The Institutional Limited Partners Association (“ILPA”) recently issued a set of recommendations, which they are encouraging fund managers and investors to follow to ensure that fund borrowings secured by investors’ unfunded capital commitments work to the benefit of such investors. The purpose for such borrowings, commonly known as subscription credit lines, has evolved from primarily being utilized as a short-term mechanic to fund investments or expenses prior to drawdown in order to streamline capital calls, to more recently covering a broader spectrum of uses and goals.
As a general theme, the guidelines emphasize stricter parameters on the use of such lines and greater transparency with respect thereto. Specifically, ILPA calls for “reasonable thresholds” relating to such lines; namely, for such lines to be (i) capped at 15-25% of uncalled capital commitments, (ii) outstanding for a maximum of 180 days, (iii) utilized for a stated maximum period of time and (iv) secured against investors’ capital commitments only and not other fund assets. Additionally, ILPA recommends that the preferred return clock is linked to the date when a borrowing is made rather than the date capital is called from investors to repay the borrowing.
With regards to transparency, the guidelines encourage enhanced disclosure regarding the use of subscription lines and their impact on performance, both during the due diligence stage of a prospective manager and the term of the fund. For example, additional recommended quarterly reporting items include the balance and percentage of total outstanding uncalled capital under any such facility, the number of days outstanding of each draw down, the current use of proceeds from such lines, the material terms and costs to the fund, and both levered and unlevered IRR figures, and investors are advised during diligence to inquire as to the impact of lines of credit on track record and the manager’s official policy on such lines. While many managers have already began to provide more detailed information on such lines as part of their marketing and diligence materials in recent years, including tailoring their fund reporting to reflect some of the items suggested by ILPA, the recommendations go far further than what most sponsors do today.
In summary, while many of the recommendations have already been considered and addressed by experienced investors and managers alike, the issuance of formal guidelines by ILPA may lead to more focused diligence and discussion regarding the manner in which such lines are utilized and reported. Taken together with a reasonable likelihood of increased focus from the SEC on the use of such lines, sponsors should be scrutinizing their practices more closely, taking the time to review relevant disclosures carefully and discussing with fund counsel. The ILPA guidelines can be viewed in full here. The guidelines, together with any subsequent revisions, will be incorporated into the revised ILPA Principles (version 3.0) that are scheduled to be released in early 2018.