Limited
Partnership
Agreement
Explanatory Notes
Introduction
For many years, private equity and venture capital funds have predominantly been formed as limited partnerships.
The US venture capital industry led the way in using the limited partnership as a fund vehicle and it has, for more
than a decade, been adopted almost universally for UK-based private equity and venture capital funds.
(Alternative fund structures are referred to in the “Structuring venture capital funds” section of the BVCA Notes of
Guidance).
The limited partnership structure gives tax transparency – the investors are treated as investing directly in each
portfolio company – and affords investors the protection of limited liability. The combination of those features and
the flexibility to document commercial terms to suit the requirements of a particular fund make the limited
partnership vehicle well-suited for private equity and venture capital funds.
The continuing evolution of market practice, changing economic conditions and the particular features of a fund
or its investors mean that the commercial terms, as between investors and managers, will vary from fund to fund.
The management fee arrangements, for example, might vary according to the size or scope of the fund, the track
record or experience of the manager, whether a sponsor or affiliate of the manager is investing in the fund and
other factors which affect the attraction of the fund as an investment proposition. Notwithstanding those variations,
the documentation used for most limited partnerships will be broadly similar in most areas.
These Explanatory Notes do not recommend or seek to impose standard commercial or legal terms
to be followed by funds, but are designed to explain the provisions commonly found in limited partnership
documentation.
The BVCA is grateful to Alasdair F. Douglas, Head of the Private Equity Funds Group at Travers Smith Braithwaite,
for preparing these Notes.
Chief Executive
BVCA
October 2002
The following Explanatory Notes are intended to explain in general terms the contents of clauses commonly found
in limited partnership documentation for a UK based fund and should not be regarded as a substitute for taking
detailed professional advice on a particular LPA. Accordingly, neither the BVCA nor Travers Smith Braithwaite can
accept any responsibility for any action taken or not taken as a result of information contained in these Explanatory
Notes - specific professional advice should be sought in all circumstances.
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Index to Limited Partnership Agreement
Limited Partnership Agreement
Basic Structure
Page
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4
Clause
1.
2.
3.
4.
5.
6.
7.
8.
9.
10.
11.
12.
13.
14.
15.
16.
17.
18.
19.
20.
21.
22.
23.
24.
25.
26.
27.
28.
29.
30.
31.
32.
33.
34.
35.
Parties
Introduction (or Recitals)
Definitions and Interpretation
Name and Place of Business
Establishment
Purpose of the Partnership
Duration of Partnership
Capital and Loan Contributions
Loan Commitment
Allocations, Sharing and Distributions of Partnership Profits
Carried Interest
Appointment and Removal of the General Partner
Powers, Rights and Duties of the General Partner
Powers of Limited Partner
Withdrawal of Partners
Borrowing and Bridge Financing
Establishing a New Fund
Co-Investment Rights
Fees and Expenses: Management Fee, Establishment Costs,
Transaction Costs, Fee Income
Transfer of Interests – Limited Partners and General Partner
Termination of Partnership
Follow-on Investments
Accounts and Reports
Meetings of Investors
Consents, Meetings and Votes
Representations and Warranties
Advisory Board
Information Memorandum
Deed of Adherence
Variation of Agreement
Indemnification of General Partner
International Issues
Miscellaneous Legal Issues
Legal Opinions
Documents to be signed by Investors
Glossary of Terms
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7
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10
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Limited Partnership Agreement
For private equity funds formed as limited partnerships, the key legal document is the limited partnership
agreement (LPA) which sets out in detail the legally binding relations between the investors (as limited partners in
the partnership) and the general partner (representing the fund manager). The partners are free to agree
whatever commercial terms they choose to be in the LPA, save that a limited partner may not take part in the
management of the limited partnership; if it does, it will lose its limited liability status.
The LPA sets out the rights and obligations of the partners and seeks to cover every aspect of the formation,
operation and termination of the partnership, from the key commercial issues (e.g. investment policy, profit
sharing, fees and expenses, etc.) to the detailed constitutional and administrative issues (e.g. when the manager
can launch a new fund, reports and accounts, provision of information, etc).
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Basic Structure
A limited partnership fund will be structured broadly along the following lines:-
The general scheme will be for the investors to become limited partners and 1 fund the limited partnership by
agreeing to contribute a small amount of capital and to lend up to a specified amount which can be called for in
tranches, as and when 2 investments are to be made in target companies. When 3 disposal proceeds arise
from the realisation of investments, 4 the investors’ loans will first be repaid and any profit beyond that will be
divided between the investors and the manager in accordance with the agreed profit sharing arrangements.
5 The manager will be paid a management fee from the outset and will be entitled to a performance related
share of profits on realisation of investments (a “carried interest”).
The general partner will be responsible for running the limited partnership, but will often appoint an associated
entity as investment manager (“the manager”). The manager may provide advice to the general partner rather than
to the limited partnership direct and the executives responsible for managing the fund may be employed by the
manager as well as having a stake in the partnership. (Throughout these Notes, the expression “manager” is used
in a general sense to refer to those running the fund without distinguishing, save where necessary, between the
responsibilities of the general partner, the investment manager and the executives.)
At the end of the fund’s life, the partnership will be wound up and any remaining investments will be handed over
to the investors and manager to hold direct.
The manager may issue an Information Memorandum to gauge interest in a proposed fund and subsequently
issue a draft of the LPA to interested investors. Some of the investors might have suggestions to make on the
terms of the LPA to suit their particular needs and any amendments will be circulated to investors prior to their
agreeing to invest. When the terms of the LPA have finally been settled, investors will sign up to the LPA, binding
them to its terms. Investors may sign up to the fund over a period and provision might be made for investors to
come into the fund after it has started to make investments. Certain US investors might not be able to sign the LPA
until it is ready to make its first investment and provision will be made in the LPA for admitting partners in such
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circumstances. The arrangements for the individuals who manage a fund to take their performance related share
of profits from successful investments will differ from fund to fund. Funds might be structured to allow the
individuals to participate through a special limited partner vehicle which is entitled to a share of capital profits, but
not obliged to lend funds to the partnership, or by allowing the individuals to co-invest their own money in equity
in target companies or in various other ways or combinations of ways.
The management fee may be structured as a share of the limited partnership profits (often referred to as a “priority
profit share”) to be paid out to the general partner in priority to profits going to the limited partners and, in the
early years of the fund, the limited partners may fund this profit share until the partnership starts to generate profits.
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Clauses
1.
Parties
This clause identifies each person who is party to, and therefore bound by, the LPA. The initial parties might
be just the general partner and one limited partner with the remainder of the investors being admitted to the
partnership by signing a separate deed (a “Deed of Adherence” or “Application Form”) which sets out their
agreement to adhere to the terms of the LPA.
2.
Introduction (or Recitals)
This clause sets out by way of a general introduction the reasons why the LPA is being entered into by
the parties.
3.
Definitions and Interpretation
For ease of reference, defined terms used throughout the LPA are gathered together at the front of the
document. The accepted practice is to capitalise defined terms (e.g. Accounting Period) in the text so that
they can be recognised as having a defined meaning. Further rules may be set out on how the LPA should
be interpreted.
4.
Name and Place of Business
These self explanatory statements are required by law. A limited partnership must have a name. The
name and the principal place of business, together with other details, must be registered with the Registrar
of Companies.
5.
Establishment
The information contained in this section will differ between LPAs. A clause which is usually included is one
which provides for the partnership to be registered as a limited partnership with the Registrar of Companies
in accordance with the Limited Partnerships Act. Should a limited partnership not be registered as such, the
LPA will have effect as a simple partnership agreement i.e. the investors will be treated as general partners
and will not benefit from limited liability status.
6.
Purpose of the Partnership
This clause will reflect the description of the fund as set out in the Information Memorandum and will bind
the general partner to carry on the fund’s investment activities accordingly. This clause may touch on
investment constraints and limits within which the general partner should operate its investment policy or
simply state that the partnership is to “carry on the business of an investor” with the purpose of the
partnership being referred to elsewhere in the LPA (see paragraph 28).
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7.
Duration of Partnership
The LPA will set out a specific period for the life of the partnership. Typically, this will be ten years from the
first date on which sufficient investors commit to invest the required minimum aggregate amount for the
fund to be established (“first closing date”). Provision will usually be made for extending the life of the
partnership. The circumstances in which this might occur could include where the general partner
recommends that investments continue to be actively managed prior to disposal, rather than simply being
distributed to the partners.
The LPA will provide that any initial term and any extension period is registered, as is required by statute. If
the LPA does not stipulate the term, the general partner will be able to terminate the partnership at any time.
8.
Capital and Loan Contributions
Limited partnerships are invariably funded by each investor making a capital contribution of a nominal
amount only and the rest of its investment by way of a loan to the limited partnership. The reason for this is
that the capital contribution represents the amount of the liability of each limited partner to third parties and
that liability remains, even if the capital is returned to the limited partners. On the other hand, whilst the
investor is liable to the partnership for the full amount of its loan commitment, that liability will cease after
the loan commitment has been met, even if the loan is subsequently repaid. The contribution may be
expressed as a commitment unit. For example, an investor may be offered the opportunity to acquire a
minimum number of units at, say, £1,000 each with each unit comprising 10p of capital contribution and
£999.90 of loan contribution.
Limited partnerships may work on the basis that funds are called for or drawn down in stages or tranches. It
is quite common for funds to be drawn down only when needed to make an investment. When the fund is
formed, the capital contributions will be made and the first tranche of the loan commitment will be called for
in order to meet the formation and other initial expenses of the partnership. Thereafter investors will be
notified when further funds are to be drawn down to make investments or to meet agreed expenses of the
partnership. The LPA will set out the circumstances in which loans, having been repaid out of the disposal
proceeds of realised investments, might be drawn down again. The LPA will state the date, usually by
reference to a particular anniversary of the establishment of the fund, when loan commitments can no
longer be called upon. The mechanics under which the limited partners are notified of the requirement to
advance funds to the partnership will be set out, as will the penalties for failure to comply with a draw down
notice. In order to cater for investors committing to invest in the partnership at different times during the
fund raising period, the LPA may allow new partners to be admitted over a specified period from the date on
which the first limited partner is admitted. Certain US investors (in particular, US pension plans subject to
ERISA–see paragraph 32) might be prohibited by US law from becoming limited partners until a qualifying
investment is to be made. This will usually be catered for in the fund raising period provisions. Where a new
partner joins the partnership after loan commitments from existing limited partners have been drawn down,
provision for adjustments to achieve financial parity between partners will normally be made, reflecting that
money has been put into the fund by investors at different times.
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9.
Loan Commitment
The LPA will provide that nothing beyond an investor’s agreed total commitment can be called for by the
partnership. Indeed, as a commercial matter, it is common for the investor never to reach the position of having
the entirety of its total commitment invested in the partnership at any one time, due to the period of time taken
to make investments overlapping with a period in which realisation proceeds are returned to the investors.
Investors may take this into account in determining their investment “weighting” in private equity investments.
The LPA may also specify a cut-off date beyond which no further calls to draw down loans will be made,
either by reference to a specific date or the time at which the manager considers the fund to be fully
committed. The cut-off may allow for contingency funding to be called, for example, to meet partnership
expenses or investment commitments or to make follow-on investments.
The LPA will typically provide that once investments made by the partnership are realised, the proceeds
must be used in meeting partnership expenses, including payment of the management fee, set aside for
contingencies or distributed to the partners.
The partnership may also be allowed to reinvest part of the proceeds of realisation of investments in
specified circumstances and amounts. For example, the partnership might be able to reinvest the proceeds
of realisation of an investment where an exit is achieved shortly after making the investment, or the
partnership might be entitled to reinvest proceeds up to an agreed percentage of the total funds raised, or
might be entitled to reinvest up to an amount equal to management fees and expenses so that the
partnership ends up investing the full commitment (rather than the full commitment less management fees
and expenses).
The partnership may also be free to reinvest amounts drawn down from partners to provide bridge
financing. Bridge financing occurs, for example, where the manager does not have time to syndicate or put
together a leveraged finance package before completing an investment. The partnership will provide
“bridge finance” to complete the deal and be repaid this amount when a permanent finance structure is put
in place.
10. Allocations, Sharing and Distributions of Partnership Profits
These clauses govern the order in which partners’ loans are repaid, partnership profits are allocated, the
ratio in which the partners share profits as between themselves and, as a separate matter, how the profits
are to be distributed to the limited partners and general partner, respectively.
The allocations clause determines a partner’s entitlement to a share of income, gains, losses and so on, and
therefore governs how the partners are taxed. It is this clause which effects an adjustment to the proportions
in which the capital gains tax base cost of investments is shared when the carried interest holders become
entitled to their share of the partnership profits.
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The distributions clause determines the order of cash distribution which might typically be:(i) payment to the general partner of its “priority profit share”(i.e. the management fee);
(ii) repayment to the limited partners of their drawn-down loans to the partnership;
(iii) where agreed, payment to the limited partners of a return on their investment calculated by reference to
the cost of money over time in a risk-free investment (often referred to as a “preferred return”); and
(iv) thereafter the profits will be divided between the limited partners and the manager in accordance with
the carried interest provisions.
The proportions in which limited partners are repaid loans and, where applicable, paid a preferred return as
between themselves will be by reference to the amount drawn down by the partnership from each partner.
There may be provisions in the clauses dealing with the draw-down of loans from a limited partner which
require that a limited partner who defaults in meeting a draw-down request will have its participation in
distributions reduced or removed and the other limited partners will have their share of distributions
increased proportionately.
11. Carried Interest
“Carried interest” (or “carry”) is the term used to describe the manager’s performance related share of
profits from fund investments. The most commonly used methods of calculating the carried interest are
referred to as “whole fund” and “deal by deal” carry.
On the “whole fund” model, the limited partners must be repaid all of their drawn-down loans (and, where
agreed, their preferred return) before the manager’s carried interest begins to operate.
There may also be provision for a “catch-up” in the distribution clause. This is intended to ensure that those
entitled to the carried interest also share in the preferred return and are given an amount equal to the sum
that they would have received had they been able so to participate, so that the actual split of total fund
profits reflects the overall profit split that has been agreed.
It is common to see in distribution clauses a requirement that once the preferred return has been paid out,
100% (or some other agreed percentage) of the profits accruing thereafter is to be paid out to those entitled
to the carried interest until they have received an amount equal to their share of the total of the preferred
return and the amount paid out under the catch-up clause. Thereafter, profits are distributed in the agreed
ratio between the limited partners and the carried interest holders.
Where a fund operates a “deal by deal” carry, the carried interest is calculated on the basis of the return
achieved by each specific investment. On the realisation of an investment by the fund, the carried interest is
calculated by measuring the income received on, and disposal proceeds of, that investment against the
portion of the limited partners’ loans applied (and expenses incurred) in making that investment. If a hurdle
exists, the preferred return will apply only to the portion of the loans applied in making that investment.
There may be some form of test, perhaps looking at earlier losses and the underlying value of the remaining
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portfolio, which has to be satisfied before the carry begins to operate and there may also be a clawback
mechanism to ensure that the overall split at the end of the fund’s life reflects the agreed profit sharing ratio.
Provision may, in some cases, be made for the clawback of the carried interest (less any tax adjustment),
underpinned, where appropriate, by a payment mechanism to ensure that the holders of the carried interest
repay profit distributions in the event that other assets of the partnership are sold at a loss.
12. Appointment and Removal of the General Partner
The general partner will be formally appointed in the LPA, the relevant clause specifying that the general
partner will act in accordance with the provisions of the LPA.
As the general partner will have been responsible for promoting the fund with a view to profiting from
running the fund over its life, removal of the general partner will usually only be possible for “cause” i.e. on
the grounds of gross negligence, misconduct, fraud or the incapacity (meaning bankruptcy, insolvency,
dissolution or winding up) of the general partner.
As regards procedure for removal, the clause might state that the general partner is given notice in advance
of removal by a specified majority of the investors, in which case both the date for removal and the matters
giving rise to removal are specified. The general partner might then be able to challenge this notice and to
appoint an arbitrator to determine the validity of the removal. The LPA may provide that no further
investments are to be made by the general partner after notice of removal has been given. The general
partner will not normally be entitled to withdraw from the partnership or to resign unless continuing to act
would be contrary to a law or regulation.
Whilst there is no established practice in this area, if investors are concerned that a fund is heavily dependent
upon the performance of certain members of the management team, it may be appropriate for the investors
to seek an assurance that a certain number of the manager’s existing team stays in place over the life of the
fund. The mechanics for such “key executive” provisions, if any, will be a matter for negotiation.
13. Powers, Rights and Duties of the General Partner
The LPA will set out the rights and duties of the general partner and authorise the general partner to do
everything necessary to operate the partnership, including appointing an investment manager and
representing the partnership in its dealings with the manager. The framework within which the general
partner must operate may include restrictions on what investments the partnership can make (for example,
restricting investments to certain geographical regions) and on the maximum size of an investment (often
expressed as a percentage of the total funds raised) in order to ensure the agreed spread of investments.
The general partner will need to be properly authorised by regulatory authorities to carry out its duties
within the jurisdictions in which it operates, or will need to appoint an authorised investment manager to
carry out those functions on its behalf.
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14. Powers of Limited Partner
The LPA will exclude the limited partners from having any rights to manage the partnership to ensure that
their limited liability is maintained under the Limited Partnerships Act.
15. Withdrawal of Partners
This clause deals with the situation where the participation of an investor in one or more investments made
by the partnership becomes unlawful or will have a material adverse effect on that investor’s tax or other
affairs or on the partnership itself. The investor may, in such circumstances, want to be able to withdraw
from the partnership or, alternatively, the partnership may want to be able to expel the investor from the
partnership. It may be that an investor cannot participate in a certain investment to be made by the
partnership, say, for example, on ethical grounds, and therefore it will want the right to be excused from
draw-downs in respect of that investment.
If an investor withdraws or is expelled from the partnership, there will be provisions dealing with how to
value and pay for its partnership interest.
16. Borrowing and Bridge Financing
The general partner may take power on behalf of the partnership to borrow or to hedge investments made
in other currencies, subject perhaps to some form of limit by reference to the loan commitments made to
the partnership.
In certain circumstances, the partnership might borrow to finance time-critical investments pending drawdown from limited partners and, possibly, syndication to third parties, although such borrowings raise tax
issues for certain US investors (see paragraph 32).
Where the manager does not have time to syndicate or put together a leveraged finance package before
completing an investment, the partnership may be entitled to provide bridge finance to complete the deal.
The bridge financing will be repaid to investors when the permanent finance structure is put in place. Often
no preferred return will run on amounts drawn down and repaid for bridge financing purposes and the
repaid amounts may be capable of being drawn down again and reinvested.
17. Establishing a New Fund
In order to prevent the manager setting up a new fund while money in the existing fund remains uninvested,
a restriction may be placed on the manager’s ability to set up a new fund until an agreed percentage of the
existing fund’s money has been spent. In order to give continuity between funds, some leeway is necessary
so that the existing fund does not have to spend all its money before the manager can start the sometimes
lengthy process of raising a new fund. Overlap arrangements might also be included, for example, to govern
the proportions in which an existing and a new fund may participate in an investment opportunity which
arises while both funds are in existence.
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18. Co-Investment Rights
Some funds may give the manager a discretion to allow investors (or only some of the investors) the right to
invest alongside the partnership in a target company where the manager decides that the partnership will
not take the entirety of a particular investment opportunity. Co-investment rights might be given, for
example, to recognise the contribution being made by the fund’s sponsors or by a cornerstone investor who
agreed in advance to support the launch of the fund. This clause will set out the mechanics for coinvestment or, alternatively, make a more general statement allowing co-investment.
19. Fees and Expenses: Management Fee, Establishment Costs, Transaction Costs, Fee Income
Management Fee (Priority Profit Share)
The manager will usually receive from the partnership an annual management fee; the fee for the period
during which investments are being made may be expressed as a percentage of total funds committed to
the partnership. The management fee may be payable quarterly, six monthly or annually in advance. The
management fee is intended to compensate the manager for operating the partnership and to cover the
partnership’s costs and expenses.
Establishment Costs
The LPA will deal with payment of the costs and expenses involved in establishing the partnership, which
will include legal and accounting advisers’ fees and any fees payable to third party placement agents.
Establishment costs will normally be borne by the partnership, perhaps up to a capped level and this will
often be expressed as a percentage of total funds committed, with establishment costs above a cap being
borne by the general partner.
It is common practice for the general partner to bear the fees of third party placement agents.
Transaction Costs
The LPA will deal with costs incurred by the manager in connection with proposed investments, such as
legal and accounting advisers’ fees. Usually, the costs of a successfully completed investment will be borne
by the target company. Where costs are incurred in trying to make an investment which is not successfully
completed, the manager will, where possible, generally seek to charge such costs to the target company by
agreeing a break-up fee for the transaction.
Where costs are not met by the target company, they will either be borne by the manager or by the
partnership, or split between them.
Fee Income of the General Partner
As part of its investment business, the manager is likely to receive fee income from various sources, such as
arrangement fees, corporate finance fees, commitment fees and monitoring fees.
The LPA will provide that these fees are retained by the manager or shared between the manager and the
partnership. If the partnership is to benefit from the fees, this is usually done by way of offsetting the fees
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against future management fee payments (the Priority Profit Share) rather than making a direct payment to
the investors, as this could give rise to tax problems for certain US investors.
20. Transfer of Interests - Limited Partners and General Partner
Different rules on transferring partnership interests may apply to the general partner and the limited
partners. Whilst the Limited Partnerships Act allows the assignment of a general partner’s share without the
consent of the limited partners, in the case of private equity and venture capital funds, there may be
constraints on the general partner transferring its rights and obligations as general partner in certain
circumstances. The LPA might also provide that the general partner will not take any action which might
cause the general partner no longer to be “associated” with the manager. (This provision may be contained
in a separate “Change of Control” clause.) Should there be a special limited partner holding the manager’s
carried interest, some form of consent might be required for a transfer of that partner’s interests. A limited
partner wishing to assign its share may be able to do so, provided that certain conditions are fulfilled and the
written consent of the manager is obtained. The conditions are intended to protect the remaining limited
partners and would typically require a legal opinion to the effect that the assignment would not adversely
affect the partnership and/or a legal opinion on the position of the transferee (more particularly, that it
would not breach US tax/investment law provisions); and that the limited partner transferring its interest
would provide the general partner with all relevant information about a new limited partner. The LPA may
provide that consent is not required where the transfer/assignment of a limited partner’s interest is from a
trustee to a beneficiary or from a limited partner to an entity under common control (provided there are no
adverse legal or regulatory consequences). It is usual for the LPA to stipulate that the transferring limited
partner will be responsible for all costs associated with the transfer and that the transferor will remain liable
for any contributions called for up until the time that the new limited partner is registered. As the assigning
limited partner may not have had its full commitment drawn down, it will be important for the partnership to
be satisfied that the assignee is good for the balance of the commitment.
Pre-emption rights may be included in the LPA, such that limited partners may only transfer their interests
(other than to associates) after they have offered them to other partners and there may also be a set way in
which this has to be done e.g. time periods during which pre-emption rights may operate before the
interests of the transferring limited partner can be transferred.
The LPA may also state a date from which any transfer is treated as being effective. This is usually the date
on which the transfer is registered and a notice has appeared in the Gazette indicating that the transfer has
occurred. The transferee will be required to sign a Deed of Adherence to the LPA and will then become a
limited partner in place of the transferor.
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21. Termination of Partnership
Dissolution
This clause will usually provide that the partnership will not be dissolved should one of the limited partners
become bankrupt (this is the general position under English partnership law), but it may provide that the
partnership dissolves on the bankruptcy of the general partner and in certain other events.
Liquidation
This clause provides that on liquidation, a liquidating trustee, usually the manager, is appointed to be
responsible for winding up the partnership. The LPA will state that no further business is permitted to take
place after liquidation proceedings have started other than the winding up of the affairs of the partnership.
This clause will also state that the liquidating trustee is permitted to sell the assets of the partnership on the
best terms possible and will set out the order of payment of the monies received from the realisation of
those assets. The costs of the liquidation will be included in this order of payments. The LPA may also
provide for an indemnity for the liquidating trustee should any other costs arise as a result of the liquidation,
that the liquidating trustee will not be personally responsible for the return of the loans from the partnership
assets and that no partner will be liable to another for the repayment of that partner’s outstanding loan.
Termination
The termination clause will specify a number of events upon which the partnership is deemed to come to an
end. They may include: the bankruptcy, insolvency, dissolution, removal or expulsion of the general partner
(the partnership may be stated to be automatically dissolved in such circumstances); notice being served on
the general partner by the limited partners that there has been a material breach of the LPA or gross
negligence on the part of the general partner; on agreement between the limited partners and the general
partner; on a change of law which makes the continuation of the partnership unlawful; if a law governing the
LPA or the effectiveness of the LPA has been breached; on expiry of the term of the partnership or if the
manager determines that the partnership assets have negligible value. The clause is also likely to specify
that no partner is liable to any other partner for a portion of an outstanding loan that has not been repaid by
the partnership.
The termination clause may also specify certain events that are deemed not to be termination events e.g. the
assignment of a partnership interest, admission of a new limited partner or withdrawal of a limited partner.
The termination clause may be supplemented by a provision that as long as certain conditions are fulfilled
(most usually the consent of a certain percentage of partners and sometimes the appointment of a
replacement general partner), the partnership may continue for a further specified period.
22. Follow-on Investments
The partnership may agree to make follow-on investments in an existing portfolio company. This might be,
for example, part of a buy and build strategy, to finance an acquisition or to provide extra working capital.
The partnership would generally be entitled to make follow-on investments, subject to a limitation on the
maximum percentage of funds that may be invested in any one portfolio company. The LPA will often
14
provide that follow-on investments may be made after the end of the primary investment period of
the partnership.
23. Accounts and Reports
The manager will prepare accounts for the partnership. (These accounts are not a public document.) The
manager will prepare separate records for each limited partner to enable each to track capital contributions,
loan payments and repayments, income received and capital profits. This is most often done by way of
creating separate accounts under each heading for each limited partner. In addition, regular reporting of the
investments acquired and disposed of may be given to limited partners at an agreed frequency.
The BVCA has produced Reporting Guidelines and Valuation Guidelines for Private Equity and Venture
Investments, which many funds follow.
The manager may also provide, perhaps on request, the information necessary to enable each limited
partner to make its tax returns or to meet any other governmental requests for information. A sweeping up
provision might also be included to ensure that the manager keeps the limited partners informed of any
material matters which might affect the fund.
24. Meetings of Investors
The general partner will usually convene annual general meetings of the investors and be entitled to
convene an extraordinary meeting at any time. In addition, investors holding a certain percentage of total
commitments to the partnership may be entitled to requisition an extraordinary meeting.
The provisions for convening and holding a meeting of partners and passing resolutions may often be similar
to the equivalent provisions for meetings of shareholders in a company.
25. Consents, Meetings and Votes
Whilst it is important that limited partners do not take part in the management, some constraints on the
general partner’s powers may be included requiring the general partner to obtain limited partners’ consent
before taking certain actions.
The procedure for passing partnership resolutions will vary from partnership to partnership. A resolution
passed at a general meeting may be specified to be adopted if approved by limited partners whose
aggregate commitments represent a certain percentage of the total commitments of the fund. There may be
provision in the LPA that allows a resolution to be passed only if a certain composition of votes is cast in
favour e.g. a certain number of limited partners. These different consent requirements may be set out at the
beginning of the LPA as defined terms e.g. “Unanimous Limited Partners’ Consent”. The LPA will also
specify the mechanics for giving consent. Should the partnership be set up in parallel with other
partnerships, the LPA may provide that resolutions will be validly passed only if approved by each of the
parallel funds.
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26. Representations and Warranties
Representations and warranties may be made by the general partner and/or the manager and will be made
by the limited partners. Representations and warranties made by the limited partners are made either in the
Deed of Adherence, in the main body of the LPA or in a side letter.
The representations and warranties made by the general partner, if any, would be intended to give comfort
to the investors that the fund is being established on a proper basis and that all matters material to them as
prospective investors have been brought to their attention. This clause might include: that there is no
current litigation against the fund; that no further authorisation to set up the partnership is required; that all
action has been taken to enable investors to join the partnership; that the partnership is a duly organised
and existing limited partnership; that the general partner has not entered into a side-letter or similar
agreement giving a special deal to some but not all partners and will not enter into such an arrangement,
without first offering the benefit of any arrangements to each of the partners; and that the general partner
will not consent to any material amendment to, or material waiver of, the LPA.
Likewise, each limited partner may be asked to make representations and warranties to give the general
partner comfort that the investor can properly make an investment in the limited partnership. The
representations and warranties might include: that the investor has read the Information Memorandum and
is making the investment relying solely on that information; that it can bear the economic risk of the
investment; that all necessary action has been taken to authorise the execution of the LPA; that it will not, by
executing the LPA, commit any breach under its own constitution; that by executing the LPA it will not
breach any obligations under any other contract; that any information provided for the purposes of applying
to become a limited partner is correct and that it has relied solely on the professional advice of its own
advisors in deciding whether to invest.
27. Advisory Board
Whilst the LPA may provide for there to be an annual meeting enabling investors to ask about their
investments and question the manager, it may also provide for the constitution of an advisory board. The
purpose of this board is to represent the interests of the limited partners. The advisory board may also
advise on other matters such as potential conflicts of interest for the manager and its associated companies
and valuations of portfolio investments. In order to protect the limited partners’ limited liability (they cannot
take part in the “management” of the partnership business and, at the same time, retain their limited liability
status), this board will be specified to be supervisory only. (Indeed, in order to try to avoid infringement of
the UK regulatory provisions and the Limited Partnerships Act, there may be an explicit provision that
members of the board will not take part in the management of the partnership business.) In such
circumstances, the advisory board would not be entitled to force the manager to follow its advice or
decisions. The composition of the advisory board may be fixed by the LPA or the manager may be able to
choose who is to sit on the board. Such boards are usually called the “Advisory Board” or “Investors”
Advisory Committee”.
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Some LPAs provide for there to be an advisory board which is directly involved in the investment process
but whose members are not representatives of the limited partners. The members of this board are usually
chosen by the manager. Somewhat confusingly, this board may be called an “Investment Advisory Board” or
“Investor Advisory Board”.
28. Information Memorandum
The Information Memorandum which prospective investors will have seen at an early stage in the fund
raising process may sometimes be incorporated in the LPA and cross-references might be made in the LPA,
for example, to the investment policy of the fund as set out in the Information Memorandum. The
Information Memorandum is not written in the style of a legal document and for this reason some funds
might choose not to incorporate it, but to set out in the LPA in a more formal and legalistic way, the key
elements of investment policy on which investors would wish to rely.
29. Deed of Adherence
This form is attached to the back of the LPA and will be the template for an application to become a limited
partner. This deed is the formal means by which most investors will apply to become limited partners.
Generally, it will specify the number of commitment units (which are generally in discrete numbers) that an
investor wishes to subscribe for and how that commitment will be divided as between capital contribution
and loan. It may also specify that the investor, having made a successful application, will comply with all of
the obligations contained in the LPA.
It may also contain a Power of Attorney, which will appoint the general partner to act as the investor’s
attorney for the purpose of signing up to any further subscription agreements (see paragraph 33). The deed
may also contain some representations and warranties from the investor.
30. Variation of Agreement
The LPA, once executed, is difficult to alter, as many LPAs will provide that it may be amended only with the
written consent of the general partner and with the consent of a specified majority of the limited partners
(see paragraph 25 on Consents, Meetings and Vote). Proposed amendments which particularly affect a
certain group of limited partners (e.g. those who are subject to US regulatory constraints) may require that
group’s consent. Should an amendment be proposed which increases the liability of any limited partner
(e.g. if it requires limited partners to make further contributions or commitments) or which alters the
allocation or distribution of the income, gains and/or losses of the partnership, the written consent of all
partners may be required. The LPA may provide for the general partner to add to its duties or obligations, to
permit it to make minor clerical or typographical changes to the LPA and/or to add details of the limited
partners to the schedules to the LPA (provided that the investors’ rights and liabilities are not adversely
affected). This clause will typically require a supplemental agreement to be executed if amendments are
to be made and that a copy of this amended agreement be sent to each limited partner within a specified period.
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31. Indemnification of General Partner
The LPA may contain a provision that any indemnified party (any of the general partner, the manager, their
directors and staff and any person who sits on an Advisory or Investment Advisory Board) is not liable for
any loss incurred by the partnership (except where this has arisen as a result of wilful neglect or gross
negligence) and further that any losses incurred by any indemnified party in connection with its
responsibilities to the partnership can be claimed back from the partnership assets together with costs and
expenses. In particular, provision may be made to indemnify the general partner against any tax liability in
respect of tax on other partners’ income or capital gains. A common provision is that neither the manager
nor the general partner will be liable for the negligence of any agent acting for or advising it, if reasonable
care was taken in selecting, engaging and monitoring that agent.
This clause may also require the manager to take out professional indemnity insurance up to a specified sum
and will provide that indemnification payments should be sought from other sources if possible, including
under the indemnity insurance. If the loss can be satisfied in full in this way, then no claim should be made
under the indemnification clause.
32. International Issues
Investors from jurisdictions other than the UK may be subject to local regulatory, tax or other legal
constraints on their investments which may have a knock-on effect on how the limited partnership carries on
its business. The LPA is therefore likely to contain clauses dealing with specific issues arising from having
investors based overseas. The most commonly encountered clauses deal with the following US issues.
Employee Retirement Income Security Act (ERISA)
US pension fund investors are affected by US legislation, in particular, the Employee Retirement Income
Security Act 1974 (ERISA) which is intended, amongst other things, to regulate the investment activities of
the pension funds and their investment managers. Furthermore, the general partner may fall within the US
regulatory net if certain conditions are not met. For these reasons, where investors in a fund are likely to
include US pension funds, the LPA will include fairly extensive provisions allowing limited partners subject
to ERISA to withdraw from the partnership if continued participation would breach ERISA rules. To comply
with ERISA requirements, it may also be provided that the partnership will carry on its activities in such a
way as to qualify as a “venture capital operating company”. To do this, the partnership should make at least
half of its investments (measured by cost) into operating companies in which the general partner/manager
has management rights (such as the ability to appoint a director to the board of that target company). It is
relatively straightforward, in practice, for the manager to ensure compliance with ERISA.
Unrelated Business Taxable Income (UBTI)
US tax exempt investors may suffer US tax on “unrelated business taxable income” (UBTI) from investments
made in tax transparent entities. Further, income arising from third party borrowings made by the
partnership may be treated as UBTI. The LPA might therefore reflect the wishes of certain US investors to
avoid UBTI and include mechanics for so doing.
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33. Miscellaneous Legal Issues
Governing Law and Jurisdiction
This clause will be included for the sake of clarity to govern the applicable law for interpreting the LPA and
which country’s courts will have jurisdiction should a dispute between partners arise. The parties are
generally free to choose the governing law. A further provision may be that each of the parties waives any
objection that the courts in a particular jurisdiction are not a convenient forum for hearing disputes. As these
Notes are concerned with UK-based funds, the LPA choice of law will normally be English law.
Power of Attorney
The LPA may give the general partner power to act on behalf of the limited partners. This may be through a
formal power of attorney contained in either the main body of the LPA or in the Deed of Adherence. The
primary purpose of this power of attorney is to allow the general partner to execute further agreements
admitting other investors on behalf of the limited partners or to make agreed variations to the LPA. Alternatively,
there may be a clause in the LPA which states that the general partner is permitted to sign any documents
admitting new limited partners on behalf of the current limited partners.
Confidentiality
There will often be a confidentiality clause in the LPA providing that any non-public information obtained by
an investor as a result of being a limited partner should not be used to the detriment of the partnership or
any partner. This should not prevent a limited partner from revealing information to its professional advisors
as long as appropriate confidentiality agreements are in place, nor should it prevent a limited partner from
providing information to persons if required by law.
Notices
The LPA will also include a notice provision specifying the mechanism for servicing notice of any party. This
will set out the addresses, telephone numbers, fax numbers and often email addresses of each of the parties
to the LPA. These details are usually set out in one of the schedules and are referred to in the notices clauses.
As well as specifying the medium for service, it will state the form in which notice should be received – for
example, notice in writing. The cause may also specify the time at which notice is deemed to have been
served which may vary depending on the type of notice served.
34. Legal Opinions
Prior to making its investment in the partnership, an investor will want certain comfort in the form of
opinions to be issued by the partnership’s legal advisers in the UK and, perhaps, abroad. In addition to any
specialist opinions required, opinions will normally be needed to cover the following:(i) an opinion that an investor in the partnership will have limited liability in respect of its investment. This
liability will be equal to the amount of its capital contribution to the partnership and, in effect, the
amount of its loan commitment which has not been drawn down and repaid;
(ii) an opinion relating to the tax status of the partnership and, in particular, its tax transparency;
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(iii) if there are any investors in the partnership who are governed by the provision of ERISA and those
investors hold a significant proportion of total commitments to the partnership, an opinion from US
counsel that, on the partnership making its first investment, it will qualify as a venture capital operating
company (VCOC) for the purposes of ERISA, together with an annual opinion or certificate to the effect
that the partnership continues to qualify as a VCOC.
35. Document to be signed by Investors
An Investor would expect to sign a Deed of Adherence (or Application Form) to become a partner and be
bound by the terms of the LPA.
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Glossary of Terms
Abort costs
Third party costs (e.g. legal and accountancy fees) incurred in connection
with the evaluation and negotiation of any investment opportunity or the
disposal of any investment which does not ultimately lead to the acquisition or
disposal of that investment.
Abort fees
A fee which may be agreed to be paid by a target company in the event of an
aborted transaction in order to reimburse some or all of the abort costs.
Advisory board
A board of members representing limited partners’ interests which oversees
the activities of the manager. NB. This is distinct from an “Investment Advisory
Board” which may feature in some limited partnerships and which is directly
involved in the investment decision making process.
Application form
The document by which investors apply to become limited partners and agree
to be bound by the terms of the LPA.
Break-up fees
See Abort fees.
Bridge finance
A short-term investment made by the limited partnership in a portfolio company
pending syndication of the investment or agreement of debt financing.
Broken deal costs
See Abort costs.
Buy-out fund
A limited partnership set up for the purposes of institutional or management
buy-outs. An institutional buy-out (or buy-in) is the purchase of a company by
a limited partnership following, or as part of, which the incumbent or new
management will be given or acquire a small stake in the business. In a
management buy-out (or buy-in), current/new management usually acquire a
more significant shareholding in the business they manage.
Capital contribution
One of the two contributions made by each investor to finance a limited
partnership (the other being “loan contribution”). As an investor’s liability to
third parties as a partner is capped according to its capital contribution, this
part of its investment is usually very small.
Carried interest or Carry
The performance related share of a private equity fund’s profit that will accrue
to the manager.
Catch-up
A mechanism set out in the LPA by which, after any preferred return has been
paid out, those entitled to receive the carried interest may receive a specified
percentage of the profits until they have received an amount equal to their
share of the total of the preferred return.
Co-investment rights
A right given to some, but not necessarily all, investors to co-invest their own
money alongside the partnership in a particular target company; or a right
given to executives or the manager to co-invest their own money in a target
company; or a right given to a third party to invest in a target company
alongside the partnership.
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Commitment
The total amount to be contributed by each limited partner to the limited
partnership i.e. the total of the capital contribution and the loan contribution.
Commitment period
The time period during which investors’ funds can be drawn down by the
limited partnership, calculated from the inception of the fund.
Cornerstone investors
Investors who agree in advance to support the launch of a new fund.
Deal-by-deal carried interest
A carried interest structure where the performance related profit share
accruing to the manager is calculated by reference to the investment in, and
return from, each specific investment.
Draw-down
The payment by the investors of a tranche of their respective loan
commitments following a call from the manager.
ERISA
The Employee Retirement Income Security Act 1974 (US legislation – see
paragraph 32 on International Issues).
Establishment costs
The costs associated with establishing the partnership. These will include,
although not be limited to, all legal and accountancy expenses.
Excused investors
Investors who may be excused for ethical or constitutional reasons from
investing in a certain type of investment or target company.
Exit
Where the partnership realises, in whole or part, one of its investments.
Final closing date
The last date on which new investors may be admitted to the partnership.
First closing date
A date specified in the LPA by which a required minimum aggregate amount
must have been committed by investors for the fund to be established.
Follow-on investments
Subsequent investments made by the limited partnership in the same target
company.
Fund-wide carried interest
A carried interest structure where the investors must be repaid all of their
existing drawn-down loans and, where appropriate, preferred return before
any carried interest is payable.
General Partner
The partner, owned generally by the manager or executives who manage the
fund, which is responsible for operating the limited partnership and whose
liability is unlimited.
Hurdle
The minimum return to investors to be achieved before any carried interest is
payable. A hurdle rate of 10% means that the partnership needs to achieve a
return of at least 10% per annum on drawn-down loan commitments before
the profits are shared according to the carried interest arrangement.
Information Memorandum
A document circulated to potential investors setting out the investment
strategy and other important commercial features of the proposed fund and
used for marketing the fund to potential investors.
Initial closing date
See First closing date.
Investment period
See Commitment period.
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IRR
Internal rate of return or rate at which positive and negative cash flows to and
from the limited partnership are discounted so that their net present value is
zero. This calculates the returns on the investments and is therefore an
important indicator for appraising performance.
Limited partner
An investor in a limited partnership whose liability is capped at the amount of
its capital contribution (and, effectively, the amount of its loan contribution
which has not been drawn down and repaid).
Loan commitment/contribution The loan to be made by a limited partner to the limited partnership as part of
the partner’s commitment to invest. This part of the commitment is usually
drawn down in tranches throughout the Commitment period.
LPA
Limited partnership agreement.
Placing agent
A third party agent who is paid a commission for finding investors for a fund.
Portfolio company
A company in which the limited partnership invests.
Primary investment period
See Commitment period.
Priority profit share
The management fee paid to the general partner from the partnership.
Private equity fund
A buy-out fund or a venture capital fund.
Sponsors/Founder partners
Individuals and/or companies who promote the establishment of the fund.
Target company
See Portfolio company.
Transaction costs
Costs incurred by the manager in connection with proposed investments (this
includes both fees which a target company may agree to pay and Abort costs).
UBTI
Unrelated Business Taxable Income (see paragraph 32).
Venture capital fund
A fund which makes early stage equity investments in unquoted companies.
Whole-fund carried interest
See Fund-wide carried interest.
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