Critically Analyse the Exiting Issues That Exist for Private Equity Organisations from the Perspective of the Interaction Between the Gp and the Lp

In perspective of the GP and the LP.

As we know, the GP and the LP play important roles in the private equity. However, there are some issues between the GP and the LP that exist in private equity organisations.

The issue of principal-agent relationship is another problem between the general partners and limited partners. The general partner plays the role of the agent, while the limited partner is the principal in the principal-agent relationship. Asymmetric information which refers to the fact that both parties of the transaction have different degrees of knowledge and probability distribution related to the transaction in a certain transaction(Asymmetric Information, 2006), is the main reason of the principal-agent problem. For information asymmetry, it consists of three aspects: adverse selection, moral hazard, and information monopoly. In the principal-agent relationship, the asymmetric information between the GP and LP is caused by adverse selection problem and moral hazard problem(Mehta, 2004).

Adverse selection means that the agent has private information that is not known to the principal, or the GPs have more information because of their knowledge and skills than the LPs have, which makes the LPs in the position of information asymmetry. This kind of adverse selection always exists before GP and LP sign the contract. For example, when the LPs make the choice, they are often blinded by some false information and choose those GPs who dare to fake or hide the real information during doing investments. In the case of Yale, Yale endowment used their own money to do investment(Lerner, 2007). They had less asymmetric information than other LPs. That is the reason why Yale endowment performed better than others.

The moral hazard problem refers to that the agent take the benefit of the information advantage to detriment to the interests of the principal after signing the contract. Once the investment project begins to operate, investors (LPs) will not be able to grasp the whole operating process as the GPs. Also, investors (LPs) generally do not have investment knowledge, so that it is impossible for them to know the operation changes in a timely and comprehensive manner. At this time, the GP is more likely to be a free ride.