GPs to contribute more to their own funds

An informal survey taken at PEI Media's CFOs and COOs Forum in New York last week revealed GPs plan to contribute between 2% and 5% to their own funds going forward to better align interests with LPs.

General partners will be making contributions to their own funds of more than 2 percent but less than 5 percent, according to a recent audience poll, which would be a significant jump from the standard 1 percent GP contribution of past years.

Attendees at PEI Media's annual CFOs and COOs Forum in New York last week predicted GPs would be committing more capital than ever to their own funds, as a way to better align their interests with that of their limited partners.

An informal survey taken during the conference, which was attended by more than 340 GPs, LPs and other market participants, revealed some interesting perspectives.

According to the survey, 35 percent of the audience believed GPs would contribute more than 2 percent but less than 5 percent to their own funds; 28 percent predicted the GP commitment would come in at more than 1 percent but less than 2 percent; 21 percent said GP commitments would be less than 1 percent and 16 percent of those surveyed said contributions would be more than 5 percent.

One point of concern among panelists was the practice by some GPs of funding the contribution using capital from the fund, and then discounting the management fee for LPs.

GP contributions to their own funds are a way to show LPs that managers have “skin in the game” and their capital is at risk right alongside the LPs, one panelist at the conference said. Funding the GP contribution with LP capital, and simply discounting the management fee, lessens the significance of the gesture, the panelist said.

Another informal poll at the conference last week showed that a majority of participants believe management fee offsets will be the most negotiated term in their next fundraising.

GPs generally use some percentage of the fees they charge portfolio companies to pay down the management fee. The amount of the deal fee GPs use to discount the management fee for LPs has grown from about 50 percent, to 80 percent, to 100 percent, which is slowly becoming more accepted, sources have told PEO in prior interviews.

According to the survey, 54 percent of respondents said the deal fee offsets will be the most negotiated term in the next fundraising, while 23 percent said the “waterfall” distribution structure/clawbacks would be the most popular term. About 19 percent said issues related to reporting/transparency would be heavily discussed in the next fundraise, and 4 percent said the GP commitment would be the term of the day.

On the subject of fees, panelists discussed the idea, endorsed by ILPA, of using model budgets to determine the exact amount of the management fee. Under this model, an LP would be able to see exactly what the management fee will fund, including salaries and the cost of running the business.

The idea of a budget-based management fee has been around for years, but has never gained traction in the industry. Some venture firms did use the budget-based structure, sources have said.

One panelist said LPs simply don't have the time to scrutinse GP budgets, but can generally get a sense of the fairness of the management fee through due diligence.