1% GP commits have been a part of investing history for as long as most people can remember. But actually finds its origin as a vestigial part of IRS Revenue Procedures from 1974, more specifically Rev. Proc. 74-17, which stated “the interests of all the general partners, taken together in each material item of partnership income, gain, loss, deduction or credit is equal to at least one percent.”
And yes, technically, in 1989, Rev. Proc. 89-12 also created a lower bound of 0.2%. “In no event… may the general partners’ aggregate interest at any time in any material item be less than .2 percent.” But all of that was overturned in 2003.
Ever since then, the 1% GP commit has withstood the test of time.
But… I’ve always felt that to be a weird checkbox that LPs have for GPs. I get the element around incentive alignment. But why is incentive alignment a static number? If a college student is just starting a Fund I, still with student loans, and raising a $10M fund, $100K is a meaningful proportion of their net worth. Hell, they may not even have it. At the same time, a successful spinout who used to be a GP at a large established fund who’s received distributions already and raising $100M fund will likely have more than just $1M. And $1M alone is not a meaningful proportion of her/his net worth.
So, I think GP commits should be a function of a GP’s net worth, not the fund size.
I want to know that the GP is betting their career over on this next enterprise. I want to know that the GP is more motivated today than they were ever before. Even if they’ve already hit that career-defining success.
I’m looking for the fire under their belly. Why does this upcoming fund matter so much to them?
Personally, it’s not that I only choose to focus on Fund I’s and II’s. I’m open to the idea of other Roman numeral-ed funds, but I usually get the sense that the economics of commitment are misaligned with the intentions and motivations of the GP themselves.
Photo by Drew Farwell on Unsplash
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The views expressed on this blogpost are for informational purposes only. None of the views expressed herein constitute legal, investment, business, or tax advice. Any allusions or references to funds or companies are for illustrative purposes only, and should not be relied upon as investment recommendations. Consult a professional investment advisor prior to making any investment decisions.