A pension fund commits $500 million to private equity (PE) but does not expect all of it to be invested at once. A special purpose acquisition company (SPAC) raises $500 million and loses 60% of it to redemptions before the deal closes. Understanding why both outcomes are normal is the core of this material.
Key abbreviations. These terms appear throughout the lesson:
- IRR (internal rate of return): the annualized, money-weighted return that sets the present value of all cash flows to zero.
- MOIC (multiple of invested capital): distributions plus the remaining value of the investment, divided by the capital invested.
- IPO (initial public offering): a company's first sale of its shares to public investors.
- LBO (leveraged buyout): an acquisition of a company financed with substantial borrowed money.
- LLC (limited liability company): a legal entity whose owners are not personally liable beyond their investment.
- SPAC (special purpose acquisition company): a listed shell company formed to merge with a private company and give it a public listing.
Common mistakes
- Confusing committed capital with invested capital. An LP commits $100 million to a fund. That does not mean $100 million is deployed. Capital is called in tranches over an investment period of roughly two to five years. At any point, actual invested capital may be well below the commitment.
- Thinking subscription lines create real alpha. The IRR boost from subscription lines is purely mechanical: a shorter LP holding period with the same underlying investment proceeds before financing costs. It does not reflect better investment selection or operational improvements. An LP comparing two GPs must strip out subscription line effects to evaluate true investment skill.
- Reversing the IRR and MOIC effects of subscription lines. Subscription lines can increase reported IRR (shorter LP holding period), while financing costs reduce MOIC (interest cuts distributions or adds to contributed capital). The IRR effect is not guaranteed; on a losing deal, IRR fell in the worked example.
Bottom line
- PE maps to the business life cycle: VC funds launch-stage start-ups, growth equity the growth stage, buyouts target maturity; the strategies overlap on a continuum.
- GP manages, LP funds: the firm runs two LLCs (a GP earning carry, an Investment Advisor earning management fees), makes a small commitment alongside LPs (1% in the curriculum's example), and performs five functions: pool, screen, finance, monitor, exit.
- Vintage year is generally the year a fund first draws capital to invest in a company (some providers use legal start or first close); match the provider's convention when benchmarking same-vintage peers.
- LP-GP relationship runs three phases (entry/establish, build/harvest, decline/exit), a separate timeline from any single fund's roughly 10-year lifecycle.
Exam shortcut
When a scenario says PE holdings are unchanged while the rest of the portfolio falls, and PE's percentage rises, the answer is denominator effect. When you see two funds with identical investments but different reported IRRs, check for subscription line timing differences.
The full lesson (about 10,256 words, 68 min read) adds 2 worked examples, all 8 common mistakes, a self-check, free in the app.
Learning objectives
- intro
- firms and funds
- institutional programs
- subscription lines
- lp gp lifecycle
- publicly traded gps
- exit ipos
- exit spacs
- vc overview
- vc stages
- vc risk returns
- vc return research
- vc valuations
- vc financing
- vc securities
- vc dynamics
- growth equity intro
- growth equity valuation
- growth equity deals
- buyouts overview
- buyout strategies
- buyout characteristics
- lbos
- pipes
- liquid alts
- long-hold buyout funds
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