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Emergency exit

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LPs have little to lose (and lots to gain) by defaulting on initial capital calls. All the talk nowadays is on finding the quickest and least painful way out; of deals (for stressed GPs that are willing to accept low pricing) and of funds, with limited partners coming up with ever more creative ways of avoiding draw-downs. The Permira method of amicably resolving this issue is a clever one and is likely to mark the first of many (see cover story)

However, another trend that is likely to emerge is less friendly and will affect funds that have held a final close very recently - so recently that they have yet to draw down any funds. LPs are whispering that defaulting on the first capital call may be a cost-effective way of reneging on their recent commitments to funds closed just ahead of the acceleration of the meltdown.

Defaulting at any point incurs severe penalties - from loss of funds already sunk to even being sued by the GP. However the latter is improbable, as few GPs are willing to take the time and money to do such a thing. To boot, when the market comes back round and these GPs need to hit the fundraising trail again, LPs will clearly remember if they were treated so poorly as to be taken to court. Most GPs admit this and so the threat of widespread legal action is minimal. The first point - kissing goodbye to capital already deployed - is negligible in a first capital call.

So you have nothing to lose other than being chucked to the back of the LP queue in terms of distributions. But what does that mean nowadays? Distributions are likely to be paltry at best for the foreseeable future (so say sceptical LPs; many GPs (unsurprisingly) disagree) - and what queue? So many LPs may exercise this that they will bear less of a scarlet letter than once imagined.

GPs are already worried about this: they've gone from feeling reassured that they managed to close a fund "before the LP window really shut" to worrying that they may face inaction or negative action from their investors. Some are avoiding having to deal with the issue by agreeing to not make any calls for the next 12 months. Clever, since they can bring in fees while not having to incur the wrath of certain investors, and focus on portfolio management rather than fooling themselves and others by busily searching for deals.

Yours sincerely,

Kimberly Romaine

Editor-in-chief, unquote"

Tel: +44 20 7004 7526

kimberly.romaine@incisivemedia.com.