A recent survey of UK-Based GPs indicated that a growing number of LPs are pressuring GPs to increase their personal commitment totals in their new funds.
The survey included managers from the lower and upper ends of the market, but does not attribute the results to a specific investor size. That said, the average size of personal investment (£200,000; $316,000) seems most in line with traditional personal investment amounts found in the lower to mid-market.
Given the current economic environment, many Partners are facing a personal liquidity crunch and may not have the required cash readily available. Many specialty finance shops, including Investec, have experienced significant increases in demand from GPs, who seek financing to meet personal commitment requirements.
But what is truly going on with this?
The real question is whether fund performance will increase proportionally with the increased personal investment – or if it will increase at all. In other words, if LPs demand a 10% increase in GP’s personal commitments to a fund, will this translate to a 10% increase in fund performance (as measured by IRRs and multiples)? If this is the case, then likely we’ll see GPs rushing to invest more in their own funds.
Conversely, what if GP’s increased “skin in the game” makes them more risk averse in devising and executing growth strategies at their portfolio companies, given that they have significant personal wealth at stake.
The most successful General Partners have demonstrated a clear core competency around driving growth and creating value through operational improvements and M&A. Will additional “skin in the game” detract from the GP’s core competency? Possibly.
If requiring GPs to have more skin in the game makes them more risk averse in their strategies, then LP demands for increased personal commitment may not be in the best interest of fund performance, economic growth, and LP portfolio returns. Clearly, there is a delicate balancing act between having “enough” skin in the game to align interests, versus “too much.” Are better aligned financial interest and increased performance mutually exclusive? Not necessarily.
Are GPs committing more of their personal money because they believe in the benefits of better aligned investment objectives — or is it merely a method of keeping their investors content?
Food for thought.
To be continued…
Posted by: Justin Marchi