I Have a Defaulting LP, How Can NAV Financing Help Me?

A Limited Partner (LP) default is one of the most challenging situations a General Partner (GP) can face.

It is a disruptive event that can have significant financial and administrative consequences for the fund. When an LP fails to meet a capital call, it creates a funding shortfall that can jeopardise new investments, strain the resources of the fund, and potentially damage the GP’s relationship with its other investors. The GP is then faced with the difficult task of enforcing the default provisions in the Limited Partnership Agreement (LPA), a process that can be both time-consuming and contentious.

While the LPA provides a range of remedies for an LP default, these are often punitive and can be value-destructive for both the defaulting LP and the fund. For example, the forced sale of the defaulting LP’s interest on the secondary market may have to be executed at a steep discount, resulting in a poor outcome for all parties. This is where Net Asset Value (NAV) financing can offer a more constructive, value-preserving solution.

As a GP, you can use NAV financing to manage the fallout from an LP default in a more strategic and controlled manner. Instead of immediately resorting to the punitive measures in the LPA, you can work with a specialist NAV lender to bridge the funding gap created by the default. The fund can take out a NAV loan, secured by a portion of the fund’s investment portfolio, to cover the amount of the defaulted capital call. This ensures that the fund has the capital it needs to continue its investment activities without interruption.

This approach has several key advantages. Firstly, it provides the fund with immediate liquidity, allowing you to proceed with planned investments and avoid the disruption caused by a funding shortfall. Secondly, it gives you more time and flexibility to resolve the situation with the defaulting LP. You are not forced into a fire sale of their interest. Instead, you can work with the LP to find a more orderly solution, which might involve them curing the default at a later date or a more structured and value-maximising sale of their stake.

By using NAV financing to manage an LP default, you are acting in the best interests of the fund and all of its investors. You are mitigating the financial impact of the default, preserving the fund’s investment momentum, and creating the space for a more considered and value-accretive resolution. It transforms a potentially damaging event into a manageable situation, demonstrating your ability to navigate challenging circumstances with sophistication and skill. In the complex world of private equity, this is a capability that will be highly valued by your investors.