The Unspoken Rules of Limited Partner Investing

A limited partner (LP) invests money into a fund with the hope of great financial returns, but with no day-to-day involvement or control over that fund.

There is a certain beauty of investing in the private markets that roots itself in the delicate relationship between fund managers (General Partners, GPs) and their investors (Limited Partners, LPs). The dynamic is built on trust, reputation, and shared history that hopefully leads to a symbiotic and fruitful relationship. The GP runs the the investment fund — for example, venture capital (VC), private equity (PE), etc. — while the LP anticipates a financial return from the fund. The crux of the investment relationship is that both parties need (and want) each other: the GP “chases” the LP for their money, and the LP “chases” the GP for the financial returns.

But while they both may need each other, there are a myriad of factors that tip the scale in one of the party’s favor. For example, new fund managers may have trouble raising capital given their lack of experience and historical returns. On the other hand, a well-performing fund is in no shortage of investors (good luck getting into Sequoia or Kleiner Perkins’ next fund).

Enumerating all the reasons that would affect one of the party’s leverage is beyond the scope of this piece but suffice it to say, if an investor finds themself in a position of less leverage, they should strive to be the best LP they can. Short of writing large checks, a good, or “model”, investor should follow a handful of best practices, tenets, and customs that add value to their relationship with their fund managers (GPs).

Below I do my best to articulate customary practices I’ve picked up empirically or from other friends and investors.

Always send your money in on time

Pay on time! This is rule #1 for a reason. Although seemingly trite, its importance cannot be understated and therefore appropriate as a first rule of my first article on this topic. Responding to a capital call after the due date is tacky and poor form.

Don’t be the investor that the GP has to chase down to get their money. When an investor commits capital to a firm, paying up on time is the right thing to do. For as hard as it may be to watch that money leave your bank account, the consequence of nonpayment is a material breach of your agreement with the fund and a stain on your investment track record. Don’t make the GP wait. No excuses.

A final thought on this point: the GP is busy enough as is (managing deal flow, processing investment opportunities, investor relations, managing the firm, etc), wouldn’t you want them to spend as little time as possible on administrative work and instead focus on making you money? Time is money, let’s not waste it on bill collecting.

Know your limits

An investor should be careful what they ask of their fund manager. Although investors are granted many rights and disclosures, beyond the legal and contractual requirements, it’s in the GP’s full discretion to provide more information. Knowing where to draw the line between staying informed and overreaching takes years to learn. Said another way, by the pure nature of an investor’s check size, they may command more contractual rights (very commonly through side letters), or by nature of their personal relationship with the fund manager, the investor may receive additional informal updates, but understanding where one stands on this spectrum is what divides the “good” investors from the “headache” investors.

This is more of an art than a science but as a rule of thumb, the investor’s requests and communications are proportional to their “check size” (their ownership percent of the fund). There is no exact formula but if an investor is $2 million of a $10 million fund, that 20% may command more attention and quicker responses than an investor of $100,000 into the same fund.

Be available

Generally speaking, funds sometimes need their investor’s signature, approval, or authorization regarding some matter involving their investment. Don’t keep them waiting! Get the paperwork signed, notarized, and submitted as soon as possible. Don’t make the fund track you down. If you receive an email, respond. If you receive a phone call, answer (or ring them back). This of course happens often during the initial funding phase of the investment but sometimes could occur multiple times throughout the funds lifetime.

This reminds me of a short story. As a typical millennial, I rarely use my voicemail. I figure that between text and missed calls, I can always infer who needs to get a hold of me. Well, other generations, apparently like to leave voicemails. One day a few years ago, a GP called me to inform me one of our company’s had exited (thereby providing a cash windfall). He called from an unfamiliar number and as usual, I assumed it was spam and didn’t bother to check or call back. Three days later he emailed me asking him to call him back. Although this was a no-harm-no-foul situation, I was thoroughly embarrassed. I didn’t want to appear ungrateful, or worse, that I was actively ignoring or avoiding him. Imagine if he wanted to offer me another investment opportunity that was filling up quickly — I would’ve kicked myself if I missed that chance.

Bottom line is clear: make yourself available to those that make you money.

Be thankful; money is cheap

With interest rates at all time lows, money is cheap. Investment capital doesn’t have the power it once did back in 2009 — everyone is chasing higher returns, and ready to take on additional risk to achieve those returns. Millions of other investors are looking to deploy their capital. I’d go as far to say that for the well-known, highly-successful funds, you need them more than they need you (read: they have a long list of LPs ready to invest more capital).

The obvious corollary here is be thankful for each (well-performing) investment opportunity. If the fund manager is doing well, send a note (or email). If one of the fund’s investments just hit a home run, send your congratulations to the fund manager. Even if they don’t respond or reply with a brief acknowledgement, sending thanks shows you are grateful for this opportunity. It could also help keep you top of mind for their next fund.

Here is when many people push back by saying, “it’s my money they want, why should I have to be so deferential and thankful?!” The simple reason is, good rain makers are hard to come by. If you give your GP a hard time, your money may no longer be worth their headache, and they will forego your money in exchange for their peace of mind.

The key takeaway here is to show you appreciate those that make you money and say thank you.

Bonus: be value-add

We save this point for last because not everyone can do this. Being value add is an extra step, it’s considered above and beyond the normal expectations of an average limited partner. In a nutshell, a value-add investor is one that brings more to the table than just their money. Two examples for you.

Tech employees investing in tech companies. Many times entrepreneurs or high-value tech employees will be granted access to invest in VC funds. This is because the fund managers know it will be much easier to call on the entrepreneur if their financial interests are aligned. The GP may want to make an intro, or ask the entrepreneur to mentor one of their portfolio companies. For example, every time I make an investment into a startup or VC fund, I tell them that my help and advice is always one phone call away. I’m fortunate enough to have a skillset that startups need but the larger point remains the same: the mere offering of help is a great start to becoming a value-add investor.

Attorneys investing in real estate funds. Lawyer LPs bring a lot to the table outside of just their capital. If they are investing in the same field that they practice in (ie, real estate, private equity, etc), they could offer free / discounted advice or services. Even if the fund does not jump on that opportunity, the mere offering shows goodwill on the part of the investor.

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