The GP commitment went from perk to pain

MM&K director, Nigel Mills, explains how the ability to co-invest is no longer a beneficial part of the job but rather has become a burden.

Nigel Mills
Nigel Mills: ‘We are concerned that in some cases some investors are expecting, nay demanding, the management team co-invest more than they can sensibly afford’

Pre-2008, the ability of PE and VC investment professionals to co-invest into the funds they were managing was seen as an attractive perk of the job. It was their choice as to whether they did and how much they co-invested based on what they could afford.

Now, because LPs require the investment team to put their own money into the funds on the same terms as the LPs (other than in the sense that these co-investments typically are not subject to any performance fee and sometimes also management fee), it is seen no longer as a perk, but a pain.

In the 2019 MM&K-Holt PEI European PE & VC Compensation Survey, we found that the median level of GP commitment as a percentage of the fund was 1.8 percent, with the lower and upper quartile percentages being 1 and 2.5 percent. Even with the very healthy levels of compensation in the industry, this is still a hefty chunk.

We are concerned that in some cases some investors are expecting, nay demanding, the management team co-invest more than they can sensibly afford. Sadly, it appears the “box-ticking” approach by some investors in PE funds has become comparable to the approach adopted by some investors in listed companies. If they cannot tick the box, they have to put a “red-top” on that investment. The result in the PE, VC and infrastructure investment management world is that if the management team does not commit to co-investing 1 or 2 percent of their fund personally (even if they genuinely cannot afford to) then that investor will not invest in the vehicle. This makes it harder for a new, small, innovative team to raise a new fund. The other concern is that firms are structuring it so the requirement from each team member is pro rata to their carry percentage share. This is typically not a problem for the partners, but it can be an issue for managers and associates invited into the carry for the first time.

It is encouraging to see that, again from the 2019 survey, only 25 percent of firms base the individual GP commitment requirement pro rata to the carry participation levels. In 40 percent of cases, the GP commitment is distributed on a discretionary basis as agreed between the partners, and in 25 percent of cases it is based specifically on affordability. We are aware of a number of firms where the junior members of the team who have been awarded carry are not required to put up any of their own money; the partners between them do it all. This makes good sense and undoubtedly helps retain important rising stars in the business.

MM&K has launched its 25th annual Compensation Survey for the European Private Equity and Venture Capital Industry. If you believe your firm might like to participate, contact Nigel Mills: Tel: +44 20 7283 7200