How Seed Investors Actually Evaluate Emerging Managers

A seed investor is not buying your best trade idea. They are buying a business that should still be standing in five years, with a revenue stream they can eventually exit.

That reframe explains most of the questions in a diligence meeting. There is little published data on seeders specifically, so this piece leans on the best available proxy: a 2021 CAIA survey of how allocators diligence managers in general, which the authors then applied to emerging managers. Seeders are allocators with a longer lockup, so the priorities carry over, though the weights may not match exactly.

What the survey says they look at

The CAIA survey covered 344 CAIA members: 111 asset managers and 233 institutional investors. A few findings are worth knowing before a first meeting.

• Track record length matters, but not alone. 93 percent rated it at least somewhat important in quantitative analysis. That "at least somewhat" is doing work: it is a threshold, not the whole decision.
• Organization is scrutinized. 50 percent of investors rated organizational structure very or extremely important, and 95 percent called organizational controls at least somewhat important in operational due diligence.
• Operations can end a deal after the investment case is won. 39 percent said they were likely or very likely not to invest in a fund that had passed investment due diligence if there were concerns about its operational processes.
• Size is not the point. Only 28 percent of investors called a manager's AUM very or extremely influential.
• Emerging managers get more scrutiny. Nearly 90 percent said emerging managers need more intense due diligence.

Asked what disqualifies a manager, respondents ranked returns, risk, compliance, experience and operational risk at the top. Three of those five have nothing to do with how good the strategy is.

The four things on the checklist

Track record

The hardest one for a first-time manager, because it is the thing they have least of. What tends to help when the record is short: a verifiable, audited record from a prior seat, even a sleeve of a larger book; clean attribution showing the returns were yours; and a believable account of why the strategy works in your own firm. A great strategy with murky attribution is a harder conversation than a good one you can prove.

The team

Seeders back people and price key-person risk from the first meeting: who is irreplaceable, who is committed, and what happens to the fund if one person leaves. A soloist with no succession answer is a harder underwrite than a small team with clear roles, however talented the soloist.

Operations

This is the part managers most often underestimate, and the survey shows why it matters: operational concerns can stop an investment that has already passed investment due diligence. Administrator, auditor, prime broker, counsel, compliance, valuation policy, controls. None of it generates return. All of it decides whether an allocator can write the check without taking on headline risk.

Room to grow

A seeder is buying a share of future revenue, so they care whether the strategy can hold more money than it manages today. A strategy that tops out at, for example, $50 million is a smaller business to share in than one that can run $500 million. That is a question about capacity, not current size, which fits the survey's finding that AUM on its own carries limited weight.

What tends to get managers turned down

This list is our reading of how these processes go, not survey data, though it lines up with the disqualifiers above.

• A track record that cannot be verified. Returns that cannot be cleanly attributed or audited.
• Thin operations. No real service-provider lineup, vague compliance and valuation policies.
• Key-person risk with no answer. One person holds everything, with no plan for their absence.
• No room to grow. The strategy cannot scale into the seeder's economics.
• An unclear ask. No firm view on how much, on what terms, or why now.

Most of these can be worked on before a first meeting. Doing so does not guarantee a yes; it removes the easiest reasons for a no.

How long it takes, and where introductions come from

Slower than most managers would like. CAIA's authors describe allocator manager research generally as a process in which most investments are made after three to nine months (CAIA, February 2021). That describes manager selection broadly rather than seed deals specifically, but it is a sensible planning assumption. Referrals matter: nearly 75 percent of investors in the survey said referrals from other investors are a key source of new managers.

Frequently Asked Questions

How we know this

Sources

• Black, K. and Rzepczynski, M., The Art of Due Diligence, Part II: The Good News for Emerging Managers, CAIA (March 2, 2021): archived copy. Source for: survey sample; 93% track record; 50% organizational structure; 95% organizational controls; 39% operational veto; disqualifier ranking; 28% AUM; nearly 75% referrals; nearly 90% more intense due diligence.
• Black, K. and Rzepczynski, M., The Art of Due Diligence, Part I: The Story Beyond the Numbers, CAIA (February 25, 2021): archived copy. Source for: three- to nine-month manager research process.

A note on scope: this piece describes broad market practice as reported in third-party research. It is general information, not investment, legal or tax advice, and it does not describe terms offered by any specific investor, including Whitespace.

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