LPs gain ground in battle for deal fees

While the standard ‘2 and 20’ fee model is seeing only marginal movement in recent buyout funds, managers are conceding more ground on transaction fees, according to fund data seen by sister site PEM.

Limited partners have won most concessions from fund managers on transaction and monitoring fees, according to law firm SJ Berwin’s in-house database of funds seen by sister site PEM.

It’s difficult for most funds in the mid and lower mid-market  to cut significantly below 2 percent as these charges keep the lights on and are used to retain and recruit talent

Nigel van Zyl

The data suggests the LP community has made deal fees an important battleground during negotiations post-crisis.

The percentage of GPs providing 100 percent of deal fees to the benefit of the fund – in accordance with guidelines published by the Institutional Limited Partner Association (ILPA) – has risen for the fourth consecutive year to 58 percent. This compares with 45 percent of funds in 2009, 38 percent of funds in 2008 and 30 percent of funds in 2007.

Funds north of €750 million are most likely to concede 100 percent of deal fees to investors, according to the research. “This is because smaller funds are more reliant on these streams of revenue for operational expenses,” said Nigel van Zyl, a partner in SJ Berwin’s private funds practice.

In contrast, the traditional “2 and 20” fee model providing buyout funds two percent in management fees and 20 percent in carried interest has shown no fundamental change this year. Only funds with more than €1 billion in assets strayed far from the 2 percent benchmark, with most hovering between a 1.6 to 1.8 management charge in the past few years.

“It’s difficult for most funds in the mid and lower mid-market  to cut significantly below 2 percent as these charges keep the lights on and are used to retain and recruit talent,” said van Zyl. “Instead GPs and investors are negotiating around the periphery where there’s more flexibility.”

Accordingly investors' next important battleground is becoming termination rights, said Dermot Crean, a managing partner with Acanthus Advisers, a placement agent. “LPs want new protections after experiencing everything going wrong during the downturn.”

LPs are making the argument that in the event an investment period is terminated the GPs’ carry should be diluted, said Crean. “For instance, if there is a no-fault divorce half way during the investment period, they believe that only half of the carry due should vest. This has always been a no-go area as it is by definition a no-fault situation.”

More than three-quarters (78 percent) of funds do not allow a “no-fault suspension” of the fund’s investment period, according to the SJ Berwin data. ILPA calls for a no-fault termination of the investment period if two-thirds of the funds’ investors vote to do so.

The key terms and conditions of buyout funds is a growing debate in the industry. In this month’s Private Equity Manager monthly we take an exclusive look at research which will examine arguments on both ends of the negotiating table.