Selected terms of recent megafunds

In the past two years, the number of megafunds raised has increase dramatically as the upper end of the buyouts market chases bigger and bigger deals. Fund sizes at this level are now at least two or three times higher than those of the predecessor fund. Law firm Debevoise & Plimpton reviewed some of the most significant business terms of megafunds raised by 16 of the industry’s best known US and European firms in its Winter/Spring 2007 private equity report. Highlights of their findings include:

Fund Size

  • US Funds Generally between US$8b and US$10b, with some larger than US$15bn.
  • European Funds Generally between €4bn and €5n, with some larger than €10bn.
  • Trend Fund sizes have increased dramatically.

Management Fees

  • US Funds

During Investment Period Blended rates are common, typically 1.5% per annum on commitments up to an amount between US$5bn and US$7.5bn, and 1% on the excess. Only one fund included in the sample had a base rate higher than 1.5% of commitments.

After Investment Period Generally 0.75% of invested capital. Three funds charge 1% (or more) of invested capital.

  • European Funds

During Investment Period Generally 1.5% of commitments, blended rates are less common.

After Investment Period Generally 1.25% to 1.5% of invested capital.

Trend The point at which the fee “breaks” (i.e., the number above which a lower fee percentage applies) is higher. For example, a common blended rate for predecessor funds was 1.5% on commitments up to US$3bn and 1% on the excess. As noted, European megafunds tend not to have blended management fee rates.

Transaction Fee Sharing

The transaction fee sharing provisions vary more than the other key economic terms examined.

  • Transaction fee offsets against management fees in the 65% to 80% range are most common. Three funds applied only 50% of deal fee income to reduce the management deal fee, while four funds shared 100% of fee income.

Broken Deal Expenses If the fund pays broken deal expenses, six funds offset 100% of deal fee income up to the amount of such expenses.

Other Thresholds A few funds offset a higher percentage of deal fee income once certain thresholds are reached: total enterprise value, fee income as a percentage of deal size, or total fee income received.

Director’s Fees Director’s fees typically are treated differently than transaction fees. Eight funds in the sample reduce the management fee by an amount equal to 100% of such fees.

  • Trend No clear trend, though certainly this is a term that is “in play.” Some fund sponsors have recently increased the percentage of transaction fees shared with the fund, while others have decreased this percentage as compared to their predecessor funds.

Profit Sharing

  • Preferred Return Generally 8%. Sometimes as low as 7% (three funds) or as high as 10% (two funds). Two funds in the sample did not have a preferred return.
  • Catch-up Generally either 80% (six funds) or 100% (seven funds) of profits are paid to the general partner once the preferred return has been paid to investors until the general partner and the investors share in profits 80/20. One fund had a 60% catch-up provision.
  • Carried Interest: 20%, with one exception (30%).
  • Trend These terms have stayed relatively stable.

Participation by Fund Sponsor

US funds generally require a higher capital commitment or participation by the fund sponsors than European funds. The European megafunds in our sample do not allow the general partner to fund its commitment through an offset against the management fee, while for US funds this is quite common.

  • US Funds Participation by fund sponsors is generally 2.0% to 2.5% of fund size.
  • European Funds Participation by the fund sponsors is generally 1.0% to 2.0% of fund size.
  • Trend The participation by fund sponsors in predecessor funds (generally 2.5% to 3.5% of fund size) was generally higher on a percentage basis than in the megafunds raised most recently.

Investment Restrictions

  • Diversification Diversification caps generally range between 15% to 25% of total commitments (and 20% to 30% when bridge investments are included).
  • Foreign Investments

US Funds Generally the fund can invest 25% to 50% of total commitments outside of the United States. In some cases, the foreign investment cap applies only to investments outside of the US and Europe.

European Funds More restrictive than US Funds. Generally 10% to 25% of total commitments may be invested outside of Europe. Some funds in the sample are not permitted to make any investments outside of Europe.