Preferred Return

Definition

A preferred return (often used interchangeably with “hurdle” in many fund documents) is a contractual mechanism designed to prioritize LP returns before the GP participates in profits via carried interest. It is typically expressed as an annualized rate and calculated based on contributed capital and timing of cash flows. Allocator Context Preferred return is most common in private equity, private credit, and real asset funds where long holding periods and staged realizations create timing differences in outcomes. Allocators view preferred return as an alignment and fairness mechanism, but also evaluate the full waterfall structure, including catch-up provisions, to understand actual economics. Decision Authority Preferred return mechanics are reviewed during legal and investment diligence and may require internal approval when terms deviate from policy norms. Large allocators frequently compare preferred return structures across peer funds to ensure consistency and avoid hidden economics. Why It Matters for Fundraising Managers benefit from explaining preferred return and catch-up clearly. Ambiguity around preferred return is a common source of late-stage delays, especially when LP legal teams interpret the waterfall differently than the GP’s commercial narrative. Key Takeaways Prioritizes LP returns before carry is earned Must be evaluated with the full waterfall mechanics Clarity reduces legal friction and speeds closes Terms consistency matters to institutional LPs