Private Equity Fund Debt: Agency Costs and Cash Flow Management

Abstract

We study the effects of private equity fund debt on cash flows, performance, and agency relationships. Funds using debt delay capital calls, boosting performance measures sensitive to cash flow timing. We find that general partners use fund debt during fundraising to increase the likelihood of raising a follow-on fund and near the hurdle rate to increase their carried interest compensation, indicating that it exacerbates agency costs. A large-scale survey of general partners and limited partners suggests that fund debt facilitates cash flow management and amplifies agency conflicts. Our results highlight that fund debt could pose systemic risks to financial markets.

Keywords: Private equity, fund debt, performance, agency conflicts

JEL Classification: G23, G32, E22