Waterfall mechanics under stress scenarios

Distribution waterfalls are negotiated against a base case and lived in scenarios the base case never contemplated. The mechanics that look symmetric in a term sheet — preferred return, catch-up, carry, clawback — behave asymmetrically once timing moves. The only way to know how a structure behaves under stress is to compute it.

Where structures diverge under stress

• European vs. deal-by-deal waterfalls — a two-year exit delay can move carry timing by a fund-life in one structure and barely register in the other.
• Preferred return compounding — compounding frequency and the base it accrues on (drawn capital vs. drawn-plus-fees) dominate outcomes in slow-exit scenarios.
• Clawback exposure — interim carry on early winners becomes a GP liability when the tail underperforms; whether it is secured, escrowed, or merely promised is a credit question, not a legal formality.
• Recycling provisions — reinvestment rights that extend duration precisely in the scenarios where LPs most want it shortened.

Model the document, not the summary

Most waterfall disputes trace to modeling the LPA’s summary rather than its definitions. The defensible approach is a cash-flow engine built from the distribution section itself, run against a grid of exit-timing and outcome scenarios, with GP and LP positions reported side by side. When the model and the marketing deck disagree, the model is reading the document.

A waterfall is a piece of code written in legal English. Until it is executed against bad scenarios, nobody — including its drafters — knows what it does.

We build these engines as standalone, auditable workbooks: every tier traced to a clause, every scenario reproducible. The deliverable is not a number; it is the ability to defend the number in front of a committee.