How do subscription (capital-call) credit lines distort a fund's reported IRR, and why are LPs increasingly scrutinizing them?
An advanced Private Equity question — expect it in final rounds and case-heavy interviews (IB, PE, Big-4 Transaction Services).
THE SHORT ANSWER
A subscription line lets the GP fund deals by borrowing against LPs' uncalled commitments, then call capital from LPs later. Because IRR is time-weighted, delaying the capital call shortens the period LP money is actually deployed, which mechanically boosts the reported IRR even though the underlying deal economics are unchanged. It can also smooth the J-curve. The distortion is that IRR no longer reflects the true return on LP cash — two funds with identical deals show different IRRs depending on line usage and duration. That's why LPs scrutinize it: they want IRR reported both with and without the line, focus more on MOIC/DPI (which the line doesn't flatter), and watch for lines used to delay calls for quarters or to manufacture a hurdle. Used short-term for efficiency it's fine; used to engineer headline IRR it's misleading.
WHAT INTERVIEWERS LISTEN FOR
- ✓Line defers LP capital calls, shortening deployed time
- ✓Time-weighted IRR is mechanically inflated; MOIC unaffected
- ✓Two identical funds show different IRRs by line usage
- ✓LPs want IRR with/without line; focus on MOIC/DPI
COMMON MISTAKES
- ✗Thinking the line improves real returns
- ✗Not knowing it flatters IRR but not MOIC
- ✗Ignoring LP scrutiny/disclosure concerns
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