Most private funds are partnerships between limited partners, who commit capital and have limited liability and control, and a general partner, who manages the fund and earns fees and carried interest.
9 min read
The LP-GP structure is a trade of control for access and expertise, and I think LPs should treat it that way explicitly. Once committed, an LP has given up almost all say in how the money is used, so the entire decision is made at the point of choosing the manager and reading the agreement.
Most private equity and venture funds are structured as limited partnerships:
Role Provides Receives Controls Limited partner committed capital most of the profits very little General partner management, decisions, small capital fees and carried interest investment decisions
Limited partners include pension funds, endowments, foundations, insurance companies, sovereign funds, family offices, funds of funds and wealthy individuals. Their liability is generally limited to what they commit.
The general partner runs the fund: sourcing deals, deciding investments, supporting portfolio companies and managing exits. GPs usually commit some of their own money, often a small percentage of the fund.
The relationship is set out in a partnership agreement covering fees, carried interest, fund life, capital calls, key person provisions and reporting.
Because the split explains who bears which risks. LPs bear most of the financial risk and have little control; GPs make the decisions and are paid largely through fees and a share of profits.
It also matters when assessing whose interests a fund serves, and why terms such as GP commitment and key person clauses exist.
Educational, not personalised financial advice. Nothing in the Investor Academy is a recommendation to buy, sell or hold anything — what is right for you depends on your own circumstances and the rules where you live.
A 100,000,000 fund.
LPs commit 99,000,000 GP commits 1,000,000 (1%) Management fee 2% a year, paid by the fund Carried interest 20% of profits, to the GP
If the fund returns 250,000,000, profit is 150,000,000. The GP receives 30,000,000 in carry plus fees and the return on its own 1,000,000. LPs receive most of the remaining profit, having supplied 99% of the capital and made none of the investment decisions.
Assuming LPs have influence over investment decisions. In most funds they do not; their protection comes from the partnership agreement and from choosing managers carefully.
Understand who supplies capital and who decides.
Ask how much the managers personally invest.
Look for key person, removal and advisory committee provisions.
When considering investing in a private fund, or evaluating how a fund investing in a company is likely to behave.
Do not assume all funds use the same structure; some use companies, trusts or other vehicles depending on jurisdiction.
The Institutional Limited Partners Association publishes principles and model agreements describing terms LPs seek in private funds, including alignment of interest, governance and transparency provisions.
LP rights are largely what is written into the partnership agreement, which is why institutional investors publish guidance on it.
Create a free account to read the rest and apply it to your own investing.