When I was a first year analyst in banking, one of our 1st year associates had gone to b-school after being an analyst for 3 years in our group, then came back to the group. When I asked a VP why anyone would make such a decision (especially when A2A promotes were commonplace), he replied that the private equity job market was simply too competitive to get hired directly out of b-school because of all the people with banking AND private equity experience, and no other job paid as well as banking.
If the associate was going to return to banking anyways, why not go back to a group where there was a reputation established. Made sense to me.
That same logic applies to why you'd take a drop back from a 3rd year, to a 1st year post-MBA at any decently large fund. As a 3rd year associate out of business school, you have 2 full years of banking under your belt - not too shabby.
If you are competing for a 3rd year, post-MBA associate job at a private equity fund, you are competing with people who oftentimes have 2-3 years as an IBD analyst, 2 years as a pre-MBA associate, 2 years of b-school, and 2 years as an post-MBA associate.
There's absolutely no contest.
On top of that, in banking, the associate is just an extension of an analyst for much of their formative years (since most of them have no prior banking experience). You're just a paper processor for much of your early years.
By the time you start in your first year as a post-MBA PE associate, you will have had 4 years of experience plus B-school.
Exit options: Consulting vs Investmentbanking
Post-MBA's at PE funds are expected to basically run autonomously when it comes to doing transactions, with somewhat minimal supervision by VPs/Principles, Directors and Partners.
Some of your responsibilities include negotiating credit agreements, corralling your herd of consultants, bankers, counsel, accountants, etc., diving into due diligence...and that's all on top of the actual financial work (i.e. the model).
Associates at investment banks just can't do that job day one. To expect a 3rd year associate at an IBD to be able to do what a 3rd year post-MBA can do is just unfair.
EDIT: Not to mention that your compensation as a 1st year post-MBA at a place like KKR would be very comparable to a 3rd year IBD associate.