By Tom Lin and Morgan Shubin, Clifford Chance – It has become fashionable to say that secondary transactions are now ‘mainstream’, with some market participants pointing to the flourishing GP-led segment of the market as a ‘fourth leg’ option for liquidity alongside conventional exit routes for PE assets (i.e. sale process, IPO or recapitalisation). That might not be necessarily a perfect characterisation, though we suspect it might be to a degree with some nuance. However you might characterise it, the growth in deal activity (market commentators expect transaction value to exceed USD100 billion for the first time in 2021), extraordinary fundraising, the concerted expansion of global managers into the strategy (whether through acquiring established platforms or team build-outs) all points toward one direction of travel: bigger, more competitive and more complex.
By Tom Lin and Morgan Shubin, Clifford Chance – It has become fashionable to say that secondary transactions are now ‘mainstream’, with some market participants pointing to the flourishing GP-led segment of the market as a ‘fourth leg’ option for liquidity alongside conventional exit routes for PE assets (i.e. sale process, IPO or recapitalisation). That might not be necessarily a perfect characterisation, though we suspect it might be to a degree with some nuance. However you might characterise it, the growth in deal activity (market commentators expect transaction value to exceed USD100 billion for the first time in 2021), extraordinary fundraising, the concerted expansion of global managers into the strategy (whether through acquiring established platforms or team build-outs) all points toward one direction of travel: bigger, more competitive and more complex.
A growing market
The pandemic has supercharged the growth in transactions led by the sponsor, or GP-led secondaries to use jargon, involving single assets or concentrated portfolios with a crown jewel. This was driven in part by the outlook of an uncertain exit environment as the macroeconomic shock of the pandemic first took hold, coupled with (and giving way to) a recalibration of sponsors’ (and investors’) expectations on value and growth potential resulting from the market dislocation. Tailwinds driving the accelerated growth potential of certain asset classes resulted in GPs doubling down, whilst headwinds facing other asset classes resulted in GPs looking to extend holds on assets with strong fundamentals to undertake strategic pivoting.
Our perspective at Clifford Chance is perhaps unique in that our ‘boots on the ground’ capital solutions team in Singapore is lucky enough to run deals across European and APAC opportunities. Whilst the market opportunity in APAC has historically been small by comparison (it’s commonly accepted that APAC represents around 5-10 per cent of global secondaries volume), there is cause for optimism in regional activity growth driven by a number of factors. A slowdown in primaries, a backlog of transactions disrupted by the pandemic, and the opportunity for international investors to use a secondary strategy to access mature assets in the region as a means of diversification, are commonly recognised as such factors. In this context, supported by a strong advisory community on the ground in Singapore and elsewhere in the region, more proven GPs are reviewing assets through the secondaries lens which, empirically, has resulted in higher quality GPs bringing deals to the market during 2021.
Learning the lessons
Singapore-based sponsors thinking about entering the secondaries market will be in the privileged position of being able to build on the lessons learned in the US and European secondaries market, allowing for swifter identification of key issues and an ability to refer to ‘market practice’ where relevant and helpful. For example, an issue that has received a lot of attention in global secondaries transactions is how conflicts of interest are managed and, for some market participants, the increasingly robust approach that GPs are taking towards conflicts management. In a GP-led secondary transaction, the sponsor sits on both sides of the trade. One thing we have observed as perhaps the biggest issue in the whole area is validating valuations and LP agitation about the extent to which value was really right. We think LPs are increasingly sceptical about fairness opinions (often commissioned by the LPAC or advisory committee of a fund, around the process of conflict management rather than the actual proposed price) and, as a consequence (and certainly for the concentrated or single-asset deals), they expect to see more market-testing of value with lead secondary buyers being bidders in a market auction akin to a traditional M&A buyout.
In relation to deal terms, careful consideration must be given to the manager’s duties to each of the buying and the selling entities, and how best to evidence the mitigation of conflicts of interest to the investors in each vehicle. This may be particularly acute where a sponsor is asking for a staple, or when bringing in their current flagship fund to co-invest alongside the secondary vehicle (a trend we have seen emerge as the equity cheques required now routinely exceed what can be put together with only one or two lead underwriters of a deal – not to mention the ‘strong buy signal’ that comes about with a sponsor’s flagship fund coming into a deal). What should the liability package look like and does that pass muster as a reasonable allocation of risk from a buy-side and a sell-side perspective? How do you price in an identified but unquantifiable risk (e.g. an ongoing tax or regulatory investigation)? How do you structure rollover election options when pressured to not offer a ‘status quo’ option for the existing investors by over-subscribed buy-side demand from lead secondary buyers?
Ready to go
Our view is that, with the benefit of deal trends and sentiment from global transactions, the Singapore ecosystem is particularly well set up (and we would say is more than ready) to support significant growth of the secondary strategy in the immediate timeframe for pan-APAC opportunities. The increasing availability of W&I insurance for these types of deals and access to the underwriting markets from Singapore-based brokers, is one example. As a financial hub, the private capital participants on the ground (experienced placement agents, counsel and lenders) in Singapore will support managers seeking to move into, or increase their presence in, this segment of the market. The key, as always, is proactively planning transactions with transparency in mind and adapting deal technology developed globally to local market conditions.
Morgan Shubin
Senior Associate
Morgan Shubin specialises in the establishment and operation of private funds, and secondaries deal technologies. Morgan advises a wide range of private investment fund houses, including those focused on private equity, venture capital, real estate, debt and funds of funds, in relation to their private fund structures, secondaries transactions, co-investments, carried interest schemes and the funds aspects of M&A transactions.
Morgan also advises investors in relation to the terms of their investments in private funds.
Tom Lin
Partner
Tom Lin specialises in M&A and corporate finance with a focus on private equity transactions, advising on buyouts, secondaries, joint ventures, MBOs, minority and co-investments, public M&A, management incentives and restructurings. Tom has particular market recognition for his work in complex private equity secondaries transactions and is regularly sought out to advise on GP-led liquidity offerings in Asia and Europe.
