Key takeaways
- The right loan structure should match a fund’s liquidity needs, repayment sources and operational strategy.
- Subscription facilities and net asset value facilities serve different objectives and are based on different collateral structures.
- Recurring liquidity pressures may indicate that a short-term borrowing structure is no longer the right solution.
- Loan covenants, reporting obligations and monitoring requirements should correspond to the practical operational needs of the fund.
- A well-structured mechanism supports the fund’s strategy instead of imposing unnecessary operational adjustments.
Zac Barnett is an attorney in Hinsdale, Illinois, and co-founder of Fund Finance Partners, LLC, where he brings nearly two decades of experience in fund finance, private equity and commercial lending. Throughout his career, he has advised major investment banks and fund sponsors on complex financing transactions and developed a reputation for structuring practical fund financing solutions. Before co-founding Fund Finance Partners in 2019, he was an associate at Mayer Brown, LLP, where he worked on some of the nation’s largest fund finance matters. In addition to advising clients, he has contributed to the industry by writing and speaking at conferences focused on financial structures, regulatory issues and market developments.
His experience provides insight into how sponsors evaluate borrowing structures and identify facilities that meet a fund’s liquidity and operational needs.
Signs a Fund May Be Using the Wrong Type of Loan
Fund sponsors must decide whether to borrow. They also need to decide whether the facility is fit for the job it needs to accomplish. In this context, a bad loan type means a structure that does not match how the fund plans to borrow, repay, and operate after closing.
The distinction becomes easier to see in plain language. Some funds loans rely primarily on uncalled investor commitments, while others rely more on the value of the fund’s investments. In practice, this often makes the difference between subscription type loans linked to uncalled capital and NAV type loans linked to the value of the portfolio. These structures differ not only in name, but also in their warranty logic, reimbursement expectations, and usage.
A warning sign appears when a fund uses a short-term loan to meet a recurring need. A subscription-style mechanism can work well when the fund expects short-term capital inflows from investors. This solution becomes weaker when the sponsor continues to rely on it, because the real pressure comes from portfolio timing or recurring liquidity needs.
Another warning sign appears when the expected reimbursement source does not match the facility design. If a loan depends primarily on investor commitments, but the real pressure point is portfolio value, distributions or exit timing, the structure may not fit the problem. The same problem can arise conversely if a portfolio-based mechanism must respond to a need determined by the timing of a capital call.
An inadequacy may also appear in the level of supervision exercised by the establishment. Reporting requirements, valuation reviews, loan-to-value triggers, concentration limits, collateral testing or cash-sweep controls can all be manageable in the right structure. They become more difficult to justify when the facility does not correspond to the real liquidity needs of the fund.
The type of lender can affect the options available, but the type of lender is not the same as the type of loan. Banks, insurers and similar funding sources may approach the same fund with different structures, time frames and protections. A borrower can choose the right provider and still end up with poor facility design.
The next step is to test the structure against the intended use of the fund. Before opting for a facility, a sponsor should define the purpose of the borrowing, the likely source of repayment, the level of post-closing monitoring the fund can handle and the downside case if conditions change. This exercise helps distinguish a structure that meets a clear business need from one that only seems feasible at the time of signing.
The fund’s advisors and other advisors can help you with this analysis. Their role is to verify whether the proposed installation solves the actual problem and whether it will remain functional once monitoring and compliance begins. This review is particularly important when two structures appear acceptable at first glance. The real task is to identify which facility design fits the fund’s liquidity model.
Unsuitability of loans generally becomes clearer with use than upon signature. Borrowing availability may decline more quickly than expected once eligibility rules, valuation changes or concentration limits come into effect. Reporting requirements or contract clause mechanisms can also burden the fund, even if these terms have more meaning at a different institution.
Well-adapted facilities should support the fund plan without imposing avoidable operational adjustments. When the borrowing tool meets needs, the sponsor has more flexibility to manage liquidity, portfolio timing and lender obligations without constant workarounds. One of the most obvious warning signs is when the loan begins to shape the fund’s behavior more than the fund’s needs shape the loan.
FAQs
What does it mean for a fund to use the wrong type of loan?
A fund may be using the wrong type of loan when the facility structure does not match its actual borrowing needs, repayment expectations or operational strategy. In these situations, the financing tool may create unnecessary restrictions, inefficiencies or liquidity pressures over time.
The mismatch often becomes noticeable when the loan begins to shape the fund’s behavior rather than supporting the fund’s investment and liquidity management objectives.
What is the difference between subscription facilities and NAV facilities?
Subscription facilities are generally secured by uncalled commitments from investors and are commonly used to manage short-term liquidity in advance of capital calls. These facilities are often designed to meet temporary borrowing needs related to incoming capital from investors.
In contrast, NAV facilities are more dependent on the value of the fund’s underlying portfolio investments. They are often used when liquidity needs are linked to portfolio performance, distributions or exit timing rather than pending investor contributions.
What are common warning signs of loan structure mismatch?
A common warning sign is when a fund repeatedly relies on a short-term borrowing structure to address persistent liquidity issues. Another situation occurs when the expected repayment source does not match the collateral or design of the facility.
Sponsors may also face operational constraints due to excessive reporting obligations, valuation reviews, covenant restrictions or concentration limits that do not correspond to the fund’s actual liquidity patterns.
Why is lender selection different from choosing the right loan structure?
Different lenders may offer varying terms, deadlines and risk tolerances, but selecting a reputable lender does not automatically guarantee that the installation itself is the right solution. Loan structure remains a separate and equally important consideration.
Even when working with experienced lenders, sponsors should always evaluate whether the proposed facility fits their expected borrowing models, repayment sources and operational flexibility.
How can fund sponsors assess whether a loan structure meets their needs?
Sponsors should begin by clearly defining the purpose of the loan, the expected repayment schedule, operational requirements, and downside risks if market conditions change. This analysis makes it possible to determine whether the structure can remain usable after closing.
Fund legal counsel and financial advisors can also help evaluate whether a facility’s reporting obligations, collateral requirements, and liquidity mechanisms adequately support the fund’s broader strategy and long-term operational objectives.
About Zac Barnett
Zac Barnett is the co-founder of Fund Finance Partners, LLC and an attorney with extensive experience in fund finance, private equity and commercial lending. Based in Hinsdale, Illinois, he was previously an associate at Mayer Brown, LLP, where he worked on complex fund finance transactions. He has also contributed to the industry through articles, lectures and participation in organizations such as the Fund Finance Association.
