The Dynamics of Pay-for-Performance Sensitivity in Private Equity Funds
85 Pages Posted: 27 Feb 2021 Last revised: 16 Nov 2022
Date Written: October 27, 2020
I explore the dynamics of pay-for-performance sensitivity in private equity funds. Carried interest gives private equity fund managers 20% of fund profits, conditional on beating a hurdle rate. Consequently, early deal successes (failures) put the fund in (out of) the carry, making pay for performance close to 20 cents on the dollar (zero). I document that companies acquired in buyouts grow faster when acquired by funds that have a higher pay-for-performance sensitivity. The effect is stronger when explicit incentives are expected to be more important. I confirm these results using exogenous variation in pay-for-performance sensitivity due to public market movements. My findings provide evidence of the importance of incentives for value creation in private equity.
Keywords: Private Equity, Carried Interest, Incentives
JEL Classification: G32, G34
Suggested Citation: Suggested Citation