Any high octane General Partner of a portfolio company will tell you their fund functions much better when investing in the market and the numbers-driven acumen of a Fractional CFO.
As of December 31, 2019, the median deal size of later stage VC-backed companies worldwide amounted to 10.3 million U.S. dollars, compared to $5.9 million in 2012. Private equity also has a lot of skin in the game. In 2019, the total value of secret equity firm deals worldwide totaled just under 850 billion U.S. dollars across approximately 26.5 thousand sales.
With so much money at stake for investors and an eye to the most lucrative ROI possible, funds of all sizes look to the services of Fractional CFOs. There’s no better partner for a CEO who can then focus more on identifying opportunities to expand the portfolio and raise capital. At the same time, the chief financial officer conducts thorough due diligence to justify all decisions. You’re also far more likely to attract investors when you’re utilizing a financial strategy with a strong track record.
Navigating increasingly complex deal structures, providing strategic direction to portfolio companies, managing communications with Limited Partners and other stakeholders, and managing the increased regulatory push for more transparency all across the board are all within a CFO’s role, making them a necessity in any successful investment fund.
The Role of the CFO in Portfolio Companies
It can be easy to underestimate how many financial functions need to get accomplished and how little time a GP has to devote to them. Elizabeth Yin, a General Partner we featured in a previous blog on Micro-VC management, breaks down her weekly priorities such:
- 50% fundraising-related (preparation of materials, meeting potential future investors, networking, etc.)
- 20% marketing-related (content, speaking, etc.)
- 5% ops (legal, audit, accounting, deal docs, etc.)
- 15% looking at deals (talking with co-investors and referrers, emailing with founders, looking at decks, talking with founders)
- 10% working with portfolio companies
If you feel like 5% spent on operations is a bit conservative, you’re probably right. When you’re still bootstrapping, it might be enough to keep the books in line, but rapid growth funds need dedicated attention devoted to financial functions and regularly assessed financial planning.
Some of the many regular finance functions that need to be accomplished in a portfolio company include:
Maintaining portfolio valuation based on several moving parts
Projecting the value of illiquid, multi-year private company holdings
Tracking of limited partner ownership while managing ongoing capital calls
Allocating distributions for limited partners who were onboarded at different times
Calculating and deducting management fees
You are calculating profit share based on the value of holdings, exit proceeds, lock-ups, etc.
Managing due diligence of complex tax structure and preparation of tax records
Preparation of audits and quarterly/annual financial statements
Regular and transparent communication to all stakeholders
No small task. A CFO will perform or oversee those tasks and provide in-depth strategic direction in managing your portfolio and all business decisions. Their overall strategy will naturally differ when working with a venture capital firm or a private equity fund – a difference we discuss briefly below.
Strategic Portfolio Management For VC and PE
Naturally, the strategic financial direction in managing a venture capital fund vs. a private equity fund is quite a bit different. VC focuses entirely on high-growth potential startups early in their life cycle rather than mature companies. Private equity also tends to buy 100% ownership of a core group of investment companies, vs. Venture Capital’s 50% or less stake spread across a larger pool of companies.
Since the stake in private equity companies is higher, CFOs tend to take a more active role in managing portfolio companies’ finances. Since the end goal is to guide the fund towards a profitable exit within the defined timeline, the overall strategy will be less risk-averse and more predictable than a VC portfolio. The CFO should be well-versed in M&As, as well as corporate workouts, to excel in managing private equity.
On the other hand, venture capital involves a lot more risks in identifying the hot trend or business model, and equity is spread out across a wider breadth of companies. As a result, CFOs tend to be less high in managing financial statements’ financial statements in an advisory capacity, often sitting on the board of directors. They need to have a strong working relationship with various stakeholders, and be able t communicate successfully to help investment rounds.
Assist With Due Diligence and Valuations
Anyone who’s run due diligence on a potential investment knows that it’s not an exact science. Digging through ledgers and financial statements ought to be fairly straightforward – but that’s only if they’re well-maintained and up to date – which they rarely are. This means that the CFO also has to be able to do some financial sleuthing to really get to the nitty gritty of the risk involved in an investment. On top of that, they need to weigh various other factors that don’t have a price tag associated with them.
Some of the many factors CFO look into when performing due diligence include:
Strong Financials: Does the company already exhibit strong YoY growth and steady cash flow? How confident are they (and you) in their business projections?
Market Considerations: How in-demand are the company’s products or services? How big is the market size? And how large are both projected to be in the short and long term future?
Company Culture: Does the company have a well-defined vision and mission and employees at all levels that are committed to seeing it develop?
Competitive Advantage: Does the company’s business model offer a significant competitive edge over others in the same sector?
A CFO will help ensure that any acquisition you’re making will be a sound investment.
Benefit from the financial lessons we’ve learned from working with leading Silicon Valley VCs
Full-Time CFO vs. Part-Time Basis
While enjoying the services of a full-time CFO may be ideal, it may also not be financially feasible for up-and-coming funds. An Entrepreneur article, When to Outsource, outlines the potential cost-savings in comparing a full-time CFO salary to hiring an outsourced CFO:
“A full-time CFO with a base salary of $175,000, plus an additional 25 percent for taxes and benefits, would cost $218,750 per year, or $18,229 per month. But most small companies might only need a CFO’s services for one day per week, at an estimated [monthly] cost of $6,400–a 65 percent savings.”
Hiring fractional CFO services allows you to save money while still benefiting from the same expertise you would gain from hiring a full-time CFO. As they help your company grow, you can then scale up their involvement with your business as needed.
Looking For a Financial Partner?
Our Venture Capital and Private Equity leadership team has extensive knowledge of several industries’ financial considerations and has provided value to both early-stage and well-established VC and PE funds. Our consultants can provide you with all the strategic financial oversight and direction you need for a stable financial future so you can concentrate on building a successful portfolio of companies that generate a lucrative ROI.
Contact us for a free consultation, and we’ll outline how our services can help your business reach the next plateau of success.