Apollo cuts fees on fund extension after LP pushback

Apollo Global Management reached a compromise with the limited partner advisory committee on its 2013 vintage private equity fund after pushback from LPs on its extension proposal, sources told Buyouts.

Life extensions are a routine occurrence in private equity as funds contractually obligated to end after 10 years usually come with some form of built-in extensions. Generally GPs look to attach management fees to the extension period, which can then lead to negotiations with LPs who would prefer the funds wind down during their contractual lives.

In today’s tougher fundraising environment, LPs have become more vocal and aggressive pushing back on terms and other aspects of the industry they feel create misalignment with their GPs.

“This is a low-cost option for LPs, it’s not a profitable option for GPs. They have the chance to maximize carry, that’s fine, LPs are happy to give you the time, but you’re not getting the fees,” said an LP familiar with the situation.

Apollo closed its eighth fund on $17.5 billion in 2014, though the total commitment amount was $18.3 billion, according to the firm’s third quarter earnings report.

The firm charged a 1.5 percent management fee on Fund VIII during the investment period (which stepped down for larger commitments). That fee dropped to 0.75 percent of investments after the investment period, according to the Fund VIII LPA.

Apollo last year informed LPs that its eighth fund was moving into its extension period. Initially, the firm said the fees would remain the same as they had been during the harvest period. Fund VIII was generating a net internal rate of return of roughly 10 percent as of October, according to the third-quarter earnings report.

Fund VIII included an up to two-year extension with LPAC consent after its 10-year term, the Fund VIII LPA said. The pool had about $5.6 billion of unrealized value as of the fall, according to Apollo’s third-quarter earnings report.

What had been an informational call with the LPAC turned into a negotiation after LPs pushed back on continuing to pay the fee during the extension period, sources said.

The two sides eventually came to agreement on the fees, which would be set for the first extension year at half of what was being charged during the harvest period. The firm would charge no fee on the second extension year, sources told Buyouts.

Extension mechanics differ among funds – some are built into limited partner agreements as automatic extensions requiring only LP disclosure; others are built-in but require LPAC consent. And fee levels on extension periods also differ – some are set in LPAs while others require negotiations.

And even extension-fee levels pre-determined in fund contracts end up becoming subject to negotiation years later when LPs choose to push back on what they had previously agreed to, according to an LP who has been part of such negotiations.

“The GP says, ‘you’re re-trading’; we say, fair enough, the market’s changed. It wasn’t on our radar 10 years ago, but we make amendments to the LPA all the time, and this is where the market is,” the LP said.

Institutional Limited Partners Association best practices recommend funds come with extensions in one-year increments, limited to a maximum of two extensions. The extensions should only be triggered after approval from the LPAC and then a supermajority of the fund’s LP base.

“Absent LP consent following expiration of the fund term, the GP should fully liquidate the fund within a one-year period,” according to ILPA’s best practices.

ILPA also recommends that no fees be charged during the extension period. If a fee is necessary to incentivize the GP to wind down remaining assets, “the GP should seek an amendment to the LPA to allow such a fee. Any fee agreed during a fund term extension should take into account the lower expense burden during extension, notably where a GP has raised successor funds.”

“It’s hard to say what is market – somewhere between a one- and two-year automatic or GP discretionary extension is somewhat normal,” said Brian Forman, partner and chair of investment funds and advisers at Morrison Cohen.

“You might see any sort of combination of a GP discretionary-plus advisory committee approval, you might see one-year automatic extension at the GP discretion plus another year with advisory committee consent.”