Private Equity Funds
Closed End Investment Funds for Long-Term Strategies
What is a Private Equity Fund
Private equity funds are pooled investment vehicles that are typically made available only to
investors that meet the requirements applicable to “qualified purchasers” or “accredited investors.” Private equity funds are not public offerings and are likely exempt from registration with the SEC when formed properly. Private equity funds differ from typical hedge funds in that they are more likely to be formed as closed-end funds.
Most private equity, closed-end funds share the following characteristics:
(i) they invest primarily in illiquid securities or other assets pursuant to investment strategies with long-term investment horizons;
(ii) they are typically open to new investors for a limited period of time after the initial closing where they make capital commitments (commonly known as the commitment period - usually a period of 3 to 12 months);
(iii) capital commitments are part of the agreements investors make to commit to provide capital contributions when required by the fund during a period of time after the commitment period (commonly known as the investment period);
(iv) investors typically do not have the right to withdraw from the fund or otherwise require the fund to redeem their interests, and are likely locked in for the full term of the fund, which is generally 5 to 13 years (and can oftentimes be extended);
(v) investors typically receive distributions of cash or in-kind securities when the fund receives income from or sells or disposes of its investments;
(vi) the manager typically receives an annual management fee that is calculated as a percentage of the (1) capital commitments during the commitment period; (2) capital contributions during the investment period when the fund is making investments; and (3) all other unreturned contributed capital; and
(vii) the general partner typically receives a share of the net profits realized by fund investors upon the sale or other disposition of fund investments.
Private Equity Fund Structure
An efficient, well-designed private equity fund is typically structured to achieve maximum tax efficiencies for its investors. Generally, most private equity funds are set up as a Delaware limited partnership. The limited partnership will have a general partner, most likely to be set up as a limited liability company and a separate investment manager, also likely to be set up as an additional limited liability company. The general partner typically exercises full control over all of the activities of the fund, including management of the fund’s portfolio and business affairs, while the investment manager is typically responsible for raising capital and making recommendations on which assets to purchase and sell and when the fund ought to take such action. Hence the reason why the management fees and performance fees are split and paid to two separate entities; the performance fees are typically paid to the general partner and the management fees are paid to the investment manager. Private equity fund managers will typically enjoy greater fees and other benefits when the fund manager outperforms other, competing funds that invest in similar assets.