The Dynamics of Pay-for-Performance Sensitivity in Private Equity Funds

85 Pages Posted: 27 Feb 2021 Last revised: 2 Nov 2021

See all articles by Johan Cassel

Johan Cassel

Harvard Business School; Swedish House of Finance

Date Written: October 27, 2020

Abstract

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

Cassel, Johan, The Dynamics of Pay-for-Performance Sensitivity in Private Equity Funds (October 27, 2020). Available at SSRN: https://ssrn.com/abstract=3756122 or http://dx.doi.org/10.2139/ssrn.3756122

Johan Cassel (Contact Author)

Harvard Business School ( email )

Boston, MA 02163
United States

Swedish House of Finance ( email )

Drottninggatan 98
111 60 Stockholm
Sweden

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