Fund managers are increasingly rethinking fund terms to provide more
flexibility around holding assets and capital use, an analysis by law firm
Paul, Weiss, Rifkind, Wharton & Garrison has revealed.
A survey by the firm of approximately 50 recently raised private equity
funds revealed that GPs and LPs are “pushing the envelope on terms in order
to squeeze more flexibility into the traditional PE fund model” regarding
fund-to-fund transfers, the use of continuation vehicles and recycling of
capital, Marco Masotti, a partner at the firm, told Private Equity
“The pandemic has highlighted the liquidity needs of portfolio companies
and underscored the realities of the marketplace and how long it takes to
realise value,” Masotti said.
The funds surveyed are mostly in the US and have a minimum fundraising
target of $2 billion.
Transactions involving multi-asset and single-asset continuation vehicles
represented 73 percent of total GP-led volume last year, according to
advisor Greenhill’s Global Secondary Market Review. This option has
increased in popularity as GPs consider it a valid exit alternative to a
trade sale, a sale to another sponsor or an initial public offering.
“We are sometimes squeezing the industry into this five-year commitment
period, 10-year life model and it doesn’t always work well, both with what
the GPs want and the liquidity needs of the LPs,” said Masotti. “This is
why we are seeing this big, robust secondary market of people selling
portfolio companies to continuation funds, which can make a lot of sense.”
He said that, for GPs and LPs, there is also “a little bit more willingness
to extend the life of the fund as well as increasing permitting flexibility
for restructurings and the creation of continuation funds”. He added that
the rules for tackling fund-to-fund transfers are increasingly more clearly
addressed in fund documents.
Asked whether the firm has seen pushback from LPs on portfolio
restructurings, Masotti noted that the concept is well established in the
“GPs and LPs are all trying to work out what the right contractual terms
are and what the right procedures are to ensure that this is done – given
the inherent conflict – in an appropriate way.” He noted that in creating
these provisions in fund documents, LPs want appropriate procedures in
place, such as an LPAC approval or fairness opinions.
BC Partners, EQT and Blackstone are recent examples of firms that have
either used continuation vehicles or transferred assets into successor
funds. EQT continues to own Swedish enterprise software provider IFS via
its two latest flagship funds. The firm first invested in IFS six years ago
through its 2015-vintage EQT VII, and sold that fund’s shareholding to EQT
VIII and EQT IX last July in a deal worth more than €3 billion. BC Partners
is making a €300 million investment in the continuation vehicle holding
academic publisher Springer Nature. The capital is expected to come from
its latest flagship fund, which has been in market since February last year
with an €8.5 billion target.
Recycling proceeds beyond the investment period is one area that has seen
It used to be the case that GPs could only recycle dollars from an exit
within 12 to 18 months, according to Masotti. “These days there’s a little
bit more willingness to allow recycling broader than the time period and
throughout the commitment period subject to an overall cap,” he said.
All the PE funds surveyed permit recycling. Nearly half allow recycling
where capital is returned within 18 months of investment, and 16 percent
allow it beyond 24 months, according to the report. The time period varies
depending on the size of the fund and strategy.
Most PE funds (77 percent) also permit recycling throughout the term of the
fund and cap the amount subject to recycling at the investor’s initial
commitment, the report found.
Masotti said the basic economics of management fees, transaction fees,
carried interest and GP capital commitments remain reasonably consistent
with pre-pandemic terms.
However, he noted that GPs are feeling more pressure on size-based
discounts: that is, the more dollars invested, the more special or bespoke
treatment LPs get on fee discounts or on co-investments. “Trying to fit
that in with the traditional fund model where all LPs get the same terms
has become increasingly hard.”
A quarter of PE funds in the survey offered tiered management fee
structures based on the size of the capital commitment, with most discounts
generally offered for commitments above $100 million.
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