Founders of private equity firms get a disproportionate share of the profits, regardless of their success as an investor, said a new paper by Josh Lerner, the Jacob H. Schiff Professor of Investment Banking at Harvard Business School, and Victoria Ivashina, a professor in the finance unit at Harvard Business School.
At the same time, senior partners are getting a smaller share of the economics, including carried interest and ownership. Individual senior partners with a smaller economic share are more likely to leave the firm, even after accounting for their performance, the study revealed.
These senior partner departures are making the firms less stable and also are making it harder for these firms to raise capital, the study showed.
This research demonstrates how important it is for limited partners to look into how private equity firms share profits among their investment executives, Mr. Lerner said in an interview.
“If you want long relationships with funds, putting more weight on this consideration (firm economics) is important,” he said.
Founders have to learn to share if they want their firms to outlive them, Mr. Lerner said.
“Founders deserve to be rewarded,” he said. “If one of your goals is to create a firm that is going to live beyond yourself, one important step to take is to share the goodies.”
Mr. Lerner and Ms. Ivashina examined 717 private equity partnerships analyzed by a major institutional investor in the course of the investor’s due diligence. Mr. Lerner declined to identify the investor.