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Having more investors in a fund is, generally, a good thing. Keeping track of allocations, though – especially as investors join on different dates and increase their contributions amidst capital calls and other fund activity – can be a little trickier.
In this article we walk through one of the fundamentals of private equity fund accounting – subsequent closings – and explain how Allvue can help streamline and simplify the process.
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After a GP has secured enough soft commitments to determine that a fund can be launched, the private placement memorandum (PPM) is published – stating the initial close date of the fund, before which investors can complete their paperwork and make a hard commitment.
But after the initial close, GPs can still seek additional investments up to a given date, as per the terms specified in the PPM. These additional investments are known as subsequent or additional closings.
A subsequent closing is any closing that happens after the initial closing date and before the final closing date – be it to accommodate a subsequent investor (also known as an additional investor or further partner) or a follow-on commitment from an existing investor.
As with many things in fund accounting, the concept is straightforward but it’s in the details that things become more complex.
To better understand why, let’s walk through the following scenario:
Fund I, having secured a handful of investors who have signed the fund’s LPA, is now ready to call capital and make investments. The initial capital commitments, including the GP’s portion, are as follows:
|Investor||Commitment ($)||% Ownership|
Shortly after the initial close, Fund I makes a capital call of $1 million to fund investments and charge set up costs:
|Investor||Commitment ($)||% Ownership||Drawdown 1|
And, three months after that capital call, continued fundraising efforts net a new investor. Fund I’s investor allocations now looks like the following:
|Investor||Commitment ($)||% Ownership||Drawdown 1|
With this additional investor’s commitment, the initial investors’ ownership has been diluted, yet the new investor hasn’t paid anything into the fund. Investor D could simply make the initial drawdown payment to balance things out, but this wouldn’t accurately compensate the initial investors and would eat into Fund I’s IRRs.
Instead, an equalization needs to be completed.
Equalization is the process of truing-up all investors as if they had all joined a fund on its initial closing date. The process of doing so is multi-pronged.
First, Investor D pays in drawdown 1. But rather than making the payment to the fund, the payment is allocated across the initial investors, according to their percent ownership of the fund.
|Investor||Commitment ($)||% Ownership||Drawdown 1||(Returned) / Called||Adj. Drawdown 1||% Drawn|
Investor D also needs to make an equalization interest payment to the other investors, calculated as interest on the equalization amount based on the amount of time between the drawdown and the subsequent close, and at a rate stipulated by the LPA – often either a market rate of interest plus some basis points, or a hurdle rate of 8%, for example.
These calculations are relatively straightforward, but it is easy to imagine how they quickly become increasingly complex as factors multiply. Funds might have multiple capital calls they need to track between the initial and subsequent closing, as well as multiple closings with different investors onboarded at different times. Not to mention they need to keep track of details across multiple funds.
Additionally, while the above tables look at drawdowns as a single activity, fund accounting teams need to be able to break out those inflows by investment activity, management fees, fund expenses, etc. Legacy tools like Excel increase risk and further complicate the process rather than simplifying it.
Fund accounting teams need a better solution to meet their data management needs.
Allvue’s Fund Accounting software solution helps alternative investment fund managers streamline subsequent closings by simplifying multiple workflows involved.
Our Fund Accounting solution facilitates the process of creating entries associated with a subsequent close, including rebalancing, interest calculations, and true-up entries. Our solution can be configured to calculate equalization rates based on either interest day count or interest rate so that it can match your fund requirements. And rebalancing can be calculated across entities – correcting all investments and expenses that were shared across funds.
The subsequent close process shouldn’t slow down your workflows or create added risk. Learn how Allvue’s Fund Accounting software solution can help empower superior investment decisions.
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