A continuation vehicle is a sale, so the old fund's waterfall runs at the transfer price: the GP crystallises carry on assets it still manages, and in the catch-up zone the price is its money one for one.
Run the old fund's waterfall on the transfer price, as though the assets had been sold to a third party, because legally they have been. On an illustrative fund with 1,000 paid in, 900 already distributed and a hurdle of 1,350, selling the remaining 600 of NAV to a continuation vehicle at 97 per cent crystallises 96.4 of carried interest, 16.6 per cent of the price, on assets the GP will go on managing. And between 75.0 and 89.6 per cent of NAV the fund sits in its catch-up, so every extra unit of price goes to the GP.
Worked in full in The Private Equity Secondaries Investor by Julian R. Sterling, with every figure reproduced in a free workbook.See the book on Amazon →
The fund is illustrative and runs a European, whole-fund waterfall with an 8 per cent preferred return, 20 per cent carry and a full catch-up. No carry has been paid yet, because distributions to date have not cleared the hurdle.
| Item | Value |
|---|---|
| Capital paid in by LPs | 1,000 |
| Distributions to date | 900 |
| Hurdle: capital plus accrued preferred return | 1,350 |
| Remaining NAV, transferred to the continuation vehicle | 600 |
| Transfer price, % of NAV | 97.0% |
| Carry rate, catch-up | 20.0%, full |
| Share of crystallised carry the GP rolls | 50.0% |
Price = 600 × 97.0% = 582.0; cumulative distributions = 900 + 582.0 = 1,482.0
Above the hurdle = 1,482.0 − 1,350 = 132.0
Catch-up needed = 20 / 80 × preferred return of 350.0 = 87.5, all to the GP
Remainder = 132.0 − 87.5 = 44.5, split 80 / 20, so 8.9 to the GP
Carry crystallised = 87.5 + 8.9 = 96.4, which is 20.0% of the 482.0 profit
The selling LPs receive 582.0 − 96.4 = 485.6. Of the 96.4, the GP rolls 50.0 per cent into the new vehicle and takes 48.2 in cash, becoming an 8.28 per cent investor in a vehicle bought for 582.0. For the mechanics of the catch-up itself, see full versus partial catch-up.
The same waterfall at different transfer prices shows where the GP's interest and the selling LPs' interest diverge.
| Price, % of NAV | Price | Cumulative distributions | GP carry | Selling LPs receive | GP share of price |
|---|---|---|---|---|---|
| 80% | 480.0 | 1,380.0 | 30.0 | 450.0 | 6.2% |
| 85% | 510.0 | 1,410.0 | 60.0 | 450.0 | 11.8% |
| 90% | 540.0 | 1,440.0 | 88.0 | 452.0 | 16.3% |
| 95% | 570.0 | 1,470.0 | 94.0 | 476.0 | 16.5% |
| 97% | 582.0 | 1,482.0 | 96.4 | 485.6 | 16.6% |
| 100% | 600.0 | 1,500.0 | 100.0 | 500.0 | 16.7% |
Between a price of 450.0 and 537.5, 75.0 to 89.6 per cent of NAV, the fund is in its catch-up: the LPs have their hurdle and every unit of extra price goes to the GP. At 80 and 85 per cent the selling LPs receive the same 450.0; the 10 points of price between 75 and 85 per cent are worth 60.0, all of it carry. Above the catch-up, a point of NAV, 6.0, gives the GP 1.20 and the LPs 4.80. The GP is on both sides of this price, and in the catch-up zone it is negotiating entirely for itself.
Compare the GP's position with a status quo in which the fund holds the assets for 4 more years and sells them for 1,050, the same exit the continuation vehicle expects.
Status quo: the unpaid hurdle of 450 compounds at 8.0% to give a total hurdle of 1,512.2; distributions of 900 + 1,050 clear it and the full catch-up gives 20% of 950.0 profit = 190.0 of carry, in year 4
Continuation vehicle: 48.2 of cash now; the rolled 48.2 grows with the vehicle to 82.1; new carry at 12.5% over an 8.0% hurdle of 791.8 on a 468.0 profit = 58.5, in year 4
At a 15.0% discount rate (a factor of 1.75 over four years): status quo 190.0 / 1.75 = 108.6; continuation vehicle 48.2 + (82.1 + 58.5) / 1.75 = 128.6
On the same exit, the GP is 20.0 better off in present value, even though its undiscounted total, 188.8, is slightly below the 190.0 of the status quo. What it buys is time and certainty: carry crystallised now on a price it helped set, a fresh fee base, and a second carry on the same assets. That is why the price process, the fairness opinion and the size of the GP's roll are the three things an LP advisory committee should look at hardest.
Funds differ: some LPAs exclude GP-led transfers from carry, some escrow crystallised carry, and deal-by-deal waterfalls crystallise differently. Read the waterfall clause and run it at the proposed price before taking a view.
A continuation vehicle crystallises carry because it is a sale: run the old waterfall at the transfer price. Here 97 per cent of a 600 NAV crystallises 96.4, and inside the catch-up zone every unit of price is the GP's. The GP-led transaction review, covering price and process, the choice offered to investors and the GP's economics, is among the working documents in the free companion files for this book.
Usually yes, because the transfer is a sale by the old fund and its waterfall runs on the proceeds. On an illustrative fund with 1,000 paid in and 900 already distributed, selling the remaining 600 NAV at 97 per cent takes cumulative distributions to 1,482.0 and crystallises 96.4 of carry, all of it in cash or rolled, four years before the assets are actually exited.
Practice varies, and buyers and LP advisory committees push for a large share to be rolled so the GP keeps its incentive. At a 50 per cent roll, the GP takes 48.2 in cash and rolls 48.2, which makes it an 8.28 per cent investor in a vehicle bought at 582.0. The rolled amount is the GP's real alignment, not the headline commitment.
Because the GP sits on both sides and its carry depends on the price. Once distributions pass the hurdle, the full catch-up gives the GP every unit of extra price: here between 450.0 and 537.5, or 75.0 to 89.6 per cent of NAV, selling LPs receive 450 whatever the price. Above that zone the GP takes 1.20 of each point of NAV, which is 6.0.
Continuation vehicles and the general partner's economics in a GP-led deal are covered from chapter 4 of The Private Equity Secondaries Investor. 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.
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