Limited partners in private equity funds are gaining ground on terms related to management fees, profit distributions and governance, according to the latest edition of the Private Equity
Limited partners in private equity funds are gaining ground on terms related to management fees, profit distributions and governance, according to the latest edition of the Private Equity Partnership Terms & Conditions Report, published by Dow Jones’ Private Equity Analyst.
Despite a dramatically oversubscribed fund-raising environment, LPs are not willing to accept unfriendly investment terms as the price of doing business in the current climate, except perhaps from the very best firms, says the report, which draws on a survey of more than 140 US, European and Asia private equity firms that raised capital between 2004 and 2006.
It found that some private equity firms are drafting more LP-friendly terms in order to raise money in a reasonable amount of time and not prolong the fund-raising process through pointless battles with potential investors.
‘The demand to enter the private equity market would imply that general partners could employ a ‘take it or leave it’ approach for investors,’ says Jennifer Rossa, managing editor of Private Equity Analyst. ‘But contrary to popular opinion, LPs are not simply rolling over on terms in order to win access to these funds. Other issues are coming into play on the GPs’ side, such as wanting to recruit and retain top quality LPs.’
The report says the most important issues arising during negotiation of partnership agreements are management fees, the amount that LPs pay to GPs to cover the basic costs of running the funds, generally assessed as a percentage of the capital raised.
As funds have become bigger, LPs have raised concern about the growing size of those fees. The report found that while the vast majority of private equity funds are still charging a standard 2 per cent, about one-third of buyout funds are charging less than 2 per cent, an increase from the 24.4 per cent of buyout funds that reported doing so in the previous survey in 2005. Meanwhile only 9.2 per cent of buyout funds say they charge more than 2 per cent, down considerably from the 20.2 per cent two years ago.
The report also found that the transaction fees charged by private equity firms to the companies they buy are being distributed more to LPs. The 2005 report found that the majority of firms split the fees 50-50, but now nearly 64 per cent of firms report giving 80 per cent or more of this fee income to LPs.
In addition, corporate governance provisions that allow LPs to take action to shut down a collapsed fund for cause are increasingly being spelled out in specific terms, the report found, while key-person clauses, which list the people whose departures could cause a fund to be suspended, have become ubiquitous.
