Why 2009 wasn’t the ‘year of secondaries’

A staggering amount of capital was raised for secondaries last year, but the surge in deal activity many expected didn't follow suit.

From 2008 to 2009, secondaries fundraising totals increased an eye-popping 201 percent, boosted by fund closes from firms including Partners Group, LGT Capital Partners, Portfolio Advisors, HarbourVest Partners, Pomona Capital and Goldman Sachs. The niche raised a record high of $22.3 billion in 2009, making it the only private equity sector globally that surpassed its 2008 totals, according to secondaries broker, placement agent and advisory firm Probitas Partners.

But despite all that dry powder, not as much capital was invested in the market as expected. While there is no one universally agreed tally, market experts' figures in terms of secondaries deals closed in 2009 vary from $6 billion to $10.5 billion – below the $15 billion many market participants say makes up a “normal” year, and well off from projections that the year's closeable dealflow could reach as high as $30 billion.

“Everyone thought [2009] was going to be the year of secondaries,” said Hanspeter Bader, managing director of Geneva-based asset management firm Unigestion's private equity funds. “It wasn't.”

The only thing that changed in 2009 was the pricing and the fact that there were more highly unfunded commitments consumed.

Ian Charles

The differences in buyer and seller price expectations ultimately kept a lot of anticipated activity from taking place.

“Prices dropped straight off a cliff in the back-end of ’08 and beginning of ’09,” recalled Tim Jones, deputy chief investment officer of secondaries firm Coller Capital.

“The combination of extreme volatility and stale asset valuations meant that the secondary market was offering prices like 20 or 30 cents on the dollar,” said Jones. “Who would willingly take that sort of write-down?”

Distressed sellers in need of liquidity – including many publicly listed European funds of funds that were leveraged and/or had an overcommitment strategy reliant on steady distributions – were those most active in the first part of the year, says Todd Miller, managing director of secondaries broker and advisor Cogent Partners. “In some cases it was getting rid of large unfunded commitments where people were taking little to no purchase price just to get out of the unfunded [commitments],” he said. “But then the financial markets rebounded and frankly the capital calls haven't occurred at the pace that people at one time predicted.” As a result, many investors that had been pondering secondary asset sales decided to shelve them. 

Tim Jones

While the amount of capital secondaries firms put to work in 2009 was less than many may have anticipated, the amount of product that was purchased was probably about equal to 2008 tallies, said Ian Charles, principal at secondaries firm Landmark Partners.

“Say $100 million of NAV came through at 80 cents [on the dollar] in '08, that would get booked as $80 million of transaction value. And if the same thing came through in '09, say at 40 cents, it gets booked at $40 million of transaction value,” Charles says. “So [it seems like] there’s been a 50 percent reduction in volume, but the exact same thing came through the system.”

By Charles' quick estimation, roughly $19.5 billion of transaction value was recorded in 2008 at an average discount of around 30 percent. “That means about $27 billion of NAV was consumed by the secondary market.” The figure is closer to between $35 billion and $38 billion, he says, based on the assumption that as mostly mature portfolios were being sold, for every $3 of NAV purchased, there was $1 of an unfunded relationship.

“The only thing that changed in 2009 was the pricing and the fact that there were more highly unfunded commitments consumed,” Charles said, noting the NAV to unfunded ratio was probably closer to 1:1, with the average purchase price over the year being around 55 cents on the dollar. He estimates there were around $18 billion to $19 billion in unfunded commitments sold, meaning a total of $37 billion in assets would have been absorbed by the secondary market. “It's almost a flat consumption model,” he said.

This is an excerpt of an article that appeared in PEI's recently released Annual Review. PEI subscribers can read the entire Annual Review, in which we detail a memorable year of challenges – and opportunities – that private equity firms, their limited partners and other market participants encountered in 2009.