Funds use a lines of credit to fund capital. The most common is a bridge between funding an investment and calling capital from investors. Based on a poll the audience indicated a wide range of uses and durations for their credit lines. Some indicated that they use the credit line to fund capital to portfolio companies.
Investors are asking questions about credit line use, but their does not seem to be a consensus on how a credit line should be used. Limited partners generally like to get their assets to work. There are also investors who like the lines because it can deflect some of the J curve effect.
Do you notify investors about the use of the credit facility as you go. According to a poll, about 20% of the attendees sent a notice to limited partners when they draw on the line of credit. Some of the audience indicated that they report on the line balance quarterly.
According to an audience poll, 15% of the attendees allowed LPs to opt out of use of the line of credit. The opt out creates an accounting headache.
ILPA has issued guidance on the use of lines of credit. The guidance has a 6 months term limit. Many investors seem comfortable with a longer term, up to 12 months.
There seemed to be a lot of disdain for running the waterfall as if the capital call was made instead of the draw from the line of credit.
There are many ways to calculate returns and investors have different ways for calculating net returns. Of course, use of the line affects performance. The bigger effect is on IRR, not on the equity multiple. It may make sense to have a prepared response on how your firm’s use of a credit line differs from the ILPA guidance.
One key to avoid regulatory problems is disclosure around use of the credit line. The ability to use the line should be disclosed in the PPM. You should note that the returns in marketing materials may be affected by the use of the line of credit.
Can you use the line to make distributions? Everybody seemed uncomfortable with this. It seems better to wait and let the sale happen. People noted that they have run into situations where they realized on an investment before they called capital.
You should pay attention to how the use of the credit line has changed over time and may affect a history of funds’ performance in a marketing track record.
(This session was subject to the Chatham House Rule so I have not identified the participants and have not attributed any of the statements to anyone.)
