How Private Equity Cash Flows Work

How do private equity cash flows work?

When investing in public markets, you expect to purchase a stock, watch your investment grow (hopefully!) and sell it when the time is right for you. Sometimes, you receive dividends in addition to capital appreciation.

Just like publicly traded securities, when it comes to private equity funds, private equity cash flows vary based on structure and strategy . Understanding the cash flows for open-end and closed-end funds will help you understand what happens to your cash over time, and ultimately, how your funds are distributed back to you.

Open-Ended Funds

Open-end funds are also referred to as “evergreen” for a couple reasons:

• These funds can continuously raise capital over time

• Realizations or proceeds from exits are reinvested into new opportunities so that you remain fully invested until the point at which you decide to sell your position.

When you invest in an open-end fund, your money starts working right away. Upon investing, you might have the option to choose whether exits are reinvested back into the fund to grow more, or paid out to you. Every month or quarter, depending on the fund, you'll see how much your investment is worth, and you’ll get a detailed update on performance.

When you want to take your money out, you submit a repurchase request to the fund, who will buy your shares back. There is typically a designated timeframe on a monthly or quarterly basis where you can do this, called a “repurchase window” or a “liquidity window.” When you invest in an evergreen fund through Arta, Arta’s team can advise you of upcoming liquidity windows and help you sign up for the repurchase process when you’re ready to do so. Note, if too many people want to cash out at the same time, the fund might limit how much you can take out.

Closed-End Funds

The aptly named “closed-end” funds tend to have a limited number of investors and dollar amount, and a set fundraising end date. For example, a fund manager may aim to raise $500M, complete the fundraise at the end of the year, then deploy those assets to grow their investments over a ten-year duration.

For these types of funds, you commit to investing a specific amount of money, but you don't send it to the fund manager immediately or all at once. Closed-end funds operate on a schedule, but that schedule may vary based on market circumstances and when fund managers choose to pursue attractive investment opportunities.

Some key details: 

• The fund managers ask you to transfer some of the investment amount you committed to the fund when a good buying opportunity arises. This request for a percentage of your committed amount is called a “capital call."

• By only calling for part of your commitment when attractive opportunities arise, you have the option to put your committed cash to work so your  money isn't sitting idle. You can keep your money in a liquid  high yield cash or cash alternative investment until it's needed. 

• That said, because capital calls represent a moment when the fund manager believes there’s a compelling opportunity, the turnaround on a capital call will be fast – sometimes less than a week. For that reason, you’ll want to make sure no matter where your committed capital is parked, that it’s  in a liquid account type.

The timing and amount of each capital call relative to your total committed amount can vary greatly. For example, if you’ve committed $100,000 to a fund in January, you may get a $20,000 capital call in May, a $5,000 capital call in October, another $50,000 call in January of the following year, and so on. This is fully up to the manager's discretion. 

Distributions

For both types of funds, how you get money back can vary.

Open-End Fund Distributions With open-ended funds, it's straightforward: Decide to take your money out, send the fund manager a repurchase form, and receive capital keeping in mind there might be limits based on how much the other investors in the fund may want to withdraw at the same time.

Closed-End Fund Distributions

The initial funding process for a closed-end fund may take a few years, during which your capital is called and initial fees and expenses are realized, while you see little or no appreciation in valuations until later on. This dynamic results in a  “J-curve.” As the fund manager starts executing the value creation plan and the value of the underlying portfolio starts to grow, you start to see the value of your investment rise and eventually come back to you as distributions in later years.

Different strokes for different folks - and funds!

Each fund type presents unique mechanisms for investing capital and distributing returns. It's all about finding what works best for your investment goals and how you like your money to grow: 

• Open-End Funds: Your money goes in and starts working immediately. You can get updates and choose to take your money out during specified “liquidity windows.”

• Closed-End Funds: You commit an amount of money to invest, and over time send installments to the fund manager as they see good investing opportunities.

We’re here to help!

What makes a fund 'right' for you versus another Arta member can vary greatly. Your Private Markets and Advisory teams here at Arta are always happy to talk through the different options and nuances to find what’s best for you. Set up your free account here, or schedule a welcome call to connect with our Member Success team.