Carried interest is the primary mechanism that creates alignment between GPs and LPs in the PE model. That same model extends to the management of the PE firm as well, as key employees often receive incentive compensation via profits interests, options and other approaches to compel them to maximize investment returns of funds. Therefore, it behooves PE sponsors to take extra care to optimize the model by ensuring the proper treatment of profits interests when employees join and exit a firm. To address those and other issues associated with forming new PE firms, K&L Gates recently hosted a webinar featuring partners Adam J. Tejeda, Edward Dartley and Robert H. McCarthy Jr. This second article in a two-part series suggests how PE sponsors can avoid registering as an investment adviser while also creating an optimized incentive compensation arrangement for its personnel. The first article outlined ways to formalize arrangements between co‑founders; structure vehicles for tax purposes; and lure key employees and third-party investors. See our two-part series: “Governance and Economic Terms to Negotiate in Management Company and GP Agreements” (Oct. 20, 2020); and “Non‑Competes and Principal‑Departure Parameters to Address in Management Company and GP Agreements” (Oct. 27, 2020).