Private Equity Fund - Legal Structure and Terms

Legal Structure and Terms

Most private equity funds are structured as limited partnerships and are governed by the terms set forth in the limited partnership agreement or LPA. Such funds have a general partner (GP), which raises capital from cash-rich institutional investors, such as pension plans, universities, insurance companies, foundations, endowments, and high net worth individuals, which invest as limited partners (LPs) in the fund. Among the terms set forth in the limited partnership agreement are the following:

Term of the partnership

The partnership is usually a fixed-life investment vehicle that is typically 10 years plus some number of extensions.

Management fees

An annual payment made by the investors in the fund to the fund's manager to pay for the private equity firm's investment operations (typically 1 to 2% of the committed capital of the fund.

Hurdle rate or preferred return

A minimum rate of return (e.g., 8–12%), which must be achieved before the fund manager can receive any carried interest payments.

Carried interest

A share of the profits of the fund's investments (typically up to 20%), paid to the private equity fund's management company as a performance incentive. The remaining 80% of the profits are paid to the fund's investors.

Transfer of an interest in the fund

Private equity funds are not intended to be transferred or traded; however, they can be transferred to another investor. Typically, such a transfer must receive the consent of and is at the discretion of the fund's manager.

Restrictions on the General Partner

The fund's manager has significant discretion to make investments and control the affairs of the fund. However, the LPA does have certain restrictions and controls and is often limited in the type, size, or geographic focus of investments permitted, and how long the manager is permitted to make new investments.