI is changing the world. We know that's going to happen. That's going to happen in consulting too. So what do our set of solutions need to look like for our clients to make sure that we get them speed to insight on the front end as fast as humanly possible or machine aided humanly possible? And how fast do we get speed to value once they actually own something? This whole discussion of AI, it does remind me of the personal computer industry.

• 1:04:59Speaker 02

  I think that the full impact of AI is going to take a lot longer than most people think from just reading the newspaper or consuming media. But I do think that ultimately it will be much more deeply transformative to every business in the future than now. And what I think back to is my days as a college sophomore when the Macintosh computer was invented, which was 1984. Every student was required to buy a Macintosh. And so the computer revolution was here. We're all going to have a personal computer. We're all sitting in our dorm rooms that were wired into the computer center and we played games on it most of the time. We wrote papers on it and we played games on it because there weren't many apps for the computer back then. There were not even hard drives back then for the computer. And so for about 10 years,

• 1:05:41Speaker 02

  Years, there was a huge hype over PCs in everybody's house. But if it's a glorified typewriter, there's not that much that people were going to do with it at home because there was no app for that. And in the 1980s and even 1994, 10 years in, there was still a question of, I thought this was going to transform the world and it's really hasn't. Then, of course, the internet came along and became popularized two to three years after that, and things really started to take off. But my point is, we're now at the iPhone, and the iPhone has changed everybody's life in incredibly dramatic ways that no one would ever have thought of in 1984, looking at that Macintosh computer. The Mac took a long period of time, or the PC, to actually do what it was supposed to do because it lacked apps.

• 1:06:23Speaker 02

  But the Mac has kind of morphed into the iPhone in most people's lives. And I think AI is on the same kind of trajectory. It's gonna take a while to get going. We're in the experimental phase, whether it's consulting or some other business. But boy, when it gets going, I don't know what the iPhone equivalent is going to be in every industry, but it's coming. It's probably going to be a lot deeper impact than we see.

• 1:06:42Ted Seides?

  Hugh, I want to make sure I get a chance to ask you a couple of closing questions. What is your favorite hobby or activity outside of work and family?

• 1:06:50Speaker 02

  Boy, there are a lot of hobbies and activities that I have. I'll pick out one. I am a longtime frustrated gardener. I relocated years ago from Massachusetts, where it's very easy to be incredibly frustrated as a gardener, to Florida. And so instead of just failing at tomatoes, cucumbers and zucchini, I can now fail at mangoes and avocados and grapefruits and bananas as well. I do enjoy getting out and getting my hands dirty and doing something just completely different and digging in the dirt and trying to grow things. And sometimes it works and sometimes it doesn't. But as gardeners, we try to hide our mistakes and then celebrate our victories. So I try to cover up the mistakes as quickly as possible.

• 1:07:27Ted Seides?

  What was your first paid job and what did you learn from it?

• 1:07:30Speaker 02

  My first paid job was back in 1981 as a sophomore in high school. And I worked after school for a few hours a day at a women's clothing store after it closed. I vacuumed things and I cleaned the bathroom and I painted the bathroom and I cleaned things up. The most important thing I learned from it was I got fired from that job. I got fired because I didn't turn up one day and I don't remember why I had something else to do that sophomores have in their minds. And I was thinking, oh, a couple of hours, I'll vacuum the floors tomorrow, it'll be fine. And I went in the next day and guess what? There was somebody else standing there that had my job. And I was fired after when I learned the value of you had better turn up because jobs are important to people and you'd better do them well.

• 1:08:15Speaker 02

  And you'd better get your mind in a different place because you think you're just cleaning up for $3 an hour. And that's a critical activity for someone who's trying to make their store attractive and trying to make their business attractive to their customers. It's a little bit of a painful lesson. It was a required kick in the pants for a 16 year old, but I never forgot that.

• 1:08:31Ted Seides?

  How's your life turned out differently from how you expected it to?

• 1:08:35Speaker 02

  My life in many ways has been way better than I would have expected it to. I was a daydreamer in college, so I kind of hoped it was going to be a good life. But the advice that I give a lot of young people as I reflect on my own life is that pretty much 90% of the specific things that have happened in my life, I could never have planned for. I kind of had a macro journey in place. I wanted to go to college, get a job, thought I wanted to go to business school, get married, have kids. That's a very generic description of my life. I did all of those things, but all the specifics around those, I had absolutely no idea. So I had no idea I was going to go to the schools I went to. I had no idea I was going to work at a place like Bain. I had no idea I was going to be at the same company for 30 years. I had no idea I was going to meet my wife. I had no idea.

• 1:09:19Speaker 02

  I tell people, be open to opportunity because there's more opportunity in your life that's going to come your way for specific decisions than you could possibly plan. No matter how stressed out you are and you think you're a planner, there is no way you're going to be able to predict the specifics of what's going to happen and where. And you might miss some of the best opportunities if you try to organize your life that way. So I try to be open to possibility because I've learned that whether I'm open to it or not, things are going to probably churn out a little bit differently specifically than I had planned in the beginning.

• 1:09:50Ted Seides?

  What's a mystery that you wonder about?

• 1:09:53Speaker 02

  A mystery that I wonder about a lot is the origins of the universe. I'm kind of a faith, family and football guy, but I do a lot of reading about faith, about the origins of the universe, about the origins of us as a species. I'm interested in how man came to be, how faith plays into that, what it should mean for me every single day, and I try to learn about that. I read about it, I study it, I try to model my life after what I think I should be doing. And I find that that's a journey that I picked up when my kids were born. I'm trying to really understand the world that I'm in and what I'm supposed to do in a way that I hadn't spent a lot of time doing earlier in my life. And I find it challenging, intimidating and rewarding all at the same time.

• 1:10:38Ted Seides?

  What have you discovered from that exploration?

• 1:10:40Speaker 02

  I've discovered that it's a much deeper pool than I ever thought it was. And once you jump in with both feet, there are more and more things to learn than I had ever imagined. The cartoons of how things have come to be that I learned as a child are actually not cartoons. They're very deep ideas and very deep philosophies that very smart people have studied and learned a lot more about than I ever will. And so I'm trying to play catch up and pay attention and figure out what that means that I'm supposed to do in my own life going forward.

• 1:11:09Ted Seides?

  Last one, if the next five years are a chapter in your life, what's that chapter about?

• 1:11:14Speaker 02

  I hope it's about successful transition. I am a dad of four kids. I have one that's in college. I have two more that will be going to college during the next five years. I have one that will shortly go to college after five years. And so we will become empty nesters during that point. I am not sure how my work life is going to evolve during that point in time. These markets are so different. I'm trying to think about, well, what do I want to spend my time doing over the course of the next five years? And I'm 60 years old. I still have a lot of appetite to be busy and doing work, but exactly what I do in my day to day life is sort of a question mark with trying to successfully marshal kids off to schools and make sure that they're launching their own lives, which will be

• 1:11:56Speaker 02

  90% uncertain, which I'm telling them to, and to plan everything out in advance. I think the next five years, if I had the chapter, it would be entitled, Open to Possibility Amidst Transition. That's too long, but we'll call it that anyway.

• 1:12:08Ted Seides?

  Hugh, thanks so much for sharing your keen and deep insights on this space.

• 1:12:12Speaker 02

  Ted, I really appreciate the opportunity to be on your show. It's a great show. Longtime listener and thank you.

• 1:12:19Ted Seides?

  Thanks for listening to the show. To learn more, hop on our website at capitalallocators.com, where you can join our mailing list, access past shows, learn about our gatherings, and sign up for premium content, including podcast transcripts, my investment portfolio, and a lot more. Have a good one, and see you next time.