IPEM Cannes 2024 - Secondaries offer a strategic option for LPs while independent sponsor-backed deals also gain traction

Private market investors have seen an extended period of deal activity over the last decade but the investment optics have changed in 2023. Higher rates, inflationary pressures, and volatile markets, have generated uncertainty and impacted deal volumes. As Bain & Company point out in their 2023 mid-year PE report, “uncertainty is the enemy of dealmaking”.

They note that through the first six months of the year, global buyout funds oversaw 863 deals and $202 billion in deal value. This is a 58% fall on the same period last year. In Europe, VC deals have fallen even more sharply; down 60% compared to the first half of 2022 according to Pitchbook.

Raising the bar?

With an estimated $2.8 trillion in unrealised assets, buyout funds must also grapple with a challenging exit environment, as they aim to generate much-needed distributions to their LPs. Global private equity exits in the year to Sept 30th totalled 1,294. This is some way off last year’s full-year aggregate of 1,584 exits. Whether it is doing deals on the way in, or the way out, 2023 has been a testing period.

All of which will require LPs to look closely in 2024 at how effective PE firms are at sourcing the right opportunities, as well as continue to create new liquidity routes. Arguably, the bar has risen in terms of how LPs look at managers’ track records and their ability to increase the multiple on invested capital.

“As the cost of capital is higher and capital is scarcer – investors allocating less because of the denominator effect or because of liquidity issues (fewer DPIs being made) – then mathematically you could say the bar is getting higher,” comments Jean-Francois Le Ruyet, Partner at Quilvest Private Equity in London where he sits within the funds and co-investments team. He continues: “Investors are allocating less capital to fewer funds. That has been the direction for 2023 and I think it will continue for at least the first half of 2024. Even if the market turns and IPOs come back in force, it will take time to translate in to more distributions.”

One of the topics of discussion on Day 2 at IPEM Cannes 2024 will be “Exploring track records: What’s a successful deal for LPs?”

Liquidity drives deal flow

Pantheon notes that continued demand for liquidity from both investors and fund managers is driving increased deal flow and attractive pricing, particular in the mid-market.

“This latest fund will be a 50/50 allocation to GP-led and LP-led deals,” confirms Petra Bukovec, a Partner in Pantheon’s global secondaries team. “We also have a separate GP-led fund that focuses only on single asset secondary transactions. There continues to be an under-capitalization for GP-led transactions. Fundraising hasn’t necessarily kept up with increasing supply of transactions and that is making it a very attractive market.”

Bukovec notes that not all GP-led deals end up getting completed but if there is a clear rationale to continue with the strategy and an alignment of interests, “then it presents a good case to use a continuation vehicle.”

One future trend that is worth considering is the emergence of a ‘continuation fund of a continuation fund’ where the GP has already established one of these vehicles and wishes to extend the investment period even further and move it in to a new fund.

“If an asset is sold four times in a row, and each time you make a 3x return, then of course people are going to think it makes sense to keep hold of it, and offer liquidity back to LPs (at each stage). You can imagine scenarios where this happens. But there would come a stage where the GP can no longer get additional economics,” suggests de Lint.

Investors are taking a more data-driven approach to assessing both managers and the underlying portfolio firms, which is likely to place even greater importance on the quality of dealmaking; which GPs are truly delivering outperformance? This topic – “The data-driven LP” – will be explored during the afternoon of Day 2 at IPEM Cannes 2024.

“Due to our large platform, which invests across primaries, secondaries and co-investments, we have a huge amount of data, both qualitative and quantitative,” says Bukovec. “Our secondaries strategy focuses on relationships with GPs that we know and on whom we have better information. When you have concentrated positions, diligencing companies from the bottom up is very important. For diversified LP fund positions, the data-driven approach can be even more relied on. It is a continuing development for us, and probably the rest of the market.”

At Headway Capital, de Lint confirms they are already using a number of AI tools. “Anyone who is not seriously looking at this data-driven approach is going to be at a disadvantage. It won’t replace what we do, but it’s a very useful tool. Used well, it will be a fantastic support,” he concludes.