Governance
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standard practice in the PCF industry and is also recommended to SWFs by GAPP 18.2 of the Santiago Principles.47 For PCFs set up as GP/LP structures, the agreement is commonly known as a limited partnership agreement (LPA). This section refers primarily to LPAs, because GP/LP structures are the most common among funds that invest in unlisted securities (see table 4.7). LPAs must comply with the jurisdiction in which the partnership is formed and are often heavily negotiated. Table 4.7 lays out the typical terms of an LPA. An investor’s negotiating power is influenced by the size of its capital commitment. Likewise, public sponsors that are large capital providers to a SIF may have greater leverage during negotiation. Some investors—institutional ones in particular—may have detailed requirements on certain LPA terms. Some LPA clauses may reflect generally accepted market standards, from which reputable managers may be disinclined to deviate. Commercial investors in a mixed capital SIF may also prefer to adhere to market standards. TABLE 4.7
Typical terms of a limited partnership agreement
TERM
DESCRIPTION
Investment strategy
SIFs can opt to refer to the strategy detailed in the private placement memorandum, or also include detailed investment criteria in the LPA.
Investment restrictions The LPA includes express limits to the investments the fund may make, mirroring or expanding on those contained in the private placement memorandum. In addition to the limits (discussed in chapter 5 in the sections on risk management), the LPA may expressly forbid, for example, hostile transactions, investments in other funds (unless the SIF operates as a fund of funds), borrowing above certain thresholds, foreign investments, investments in portfolio companies affiliated to fund executives, and investments in industries deemed unethical. Closing dates
These are dates by which the fund may accept additional investors (usually limited to one to two years after the initial capital injection, to allow the manager to subsequently focus on investing rather than fundraising).
Term
The term is the life span of the fund and allowance for (typically limited) extensions.
Early termination
The LPA may include events that trigger the early termination of the fund (or the curtailment of new investment), by decision of investors that own a specified proportion of the fund commitments. These can include the failure of named key principals (key persons) to remain involved in the fund’s management or the material breach of the LPA by the manager. Some funds also permit a no-fault divorce, subject to a prescribed financial settlement with the management team, if approved by a high proportion of the limited partners.
Noncompetition
The LPA may include a prohibition on the formation of similar competitor funds until the expiry of the investment period or investment of a high portion (for example, 75% of the capital commitments).
Indemnity
The LPA may indemnify or limit the liability of the general partner, the limited partners, the manager, the advisory committee, and each of their respective officers, employees, and agents. Exceptions are made in the case of a person who has acted in gross negligence or bad faith.
Transfers and withdrawals
The LPA may include restrictions to the transfer of limited partnership interests or withdrawals by limited partners.
Reporting
The LPA may include provisions on reporting of periodic financial, tax, and other information to investors.
Capital contributions
The LPA may specify size and timing of capital commitments to the fund, and provisions related to the drawdown of such commitments as the fund makes investments.
Distributions
The LPA may specify the timing and process through which a fund makes distributions to its investors and manager. So-called waterfall provisions discipline the sequencing of distributions to the limited partners and the fund management team, who are usually entitled to receive a share of the fund’s profits (so-called carried interest) above a stipulated threshold.
Management fees
The fund manager will usually be paid a management fee periodically (for example, quarterly in arrears), in addition to the payment of carried interest. The LPA will set the management fee as a percentage of capital committed (in private equity funds, the typical range is 1.5%–2.5%). Other fees may be envisaged, for instance, for the reimbursement of deal-specific expenses incurred by the manager.
Source: Wylie and Marrs 2018. Note: LPA = limited partnership agreement; SIF = strategic investment fund.
