Permira's escape clause

Global buyout firm Permira has thrown a lifeline to those limited partners in its €11.1 billion Fund IV who may be struggling with over-weighted private equity programmes and liquidity problems. Under a proposal sent to all limited partners in the fund, the London-based firm is allowing them to cap their original commitment to the fund at 60 percent.

The unusual measure is the first reported instance of a fund giving its LPs such an out. Under most limited partnership agreements, LPs who fail to honour capital calls can face draconian punishments, including the reduction of the LP's capital account, or even potentially legal action.

The terms of Permira's offer are not exactly easy to swallow, however. LPs who take the offer will have to accept a 25 percent reduction in distribution entitlements from the fund. They will also have to continue to pay management fees based on their original commitment.

The scenario calls to mind the months immediately after the tech bubble burst in 2000, when venture capital funds returned large amounts of capital to their investors, sometimes up to half of funds raised.

But Permira's actions aren't motivated by a lack of opportunities to deploy capital, but rather illiquidity in their investors' portfolios.

The firm has spoken to many investors in the fund and is expecting only a limited take-up of the offer, a Permira spokesman said. “The point of the proposal is to balance the interests of those investors who want to continue with their original exposure to the fund, and those who feel they must adjust their commitments,” he said.

Under the terms of the proposal, the maximum reduction of the fund size would be from €11.1 billion to €9.5 billion. Permira's fund – which when it closed in 2006 was the world's largest buyout fund ever raised – has already called 52 percent of LP commitments, according to a statement released by SVG Capital, the London-listed fund of funds that is Permira's largest investor.

SVG said its board is reviewing the Permira proposal. SVG has said publicly that LPs are challenged by a lack of liquidity when capital calls occur, with few incoming distributions to balance them.

Talk of limited partners struggling to service their commitments to private equity funds has been widespread in recent weeks. Many LPs are finding themselves scraping for cash, due to the denominator effect and the absence of exits and thus distributions. At the same time, GPs are finding plenty of assets at great prices to scoop up, and are asking for just as much if not more capital than they were this time last year.

Some large investors in private equity, like the California Public Employees' Retirement System, which committed $302.5 million to Permira IV, have admitted to discussing the timing of capital calls with their GPs. And other LPs are saying they would appreciate certain fund managers allowing them to reduce the size of their commitments. Almost 64 percent of LPs said they will look to access the secondary market to increase liquidity, according to a recent study by Coller Capital.

“The point of the proposal is to balance the interests of those investors who want to continue with their original exposure to the fund, and those who feel they must adjust their commitments”

Some LPs have problems beyond simple over-allocation, of course. Some of them played a leading role in the credit meltdown: according to a source in the fundraising market, executives with responsibility for the balance sheet commitments of Lehman Brothers have been contacting GPs to tell them the bankrupt investment bank will “struggle to meet its capital commitments”. Another source says that any fund with a commitment from a regional US bank is worried.

However, no other manager of a private equity mega-fund has yet announced any moves similar to Permira's. The Carlyle Group has written to investors urging them not to default on their commitments.