The motivations behind GP-led transactions have evolved considerably over the years. They began life, according to Debevoise & Plimpton partner John Rife, as a means to help managers with insufficient track records survive the financial crisis. “This was a way of enabling them to hang onto their assets, potentially resetting economics and then exiting as conditions improved,” Rife explains.
Then, around five years ago, GPs such as Nordic Capital recognised that this strategy could also allow firms to hold on to their trophy assets. “This led to a marked improvement in the quality of sponsors and underlying companies, and galvanised the GP-led market as we know it today,” says Pantheon’s global head of private equity secondaries, Amyn Hassanally.
During the pandemic, meanwhile, sponsors became concerned about liquidity constraints. “They needed the support of the secondaries market to either execute a strip sale or form a continuation vehicle to raise capital,” Rife says. “Now, in some sense we have gone full circle, as sponsors recognise that this isn’t the ideal time to realise exits. GP-leds are a way to offer LPs a liquidity option or the chance to stay with assets in order to maximise value when the exit market picks up.”
Sophie Smith, a counsel at Cleary Gottlieb, agrees. “Given the current macroeconomic environment and market volatility, IPOs and traditional M&A exits may not be as readily accessible, so some sponsors view selling to a continuation vehicle as an attractive alternative, which also allows them to continue managing the asset until favourable exit options become available.”
GPs may also undertake a GP-led transaction if they require follow-on capital and there is insufficient undrawn capital in the existing fund or if the GP believes the asset would benefit from a longer hold period than is permitted under the existing fund term.
In addition, GP-led secondaries may still be used to tie up tail-end portfolios, in order to generate liquidity for investors. “A GP may also be looking to reduce exposure to assets that have grown too large for the fund,” Hassanally adds. “This can involve a strip sale – for example, the sale of 20 or 30 percent of every company in a portfolio. This enables investors to get cash back more quickly and helps with IRRs.”
“Given the current macroeconomic environment and market volatility, IPOs and traditional M&A exits may not be as readily accessible”
GP-led transactions can also offer GPs the opportunity to reset the fund economics by crystallising unrealised accrued carry. “However, LPs will often want to see a significant majority, if not all, of the carry rolled into the continuation fund to ensure continued alignment and to mitigate potential conflicts,” says Smith.
HarbourVest managing director Valérie Handal adds that GPs may also use the transaction as an opportunity to pursue other goals, such as effecting a generational transition, rebalancing their carried interest pool to optimise team alignment, or refocusing their strategy. “The transaction also has the potential to earn the GP additional economics when compared to a sale to third parties. In the current market environment, where traditional pathways to liquidity are less available and LPs are overexposed to private equity and/or cash-constrained, this liquidity option is all the more powerful,” she says.
Hold in high regard
Clearly, the rationales for pursuing GP-led transactions are myriad, but above all, GP-led transactions allow GPs to hold onto those star assets. “Motivations differ, but these deals are often seen as a solution for providing liquidity and optionality to LPs while also allowing the GP to continue to manage assets they particularly like, rather than selling them to a competitor,” says Immanuel Rubin, a partner and head of European secondaries at Campbell Lutyens.
Hassanally agrees. “An asset that is written up four or five times is a rare event, and the sponsor will have done a lot of work executing on strategy, building an M&A pipeline and strengthening the management team, so the last thing they want to do is sell to a competitor who then makes another 3x,” he says. “They know all the pieces of the puzzle are in place. They just need a bit more time and more capital.”