Venture capital is a financial intermediary. The source for funds from those with the surplus fund and give these funds to deficit agents, mostly startups. A VC is made up of Limited Partners (LPs) and General Partners (GPs). Who are the LPs? This article will focus on them.
Meaning of Limited Partners
These are partners whose liabilities are limited to the amount of capital that remained unpaid. In the events of bankruptcy, LPs will be required to pay-up the part of capital yet unpaid. But his or her personal estates will never be used to pay the debts of the Partnership.
Who really are LPs in a VC firm?
The LPs are VC fund providers. They are those with the surplus fund. Limited Partners can be an individual investor or institutional investor. Institutional investors include pension funds, large corporations and university endowment.
The general partners will source for funds from the LPs. Usually, the total sum of the fund is agreed upon by both parties. Then, the LPs will agree on a scheduled date decided by the GPs on when the fund will be disbursed.
The finance may be scheduled for several periods within 10 years or more. Or a lump sum will be provided in a single period to lapsed in a finite lifetime usually in 10 years with a few years optional extension.
The total VC fund provided by the limited partners is referred to as “committed capital” of the fund. When the fund is scheduled within certain periods, each time finance is raised by the VC is called a “capital call” or “drawdown”.
Why you should be an LP
A limited partner provides the funds to the VCs. Therefore, they have greater expectations from them. Although the fund is risky since it will take more than ten years to recoup, dividend payment will always accrue to the LP.
At the end of the committed period or when the VC Fund is closed, the LP capital, usually preference shares may be converted to ordinary shares through an Initial Public Offering in a Stock Exchange Market. This may increase the value of the capital, thereby earning capital gains.
Furthermore, if at any reason the startup the fund was invested in failed, the LP-only losses his or her capital and not her personal possessions.
Why you shouldn’t be an LP
Limited partners face the risk of losing their fund. Most of the Equity companies invested in by the VC are a high-risk company with great potential for growth. However, economic conditions may change and force the startup into bankruptcy or liquidation. When this arises the LPs losses their fund.
Also, the investment is for a long period of time. The fund should have been invested in another type of investment vehicle and yield more earnings within a short time compounded periodically.
A VC fund is normally a limited partnership. The fund is provided for five to ten years periods. It is expected that during the investment periods, the fund should provide a fixed dividend to the LPs. In the end, an IPO or Merger and Acquisition will be used to pay back their capital invested.