Fund Structure and LP–GP Dynamics
A comprehensive study of how venture capital funds are structured, financed, governed, and incentivized—covering Limited Partner (LP) and General Partner (GP) relationships, compensation mechanisms, and fiduciary alignment.
1. Overview of Venture Fund Structures
Venture capital funds are typically organized as closed-end limited partnerships designed to pool capital from investors (Limited Partners or LPs) and deploy it through professional managers (General Partners or GPs). A fund’s life span generally ranges from 10 to 12 years, encompassing the entire investment, management, and exit cycle. During this period, LPs commit a fixed amount of capital up front, which GPs call down progressively as investment opportunities arise. This model creates predictability in capital availability while maintaining disciplined deployment over time. Most VC partnerships are domiciled in jurisdictions such as Delaware, Luxembourg, or Singapore, where partnership law provides flexibility and tax efficiency.
2. The Legal and Financial Framework
A VC fund is governed by a Limited Partnership Agreement (LPA), which defines its economic terms, governance rules, and conflict-resolution mechanisms. The fund is typically structured as follows: • General Partner (GP) – acts as the managing entity, responsible for sourcing, evaluating, and managing investments. • Limited Partners (LPs) – investors such as pension funds, family offices, insurance companies, university endowments, or sovereign wealth funds. • Management Company – a separate legal entity through which the GPs employ staff and incur operational costs. The LPA specifies the fund size, investment period (usually 3–5 years), and term extensions allowed under extraordinary circumstances.
3. Capital Commitments and Calls
Unlike mutual funds, LPs in a VC fund do not transfer all their committed capital immediately. Instead, GPs issue 'capital calls' or 'drawdowns' when new investments or fund expenses arise. This staged funding mechanism optimizes LP liquidity while ensuring that idle capital isn’t overexposed. For example, in a US$200 million fund, LPs may be called for 20–25% in the first year, increasing as portfolio activity scales. Unfunded commitments remain obligations of LPs and are enforceable under the LPA. Capital calls also include pro-rata allocations for management fees and follow-on investments in existing portfolio companies.
4. Economic Alignment and Incentive Design
The cornerstone of LP–GP alignment lies in the compensation structure known as the “2 and 20” model: • Management Fee (2%) – an annual fee on committed or invested capital that covers salaries, operations, and due diligence costs. • Carried Interest (20%) – the GP’s share of fund profits, typically realized only after returning invested capital and a preferred hurdle rate (often 7–8%). This structure ensures that GPs remain motivated by fund performance rather than fixed fees. Some funds employ a European waterfall, distributing carry only after full capital recovery across the portfolio, while others use a deal-by-deal waterfall, allowing earlier carry recognition. Increasingly, LPs demand clawback provisions and escrow accounts to ensure long-term fairness.
5. Fund Economics in Practice
Consider a $200 million fund achieving a 3× gross multiple over 10 years. LPs receive $400 million first (2× return), after which $200 million remains as profit. The GPs’ 20% carried interest yields $40 million, leaving $160 million for LPs. Management fees—approximately $4 million per year over the first five years—cover fund operations. This mathematical symmetry encourages prudent investment selection and active value creation. Top-tier VC firms such as Sequoia, Accel, or Andreessen Horowitz have refined this model to sustain multi-fund franchises with institutional-scale governance.
6. Governance and Fiduciary Responsibilities
GPs operate under fiduciary duty to act in the best interest of LPs. This obligation encompasses transparency, compliance, and conflict avoidance. Quarterly and annual reports provide performance metrics such as internal rate of return (IRR), total value to paid-in (TVPI), and residual value (RVPI). Advisory committees (LPACs) composed of representative LPs oversee key decisions—valuation methodology, related-party transactions, and extension requests. Industry associations like ILPA (Institutional Limited Partners Association) set best practices on disclosure and alignment. In recent years, regulatory frameworks such as AIFMD (Europe) and SEBI AIF Regulations (India) have strengthened governance oversight for venture funds.
7. Fundraising and Investor Relations
Fundraising is a test of credibility and network depth. Emerging managers often raise smaller 'first funds' (~$20–50 million) from high-net-worth individuals or family offices, while established franchises attract institutional LPs. GPs use a Private Placement Memorandum (PPM) to detail their strategy, target returns, and risk management framework. The most successful fundraisers demonstrate differentiated theses—sectoral (AI, climate tech), geographical (Southeast Asia), or thematic (impact, SaaS). Ongoing investor relations ensure that LPs remain informed and confident throughout the fund’s life cycle.
8. Portfolio Construction and Diversification
A typical VC fund invests in 20–40 companies, balancing stage diversification (seed, Series A, growth) and sectoral exposure. Portfolio modeling often assumes a 'batting average' where 30% of companies fail, 50% yield modest returns, and 10–20% produce outsized gains. GPs manage reserve capital for follow-on rounds to defend ownership in winners. Scenario modeling and probabilistic simulations (Monte Carlo methods) are increasingly used to optimize capital allocation. Institutional LPs now evaluate funds not just on past IRR but also on portfolio concentration and capital-efficiency metrics.
9. Successive Fund Generation and Track Record
Venture firms are multi-fund franchises. After deploying 70–80% of one fund, GPs begin raising the next. Each subsequent fund benefits from brand reputation, realized exits, and team stability. Consistency in DPI (Distributions to Paid-In Capital) and realized gains determines an LP’s re-up decision. Firms with repeatable fund performance—such as Benchmark Capital or Lightspeed Venture Partners—leverage LP trust to scale globally. Conversely, underperforming GPs face 'fundraising fatigue,' where LPs redirect commitments to better-performing peers.
10. Co-Investments and Secondary Transactions
Many LPs negotiate co-investment rights, allowing direct participation in portfolio deals without management fees or carried interest. Co-investments enhance alignment and lower cost of exposure. Similarly, secondary transactions—where LPs sell their fund interests to other investors—provide liquidity in an otherwise illiquid asset class. The rise of secondary markets (e.g., Lexington Partners, Coller Capital) adds flexibility to both LPs and GPs, making venture capital more dynamic and accessible.
11. Evolving Models: Evergreen and Rolling Funds
New fund architectures are emerging to address liquidity and flexibility challenges. Evergreen funds recycle returns indefinitely rather than liquidating, while rolling funds (popularized by AngelList) allow continuous LP subscriptions. These innovations democratize venture investing, making smaller, more agile fund models possible. However, they introduce complex accounting and regulatory implications that require robust fund administration.
12. Global Perspectives and Regulatory Environments
Fund structures vary by jurisdiction. In the U.S., Delaware Limited Partnerships remain standard; Europe favors Luxembourg SICAR or UK LLP structures; Singapore and Dubai have developed VCC and DIFC frameworks to attract cross-border capital. Regulations increasingly demand ESG and anti-money-laundering compliance. Institutional LPs now require diversity, governance, and sustainability disclosures as preconditions for capital commitments. As global capital pools consolidate, transparency and fiduciary governance will remain critical differentiators.
13. Case Study: Sequoia Capital’s Multi-Fund Evolution
Sequoia Capital illustrates fund structure innovation. It transitioned from traditional 10-year LP funds to a flexible 'Sequoia Capital Fund'—an evergreen structure investing across stages, geographies, and asset classes. This adaptation responded to global liquidity cycles and LP appetite for continuity. The model blurs distinctions between venture and growth equity, signaling how fund architecture evolves with market maturity.
14. Key Takeaways
The LP–GP dynamic defines the integrity and sustainability of venture capital as an asset class. Understanding fund structure, economic incentives, and governance safeguards allows both investors and fund managers to align interests over a decade-long horizon. A well-designed partnership balances risk and reward, fosters transparency, and ultimately converts innovation into enduring financial and societal value.