I've been asked enough about adding this feature that it was time to do a template that specifically offered the option to implement a preferred return (IRR) catch-up hurdle for the GP / sponsor of a joint venture. This template will do all the calculation work for you. The catch-up provision kicks in after the LP has achieved their first IRR hurdle, so the order is: LP 1st hurdle, then the catch-up, then the remaining hurdles kick in per available cash flow. If there is no catch-up, then simply enter 0% for that input cell.
About General partner Catch-up Logic
A GP catch-up preferred return is a feature of private equity funds that allows the general partner (GP) to receive a higher percentage of the fund's profits until a certain threshold is reached, after which the profits are split between the GP and limited partners (LPs) according to the agreed-upon terms. It will nearly always sit below the first LP hurdle. Here are some potential pros and cons of this feature:
Pros:
- Incentivize GP performance: The catch-up preferred return can incentivize GPs to perform well and exceed the first LP IRR threshold, as they only receive the higher percentage once LPs have received their preferred return.
- Alignment of interests: The catch-up preferred return can align the interests of the GP and LPs, as both parties will benefit from the GP's performance.
- Flexibility: The catch-up preferred return can provide flexibility to GPs to invest in attractive but higher-risk opportunities, as it allows them to recoup a higher percentage of profits if the investment succeeds.
Cons:
- Higher fees: The catch-up preferred return may result in lower returns for LPs, as GPs will be receiving a larger percentage of the profits until the threshold is reached.
- Potential for conflicts of interest: The catch-up preferred return may create conflicts of interest between GPs and LPs, as GPs may have an incentive to prioritize investments that have the potential to generate high returns and trigger the catch-up provision, even if those investments are higher risk.
- Complexity: The catch-up preferred return can be complex and difficult to understand, particularly for less sophisticated investors, which could lead to misunderstandings or disputes between GPs and LPs. This is why having a financial model that demonstrates cash distributions is so important for understanding the logic.
I am available for custom financial modeling work as needed: https://www.smarthelping.com/p/contact_27.html
More Joint Venture Cash Flow Waterfall Templates
- Preferred Return - Multiple GP Catch-up Options
- Preferred Return
- Preferred Equity with a Subordinate IRR Hurdle Waterfall
- Preferred Equity (equity multiple hurdle)
- General Cash Flow Waterfall: 3 IRR Hurdles
- Preferred Return - Simple Interest / Multiple Hurdles / Non-Compounding
- Preferred Return Fund Tracker
- Cumulative Distributions
- Mixed-Use Real Estate
- Multi-family Real Estate Acquisition
- Joint Venture Model - IRR Hurdles / Waterfall
- Hedge Fund Fee Model
- Self Storage: Multi-Fund
