CFA Practice Question

There are 195 practice questions for this study session.

CFA Practice Question

Which corporate governance terms are designed to protect LPs of a private equity?

I. Key man clause.
II. Clawback provision.
III. Distribution waterfall.
IV. Co-investment.
Correct Answer: All of them

I. It protects LPs in the event that key management or employees leave the investment activity should be halted.
II. When cumulative profits are tallied at expiration, distributions received by the GP in excess of a certain percentage will be deemed excessive and returned to LPs.
III. A LP gets all of its money back and often a preferred return (the equivalent of interest on contributed capital) before the GP may participate in the profits.
IV. If a limited partner in a fund has co-investment rights, it can invest directly in a company that is also backed by the private equity fund. The institution therefore ends up with two separate stakes in the company - one indirectly through the fund; one directly in the company. Some private equity firms offer co-investment rights to encourage institutions to invest in their funds. The advantage for an institution is that it should see a higher return than if it invested all its private equity allocation in funds - it doesn't have to pay a management fee and won't see at least 20 per cent of its return swallowed by a fund's carried interest. But to co-invest successfully, institutions need to have sufficient knowledge of the market to assess whether a co-investment opportunity is a good one.

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