Are buyers really attracted by higher valuations?

The US prosecutor’s claim that Abraaj ‘boosted’ valuations to entice secondaries buyers is at odds with market logic.

More details of US prosecutors’ case against Abraaj Group have emerged: three additional senior executives from the emerging markets firm were charged and the indictment has been widened to include money laundering, bribing elected officials and alleged misuse of funds for personal enrichment.

For Secondaries Investor, one of the most fascinating parts of the 78-page document filed by the US attorney’s office for the southern district of New York is the claim that Abraaj executives allegedly inflated valuations of their funds in order to attract secondaries buyers of LP stakes in the firm’s funds.

In one example, founder Arif Naqvi is alleged to have criticised a junior deal team member who voiced opposition that an investment be valued at 1.4x cost when another well-known private equity fund had marked the same investment at between 0.7x to 0.8x cost.

There is a logic to inflating valuations for the sake of fundraising, but would it attract secondaries buyers?

A buyer will conduct due diligence and form their own view on the value of a fund, which in turn translates into a discount or premium to the fund’s NAV. A GP’s mark should make no difference; if the GP values an asset at 100 and you think it’s worth 70, it’s worth 70.

Then there’s the degree to which you can trust a GP’s marks. Buyers will typically place a relatively high degree of trust in what a GP is saying if they are an established manager with a track record. For failed GPs or where there’s information asymmetry – such as in many emerging markets – buyers will be more sceptical.

“Overmarking assets becomes very transparent when people are able to do their own analysis,” says Thomas Liaudet, a partner at Campbell Lutyens. “If it’s clearly overvalued, the secondaries world is quite sophisticated, so they will spot that quickly.”

Third-party valuations opinions are of course one way to provide further clarity, but this is rare for LP stake purchases, Liaudet adds.

It’s unclear whether US prosecutors came to their own conclusions that Abraaj allegedly boosted marks to attract secondaries buyers, or whether there is evidence such as wiretaps or audio recordings that explicitly show this was Abraaj executives’ intention.

In any event, it didn’t work. We have found no credible evidence suggesting stakes in Abraaj funds were acquired at any point in the last 24 months. The two secondaries processes we know of never got off the ground, as we reported last June.

Mark-up or no mark-up, buyers always need to get comfortable with what they’re buying. The lack of secondaries trades in Abraaj’s funds shows buyers never got comfortable enough.

Write to the author: or @adamtuyenle