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Why LPs are walking away from fund negotiations

Private equity investors are paying more attention to the small print, and many are finding they are not happy with the terms on offer from fund managers.

One in five LPs frequently decline investing in a fund because of issues with proposed terms and conditions

• Transparency at fund level is an area where alignment can be improved, say LPs

The 2% and 20% performance fee model remains fairly static on average for buyout funds


Private equity investors are paying more attention to the small print, and many are finding they are not happy with the terms on offer from fund managers.

Eighty per cent of limited partners (LPs) have either “frequently” or “occasionally” decided not to invest in a fund due to the proposed terms and conditions on offer from GPs, according to the 2022 edition of Preqin’s annual Fund Terms Adviser report.

The report also highlights that – rather than objections to fee levels – transparency is of increasing concern to LPs, with 59% (up from 54% last year) indicating that this is an area where alignment could be improved.

The report findings draw on data from Preqin Pro and Freedom of Information requests, as well as Preqin’s H2 2022 Investor Outlook survey of more than 300 LPs globally.

Preqin analysts also found a decrease in concerns around performance fee issues over the past two years, suggesting that LPs are more comfortable that their interests are more closely aligned with those of GPs in this respect. The industry standard mean management fee during the investment period is trending below the old norm of 2.00% for recent private capital funds. Now, fees sit closer to 1.90% for buyout and growth funds, and substantially less for all other fund types, except venture capital (VC).

There has been little change in carried interest terms for most of the past decade, with 84% of funds of 2021/22 vintage charging industry-standard carry of 20%. Most funds across the private markets structure carried interest on a ‘whole fund’ basis, though here there is variation across asset classes and strategies. The majority (62%) of funds have a hurdle (that is, the level of return that must be achieved by the GP before they are able to claim performance fees) at the industry standard of 8%, found the report. The lack of substantial change to performance fee terms suggests market participants are content to leave the issue as it stands.


Key Takeaway: GPs | Transparency is a growing concern for LPs, and with performance under increasing pressure, closer scrutiny can be expected


 

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