Accel Partners VII Analysis

The Private Equity Partnerships (PEPs) agreement contains mechanisms to align the interest of general partners (GPs) with those of the limited partners (LPs): performance incentives and direct means of control. In the case of Accel VII, we are interested in how the performance incentives align both the interest of the general and limited partners. They include the terms of the general partners’ compensation structure and calculations of management fees and carried interest. These details can significantly affect the general partners’ incentive to engage in behavior that does not maximize value for investors.
In a typical incentive structure, Private Equity Partnerships often use an 80/20 profit-sharing rule based on the return on the partnership’s entire portfolio. This is different from the incentive structure of a mutual fund, which is based on the returns on individual investments. Thus, mutual fund managers are more interested in maximizing the returns of the most successful individual investments while neglecting those of average or below average performance. In PEPs, the incentive structure implies that GPs have a call option on 20% of the partnership’s total future payoff. Because it is a call option, carried interest gives the GPs incentives to take risks and to work hard to establish a positive investment track record. Carried interest also gives the GPs a great amount of upside. In other words, the GPs get a share in the fund’s net profits that is disproportionate to their committed capital, and this detail is essential to attracting talented managers. Thus, there is then a strong incentive to earn back the LPs initial investments and generate a net profit.
For the case of Accel Partners, reputation provides a significant performance incentive. Previous funds from Accel, particularly Accel Partners IV and V, had generated