Capital Commitment

A capital commitment is the amount that an investor firmly commits to a fund. The money is not transferred all at once, but drawn down gradually as the fund invests. The commitment sets the upper limit up to which the investor can be required to pay in. Legally it is made by subscribing to the fund documentation, under which the investor joins as a limited partner or equivalent and binds itself to the drawdown obligation.

Funds accept commitments in several closings: after the first closing the fund can already invest, while further investors join until the final closing and are equalised through a payment plus interest so as to be treated as if they had been in from the start. The sum of all commitments is the fund size, on which the management fee during the investment period is based and from which investment capacity is derived. Since part is absorbed by fees and costs, capital actually available to invest is lower. A commitment differs from two other figures: called capital, meaning the portion actually paid in, and uncalled capital, the remainder, known in the market as dry powder. Because called capital can return through realisations and be recycled to a limited extent, total drawdowns over a fund's life slightly exceed the commitment in some structures. For the investor the commitment is a hard obligation with penalties for default and therefore requires liquidity planning across the entire fund term.

The treatment of defaulting investors deserves attention, because a default affects not only the fund but also the remaining investors, whose share of costs rises. Fund documentation therefore provides graduated sanctions up to forced transfer of the interest. The case of an investor no longer permitted to participate for regulatory reasons is also covered. For the manager the creditworthiness of subscribing investors is therefore a review point of its own during fundraising, since a commitment is only as good as the ability to pay behind it.