How do limited partnership agreements work

How do Limited Partnership Agreements Work?

Limited partnership agreements are agreements between a limited partner (LP) and a general partner (GP).

Limited partners are the investors in a private equity firm. As discussed previously (Video #3), these are institutions (pensions, endowments, foundations) or individuals (family offices, select high net worth individuals).

The general partner is the private equity firm.  (Video #5 discusses the details of private equity firms.)

The LP and the GP join in a limited partnership agreement to form a private equity fund, with the purpose of investing in companies. Once an investment in a company has been made, it becomes a portfolio company of the private equity fund.

The LP has limited liability and does not give the private equity fund all the money up front. For example; if the LP commits $50 million in capital to the private equity fund, it might, initially, only give $10 to $20 million of this capital. The fund, as the GP finds additional investments, will call for additional capital from the LP.  The LP is committed to giving all the capital, as per the original limited partnership agreement, over the length of the fund. A private equity fund length is usually seven to ten years or longer if rolled over.

This doesn’t mean that the LP has no exit options from the commitment since there is a secondary market for private equity investors.  The LP, if it has already made investments and has future commitments, can sell the investments it has made along with the commitments, to another limited partner, in a LP secondary.

The LP can also divide the sale up in a structured secondary, an example of which is when the LP holds onto the existing investments that the funds made but sells the future commitments.

The ILPA (Institutional Limited Partners Association) website is an excellent resource for further information regarding LP agreements. In addition to representing 300 LPs worldwide, comprising over a trillion dollars of assets in private equity, the ILPA website shows forms for capital calls, best practices for LP agreements and much, much more.