A cross-fund investment occurs when two or more funds managed by the same GP participate in the same transaction. This situation arises naturally when a GP manages multiple funds across overlapping vintage years or complementary strategies. Fund III may be in its late investment period while Fund IV is in its early deployment phase. A deal surfaces that fits both mandates. The GP must decide how to allocate the opportunity, and that decision sits at the intersection of fiduciary duty, commercial incentive, and practical portfolio construction.
The conflict of interest is structural. The GP earns management fees and carried interest from each fund, but the terms may differ. Fund III might be at a stepped-down fee rate with 20% carry. Fund IV might be at full fees with 25% carry negotiated in a better fundraising environment. The GP has a financial incentive to allocate more of a winning deal to the fund that pays higher carry. Even without conscious favoritism, the perception of conflict undermines LP trust. This is why institutional LPs and regulators treat cross-fund investments as a governance priority.
The standard solution is a written allocation policy. Most GP platforms maintain a formal policy that establishes objective criteria for how deals are allocated when multiple funds are eligible. The most common methodology is pro rata allocation based on each fund’s remaining investable capital. If Fund III has $200M of remaining capital and Fund IV has $300M, a $50M deal would be allocated $20M to Fund III and $30M to Fund IV. Other factors may adjust the allocation: strategy fit, concentration limits, investment period status (a fund past its investment period may be limited to follow-on investments only), and LP restrictions (some LPs have excuse provisions that affect fund-level capacity).
The private placement memorandum should disclose the GP’s allocation policy, and the LPA should address the governance framework. Best practice includes LPAC notification or consent for cross-fund transactions, particularly when the allocation deviates from the stated policy. Some LPAs require independent valuation when one fund is buying from or selling to another fund managed by the same GP, such as when Fund III sells a portfolio company to Fund IV’s continuation vehicle. These inter-fund transactions carry even higher conflict risk than co-investments in new deals.
The SEC has increased its focus on allocation practices in recent years. Examination priorities have included reviewing whether GPs actually follow their stated allocation policies, whether certain funds are systematically favored, and whether allocation decisions are adequately documented. For emerging managers raising capital who are launching their second or third fund, the allocation question becomes live for the first time. Establishing a clear, defensible allocation policy before it becomes necessary, not after a conflict arises, is a governance best practice that sophisticated LPs will expect to see during due diligence.
Frequently Asked Questions
Why do cross-fund investments create conflicts of interest?
When a GP manages multiple funds simultaneously, the decision to allocate a deal across funds creates inherent conflicts. The GP must decide how much of the deal goes to each fund, and those funds may have different fee structures, carry terms, investor bases, and remaining investment period. A GP could theoretically favor the fund that generates more carry or the fund where they have a larger personal commitment. Formal allocation policies and LPAC oversight exist to manage these conflicts.
How are cross-fund investments typically allocated?
Most GPs adopt a written allocation policy that establishes objective criteria. Common approaches include pro rata allocation based on each fund's remaining investable capital, allocation based on each fund's strategy fit and investment period status, or allocation based on deal size relative to each fund's concentration limits. The policy is typically disclosed in the fund's PPM and reviewed by the LPAC.
Do LPAs typically address cross-fund investments?
Yes. Most institutional-quality LPAs include provisions governing cross-fund transactions, requiring the GP to maintain a written allocation policy, disclose cross-fund investments to the LPAC or all LPs, and in some cases obtain LPAC consent before executing a cross-fund deal. The SEC has also increased scrutiny of allocation practices in its examination of private fund advisers.
