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Back to School: GPs to push secondary volumes this year

General partners seeking options for aging, pre-crisis era funds will account for a greater share of private equity’s booming secondaries market in 2015, said Nigel Dawn, the head of investment bank Evercore’s private capital advisory business.

“GP-driven transactions will become an increasingly important part of the market,” Dawn said. “When the real bubble funds started, that was in ‘05. Those will be reaching their 10-year mark this year.”

Firms with active holdings in mature vehicles will reach a point where they must request extensions of fund lives, which generally run for 10 years with a few extensions, or restructure their portfolios, Dawn said, noting that restructuring volumes will likely rise as a growing number of larger funds reach maturity in the coming years.

One recent example of a secondary market restructuring is Canadian firm EdgeStone Capital Partners. In September, Buyouts reported that EdgeStone gave LPs the option of cashing out stakes in its 2002- and 2006-vintage funds or rolling those into a new vehicle that would house the two funds’ remaining seven portfolio companies. Another example occurred last April, when the Canada Pension Plan Investment Board helped J.W. Childs Associates restructure its third flagship fund.

Much like in 2013, GP-driven sales counted for roughly 20 percent of secondary market deal volume in 2014, according to a February report by Evercore. Total secondary deal volume hit $47 billion in 2014, an 81 percent increase from the $26 billion transacted in 2013, Evercore said. That spike in overall secondary activity pushed GP-driven deal volumes higher “in absolute terms,” according to the report.

While estimates of secondary market volumes vary, 2014 is widely considered a record year for overall transactions. Secondary advisor Cogent Partners pegged secondary volume at $42 billion, while adviser Setter Capital set its estimate at $49.3 billion.


Even as more general partners tap the secondary market to manage mature portfolios, secondaries investors surveyed by Evercore expect the more traditional sale of LP fund stakes to drive deal activity this year. More than half of the 70 secondary market investors surveyed by Evercore plan to focus on acquiring LP positions in private equity funds this year.

Many LPs use the secondary market to cull their portfolios of non-core managers. Last year, LPs such as the New Mexico State Investment Council and Montana Board of Investments sold stakes in funds managed by firms with which they did not plan to invest in the future.

The high prices being offered for fund stakes have also incentivized LPs to explore sales. Cogent reported buyout fund stakes on average sold at 95 percent of net asset value in the second half of last year. A recent Setter Capital report noted the avearage deal size for secondary transactions increased by 36.4 percent in 2014, a reflection of a growing number of multi-hundred-million-dollar and billion-dollar deals.

“In a very robust pricing environment, LPs are really taking advantage of that to move away from their non-core relationships and to focus on core relationships,” Dawn said. “It’s all price dependent, so if they don’t like the price they’re being offered for a certain fund, they probably won’t move forward.”

Secondary specialists have money to spend as well. Evercore estimates that secondaries firms had more than $55 billion of dry powder to put to work at the start of this year, and 32 of the survey respondents said they plan to raise even more money to buy assets this year.

Financial institutions take a breath

Financial institutions compelled to sell off private equity portfolios to comply with regulations generated a significant level of deal volume in previous years. Those institutions were the leading sellers of assets on the secondary market in 2014, according the report.

That may taper off this year. In December, the Federal Reserve extended the compliance deadline for the Volcker Rule from July 2015 to July 2017. The Volcker Rule limits financial institutions from investing more than 3 percent of their balance sheet holdings in private equity funds and other risky assets.

“It will continue to be a driver, but our sense is less of a driver than it was with the extension of the Volcker Rule,” Dawn said. “They really got a year’s grace, so there’s really less pressure on those institutions to sell. The question is will they sell for financial reasons because the secondary market has been so strong?”