An evergreen fund that buys LP interests at a discount and marks them to the manager's NAV books the discount as return on day one. The arithmetic, and who gains at whose expense.
The day-one gain is the secondary discount times the share of NAV deployed, and it lands in the fund's return the moment the purchase is marked at the manager's reported NAV. An illustrative evergreen fund buying LP interests worth 20 per cent of its NAV a year at 85 per cent of NAV books 3.0 points of return from marks alone: a portfolio earning 7.5 per cent reports 10.5, and 28.6 per cent of the reported figure is the discount being recognised, not value being created.
Worked in full in The Evergreen Fund Handbook by Julian R. Sterling, with every figure reproduced in a free workbook.See the book on Amazon →
Semi-liquid secondaries funds have grown on smooth, high reported returns, and the day-one mark is one reason the returns look that way. It is not an accounting trick: the fund really did buy below the reported NAV. But the gain belongs to whoever holds units on the valuation date, it is only as real as the reported NAV it marks to, and it does not repeat unless the fund keeps buying.
| Input | Value |
|---|---|
| Fund NAV before the deal | 1,000 |
| Reported NAV of the LP interest bought | 100 |
| Purchase price, per cent of reported NAV | 85% |
| Fund's own fair value of the interest, per cent of reported NAV | 95% |
| Secondaries bought a year, per cent of fund NAV | 20% |
| Underlying return of the portfolio | 7.5% |
Day-one gain = reported NAV of the interest − price paid = 100 − 85 = 15
Fund NAV jump = 15 ÷ 1,000 = 1.50 per cent, from 1,000 to 1,015
The 85 of cash becomes an asset carried at 100. If the fund's own view of fair value is 95, as its bottom-up underwriting suggested, 10 of the 15 is supported and 5 is the gap between the manager's mark and the buyer's.
Annual uplift = deployment as a share of NAV × discount = 20% × 15% = 3.0 per cent of NAV
Reported return ≈ underlying 7.5% + 3.0% = 10.5%, of which 28.6 per cent from marks
In Excel, with deployment in B1, discount in B2 and underlying return in B3: uplift =B1*B2, reported =B3+B1*B2. Of the 3.0 points, 2.0 are supported by the fund's own fair value and 1.0 is not.
The uplift is not a one-off. As long as the fund keeps buying at a discount, it adds the same contribution every year, which is why it shows up as a stable part of the track record. When inflows slow and buying stops, it disappears: the reported return falls towards 7.5 per cent with no change in the portfolio. The same distinction between return and its sources runs through whether an evergreen fund's yield is its return.
Marking at 100 transfers value between investors whenever the mark is above fair value.
| Discount | 10% of NAV deployed | 20% deployed | 30% deployed |
|---|---|---|---|
| 5% | 0.5 | 1.0 | 1.5 |
| 10% | 1.0 | 2.0 | 3.0 |
| 15% | 1.5 | 3.0 | 4.5 |
| 20% | 2.0 | 4.0 | 6.0 |
| 25% | 2.5 | 5.0 | 7.5 |
A young fund growing fast, deploying 30 per cent of NAV a year at a 20 per cent discount, adds 6.0 points a year from marks. That is the fund whose track record is most likely to be quoted, and the one where it says least about the portfolio.
Some managers accrete the discount over the expected life instead of booking it at once. Over four years the 15 on one deal adds 3.75 a year, about 0.031 per cent of the fund in each of the first twelve months. On the 20 per cent programme, year one shows 0.75 points instead of 3.0. A steady programme reaches the same 30 a year after four years, since four overlapping cohorts each accrete a quarter, so accretion does not change the long-run number. It changes the timing, and with it who receives the gain: investors who hold through the life of the interests, not those on the register at closing.
Multiply deployment by discount and subtract it before reading the return: here 3.0 of 10.5 points, with 1.0 above the fund's own fair value. The Evergreen Fund Handbook treats valuation as the price at which investors deal and fairness between them as a design choice, and the free workbook for this case sits beside working documents on valuation governance and fair treatment, class by class.
The jump in NAV when an LP interest bought below the manager's reported NAV is first valued at that NAV. Buying 100 of NAV for 85 in a 1,000 fund and marking it at 100 lifts the fund's NAV by 15, or 1.50 per cent, the day the deal closes. Nothing about the underlying companies has changed.
Accreting spreads the gain over the expected life instead of booking it at once. Over four years a 15 discount adds 3.75 a year per deal. Year one shows 0.75 points instead of 3.0 on a programme buying 20 per cent of NAV a year, though a steady programme reaches the same annual figure after four years. The difference is who receives it: holders over the life, not holders at closing.
Investors who subscribe after the mark. If an interest bought at 85 is marked at 100 but is fairly worth 95, the fund's NAV of 1,015 overstates fair value by 5, so a 100 subscription overpays by 0.49. Investors who redeem soon after collect part of the unearned 5: 0.25 for a 5 per cent holder.
This article is one calculation from The Evergreen Fund Handbook. The book takes the same case from first principles to the decision, chapter by chapter, and every figure it prints is a live formula in the free companion workbooks.
Get the book on Amazon →Free companion files
Also on Amazon UK · Amazon Germany · Amazon France · Amazon Canada
Reading guide: private equity and private markets → · All 1340 articles →
If this book helped, or didn’t, a few lines on Amazon are worth more than they look: they are what the next reader goes on. Write a review. The workbook stays free either way.