Survey: LPs feel unprotected

Investors and fund managers are not seeing eye to eye on key fund governance issues according to a recent survey of industry professionals.

About half of the LP community thinks investor protection clauses are weak compared to only 2 percent of GPs, according to a survey by Acanthus Advisers. Furthermore a quarter of GPs rate these clauses as strong but only 3 percent of LPs agree.

“In general the most important clauses to LPs pertain to downside protection, such as key man and no fault divorce. These are being looked at much more closely than in the past and are under significantly more scrutiny from investors,” Acanthus Advisers’ Kanika Kumar told Private Equity International.

“They are being looked at to make sure they are well functioning and enforceable. A key man clause needs to capture the essence of the team, so not necessarily just the most senior but actually the key investment professionals involved in decision-making and fundamentally generating the returns.”

Kumar believes that the difference arises because of problems in the negotiation of terms. 

“The problem is that it’s very difficult for LPs to get consensus among them. Each LP has its own investment preferences and approach and so they don't essentially negotiate as a group, making it more difficult to get substantial concessions from GPs,” she said.

“We had some comments in the open-ended question section of our survey which indicated that many LPs really do feel that GPs are not transparent in the negotiation of terms. They believe some GPs may see granting concessions as a sign of weakness.”

The survey also highlights other GL/LP disconnections, including relating to communication. 

“What we have found over multiple years of our survey, and what we see in the market more broadly, is that there is a fundamental perception differential between what the GPs believe they are saying and what the LPs understand or read into that,”said Kumar.

However Kumar doesn’t see this as the fault of the GP entirely. “When you ask the questions and you get results like this it looks like the GP's fault, but it’s a two way street, so it’s crucial that the LPs are more challenging in getting to the bottom of a matter,” she said.

What would really help is if LPs themselves were more transparent with GPs as the dialogue is inherently bilateral

The study found that three-quarters of GPs classify communications regarding underperforming investments as good, compared to only a tenth of LPs that agree. A quarter of LPs classify such communications as poor.

“What would really help is if LPs themselves were more transparent with GPs as the dialogue is inherently bilateral. It is crucial that GPs’ communications cover all areas because ambiguity can breed misunderstanding.”

But Kumar does think that an increased effort from the GPs would help bridge the gap. “Some GPs tend to interact most with their LPs mainly when in fundraising, or in the lead up to fundraising, and that is a problem because it is not sufficient to get in touch regularly with your LPs only once every three to five years. It’s important that GPs are continuously in touch with their LPs, keeping them up to date and let them know exactly what is going on and how everything is going, both for good and bad news. It helps to let them know you have been doing all you can when things do go wrong.”