Private equity turns to continuation funds to hold trophy assets


Earlier this year, BC Partners found the perfect buyer for Springer Nature: himself.

Not wanting to give up its precious asset, the London-based private equity firm sold its 47% stake in the university publisher to a new investment vehicle it also controlled.

This move highlighted a growing trend among buyout stores raising so-called continuation funds that allow GPs to hold onto promising investments longer and give LPs the opportunity to cash out if they so choose.

The fledgling strategy erupted at the height of the Covid pandemic when, faced with the near-halt in the IPO and M&A market, private equity began looking for a way out. alternative to house assets that have reached the end of their life. cycles.

BC Partners, for example, has raised a new billion-euro vehicle to own Springer after failing to garner enough backing to publicly list the company.

Also known as GP-led sub funds, continuation funds were once associated with underperforming assets, but a growing number are now being used to house trophies that GPs wish to own for longer periods of time. .

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“Historically, there was a bit of stigma that [continuation funds] were for assets for which people had run out of time and ideas. It’s become a fairly common theme now, ”said Alexis Maskell, Global Head of Investor Relations at BC Partners.

The rationale for such agreements is clear. But it can also create a myriad of challenges and conflicts of interest, as the buyer and seller are the same, which raises questions about how assets are valued.

Yet these concerns do not yet seem to be reflected in the numbers.

Global secondary volume reached $ 48 billion at the start of the year, putting total annual volume on track for a new record, according to Jefferies. Transactions led by general practitioners accounted for 60% of this figure.

“We are seeing a ‘normal’ news,” Jefferies analysts wrote in a recent research note to clients. “General practitioners continue to creatively create value by accessing follow-on capital and identifying and holding trophies for growth and expansion,” the analysts noted.

“GP-leds are a tool to provide liquidity to investors but also to provide a new home for an asset or a portfolio of assets to pursue the next phase of growth”, added Hani El Khoury, partner at Coller Capital .

GPs can create continuation funds that contain either a single asset or multiple assets. For Springer Nature, BC Partners has set up a single-asset continuation fund.

General Atlantic, however, raised $ 3 billion for four holding companies: reinsurance broker Howden Group Holdings; the commodity market research provider Argus Media; Mexican pharmaceutical company Laboratorios Sanfer; and the online marketing services company Red Ventures.

More funds in the pipeline

In what is expected to be one of the largest single-asset funds of this year, Clayton Dubilier & Rice’s stake in holding company Belron is expected to be incorporated into a new vehicle that could be valued at over $ 4 billion. . CD&R bought the glass repair company in 2018 through its 10th fund.

CD&R originally held a 40% stake in Belron. Earlier this year, the company sold 16%, leaving it a 24% stake in the business. The transaction set the valuation of Belron’s shares at around 17.2 billion euros.

For GPs and LPs, pricing assets in a continuation fund is seen as the biggest challenge. If investors are not convinced the price is right, they may not support the deal.

“By definition, this is a continuation, so the GP is involved on both sides of the transaction and must ensure that its investors feel it is doing so as part of a solid and fair transparent process.” said Katherine Ashton, partner at international law firm Debevoise & Plimpton. .

To help allay investor concerns, private equity groups have adopted a series of strategies. These include setting up a panel of independent experts to provide a fair valuation of the asset and sometimes an auction process to solicit competing bids.

Thiha Tun, a partner at law firm Dechert, said he recently worked on a continuation fund deal where not only did the GP buy and sell the asset, but the lead investor was also in both funds. “This kind of transaction, one could very easily say, is an agreement that has just been concocted by the GP and one of its investors, and who knows if this price is appropriate and if the terms of the transaction are fair. “, did he declare. noted.

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To alleviate concerns about conflicts of interest, Tun said the GPs sought a fairness opinion from a third party and then went to the sponsor advisory committees for a vote.

All of this means a heavy due diligence workload for the parties involved – as well as additional consultancy costs.

Even though the assets often remain under the same GPs, the fact that they move from one fund to another, with the accession of new investors, can trigger regulatory problems: “On at least two of the transactions that I During this year, the portfolio companies… had a market share large enough to trigger antitrust and anticompetitive issues, ”Tun said.

To stay or to go?

LPs can choose to invest in the new investment or withdraw them. They can even do both, selling part of their stake and keeping a stake in the new vehicle.

But as some investors leave, GPs need new LPs, which means they have to convince them that staying with the asset will create higher returns.

Increasingly, the job of convincing investors is getting easier, as they are drawn to the lower risk profile, says Hani El Khoury of Coller.

“From a risk profile, you end up in a situation where a GP has held the asset for four or five years. Unlike the risk profile of a primary investment – where to some extent the GP buys the asset and doesn’t know exactly what to expect – here the GP knows exactly what to expect. The risk profile is actually lower.

More work for LPs

But continuation funds can create more work for LPs, according to Ashton. Unlike traditional blind mutual funds, where GPs were responsible for controlling investments, in continuation funds the responsibility also falls on LPs.

“We ask the LPs if they should stay with this asset or not. This means increased due diligence and greater accountability to review the asset in a way that PE participants typically never had to do in the old setup, as they relied on the sponsor to assess risk of failure. every portfolio investment, ”said Ashton. .

Ultimately, the extra work might be worth it. Maskell from British Columbia said some GPs would look in the rearview mirror and wish they hadn’t sold an asset too soon because the next sponsor made even more returns after buying it.

Holding on longer gives some buyout companies and their investors the chance to take a second bite of the cherry and get the most out of the returns.

This article was published by the sister headline of Financial News Private Equity News

To contact the authors of this story with comments or news, send an email Sebastien mccarthy and Lina Saigol


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