a. There is a compensation rule in the LPA called carried interests. Please explain this rule. What is the purpose of the rule?

There are two LBO funds set up for ten years with $1 billion committed capital each.

Fund A has the following characteristics: A constant management fee of 2% and carried interest of 80-20.

Fund B is as follows: A decreasing management fee (2% in the first 5 years, 1% for the rest), preferred return of 8% per year, 100% catch-up, and carried interest of 70-30.

(b) What is the investment capital of fund A and B, respectively?

(c) Suppose all investment capitals are invested at t=0 and both funds have the same internal rate of return (per year) of 12% on investment capital. The LP maximizes payoff in year 10. Which fund is better for the LP and how much more can the LP get by choosing the better fund?

(d) What is the total payoff (including all fees) for the GP of fund A and B, respectively?