The Drawbacks of Clawbacks: A Waterfall guide to mitigating Private Markets clawback risk

16 January 2024 - Private Markets General Partners (GPs) are increasingly focused on the risk posed by Limited Partners’ (LPs) clawback provisions on Private Markets funds – given GPs may have to delay investment realizations due to one of the most difficult portfolio investment liquidation markets in decades, allowing LPs to “claw back” any previous carried interest paid to GPs.

While the practice of mitigating clawback risk in Private Markets waterfall distributions is still in its relative infancy, its importance is growing due to the SEC’s recent Private Fund Reporting Rules requirement to enhance reporting to LPs on GP and LP clawbacks. As a result, the Citco group of companies (Citco) has seen a 35% increase in overall enquiries and active support on clawback risk in 2023 alone, based on its in-house Waterfall team’s wide experience in supporting Citco’s overall Private Markets book of clients with more than $800B in assets under administration (AUA), across Private Equity, Private Credit and Real Assets.

Therefore, Citco outlines the most effective means of mitigating clawback risk in its “The Drawbacks of Clawbacks Report - A Waterfall guide to mitigating Private Markets clawback risk”. It focuses on six specific recommendations on which Citco has provided detailed support to its Private Markets clients:

1. Non-time weighted Preferred Return calculations;
2. European-style expense recoupment provisions;
3. Carried Interest escrow requirements;
4. Contemporaneous unrealized waterfall calculations;
5. “Zero Proceeds” waterfall calculations;
6. “Loss-to-Clawback” analytics.