Calculating a performance fee carefully
Series XXI-B case study · set 1, case 2 of 6 · 5 questions · 2 marks each
Question 1 of 5Case practice
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A hypothetical PMS account opens the year at ₹100 lakh, with a prior high-water mark of ₹110 lakh. There are no external cash flows. Its year-end value before fees is ₹118 lakh. The contract first charges a fixed management fee of 1% of opening assets. It then charges 20% of any remaining value above the higher of two thresholds: the prior high-water mark and opening assets grown by a 6% annual hurdle. If the value does not exceed that higher threshold, no performance fee is due. Ignore taxes and all other costs. The fee rates, calculation order and threshold rule are contractual assumptions for this case.
All amounts and contract terms in this case are hypothetical.
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The case and its answers
Every question of this case, with its answer and why each other option is wrong.
A hypothetical PMS account opens the year at ₹100 lakh, with a prior high-water mark of ₹110 lakh. There are no external cash flows. Its year-end value before fees is ₹118 lakh. The contract first charges a fixed management fee of 1% of opening assets. It then charges 20% of any remaining value above the higher of two thresholds: the prior high-water mark and opening assets grown by a 6% annual hurdle. If the value does not exceed that higher threshold, no performance fee is due. Ignore taxes and all other costs. The fee rates, calculation order and threshold rule are contractual assumptions for this case.
All amounts and contract terms in this case are hypothetical.
Q1What is the fixed management fee?
Option A. ₹1.18 lakh
Why it is wrong: This applies the fee to closing instead of opening assets.
Option B. ₹1 lakh — Correct answer
Option C. ₹0.20 lakh
Why it is wrong: This confuses the performance-fee rate with the fixed-fee base.
Option D. ₹6 lakh
Why it is wrong: This is the hurdle increment, not the fee.
Answer: B. 1% × ₹100 lakh = ₹1 lakh. Remember: A fee rate must be applied to its specified base.
Hint, shown before you answer in practice mode: The fixed fee uses opening assets.
XXIB-S1-C02-Q1easynumerical
Q2Which threshold applies to the performance fee?
Option A. ₹116 lakh
Why it is wrong: The case does not add the hurdle to the old high-water mark.
Option B. ₹106 lakh
Why it is wrong: This hurdle value is lower than the high-water mark.
Option C. ₹100 lakh
Why it is wrong: This ignores both contractual thresholds.
Option D. ₹110 lakh — Correct answer
Answer: D. Hurdle wealth = ₹100 lakh × 1.06 = ₹106 lakh. The higher threshold is max(₹106 lakh, ₹110 lakh) = ₹110 lakh. Remember: A hurdle and a high-water mark can constrain the same fee calculation.
Hint, shown before you answer in practice mode: Calculate the hurdle wealth and compare it with the high-water mark.
XXIB-S1-C02-Q2mediumnumerical
Q3How much performance fee is due?
Option A. ₹2.20 lakh
Why it is wrong: This uses only the lower hurdle threshold.
Option B. ₹1.40 lakh — Correct answer
Option C. ₹3.60 lakh
Why it is wrong: This charges all gross gains rather than only the permitted excess.
Option D. ₹1.60 lakh
Why it is wrong: This calculates the performance fee before deducting the fixed fee.
Answer: B. After the fixed fee, value is ₹117 lakh. Eligible excess is ₹117 lakh − ₹110 lakh = ₹7 lakh. Performance fee = 20% × ₹7 lakh = ₹1.40 lakh. Remember: Follow the stated fee sequence exactly.
Hint, shown before you answer in practice mode: Subtract the fixed fee before testing the threshold.
XXIB-S1-C02-Q3hardnumerical
Q4What is the client’s closing value after both fees?
Option A. ₹118 lakh
Why it is wrong: This omits both fees.
Option B. ₹115.60 lakh — Correct answer
Option C. ₹117 lakh
Why it is wrong: This omits the performance fee.
Option D. ₹116.40 lakh
Why it is wrong: This omits the fixed fee while using a different performance fee.
Answer: B. ₹118 lakh − ₹1 lakh − ₹1.40 lakh = ₹115.60 lakh. Remember: Report net value separately from gross performance.
Hint, shown before you answer in practice mode: Deduct both charges from the pre-fee value.
XXIB-S1-C02-Q4mediumnumerical
Q5What net percentage return did the client earn, with no cash flows?
Option A. 18%
Why it is wrong: This is the gross return before fees.
Option B. 17%
Why it is wrong: This deducts only the fixed fee.
Option C. 15.60% — Correct answer
Option D. 5.60%
Why it is wrong: This measures from the high-water mark, not the client’s opening assets.
Answer: C. (₹115.60 lakh / ₹100 lakh − 1) × 100 = 15.60%. The high-water mark controls fees, not the opening base for this year’s return. Remember: Keep return measurement and fee thresholds distinct.
Hint, shown before you answer in practice mode: Compare closing net wealth with the actual opening wealth.
XXIB-S1-C02-Q5mediumnumerical
Comparing risk-adjusted performance
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