Extending and winding up a fund

Explanation

A fund will typically be “closed ended” and therefore have a finite life. However, it is not always possible to invest, manage and exit from all portfolio companies in the planned fund life. Therefore, in order to maximise the return from the fund to LPs, the fund documents usually provide for the mechanisms and terms to extend the life by a pre-agreed period. It is also possible for the GP and its LPs to subsequently agree further extensions to the fund’s life although these extensions are not explicitly covered in the fund documents.

Recommendation

A GP should seek to invest, manage and exit from all portfolio companies within the agreed life of the fund where this can be achieved and is in the best interests of the LPs. Where an extension is to be sought, the GP should seek early consultation with LPs in order to set expectations as to the likely final termination date of the fund and the implication of continuing the fund beyond the initial life, in particular providing further clarity on the expected exit process for the remaining portfolio companies. Where extensions beyond any agreed provisions are proposed, GPs and their LPs should seek to agree the required length of extension, details of revised management fees in the extension period and any applicable terms. The GP should ensure that it has the resources to enable it to continue to manage the fund in the best interests of the LPs during the extension period, notwithstanding the revised financial and contractual terms that may apply.

Explanation

The liquidation of a fund will, generally, mean that all remaining assets of the fund will be realised and the proceeds used to repay all fund liabilities. Any cash (or other assets) remaining after the repayment of the fund liabilities will then be distributed to LPs in one final distribution, and any undrawn commitments cancelled. In certain jurisdictions, the liquidation process requires the formation of appropriate reserves for reasonably foreseeable obligations in the future. In all cases, the liquidation of a fund must be undertaken with care to ensure that neither the fund, the LPs, nor the GP are exposed to unacceptable potential liabilities following liquidation.

Recommendation

On liquidation, the GP (or the liquidator, if different) should make a thorough assessment of the risk of claims against the fund and should ensure suitable sums are held in escrow or subject to clawback arrangements to meet such claims. The escrow provision should also apply to a portion of the carried interest, or alternatively the carried interest should be subject to clawback for a specified period following the end of the life of the fund.

Explanation

The GP’s powers and responsibilities on liquidation, if the GP is to act as liquidator, will usually be set out in the fund documents and, in most jurisdictions, be subject to a detailed legal framework. It is important that these provisions are clear and exhaustive to reduce the likelihood of disputes on liquidation.

Recommendation

The fund documents should include provisions on liquidation addressing:

• the GP’s power to realise the fund’s investments;
• the extent of LPs’ and carried interest holders’ liability following liquidation;
• escrow and/or clawback arrangements to cover potential future liabilities.