Deal-by-deal directs players have a bigger role to play

This rare breed of secondaries player could help push tricky fund recapitalisations over the line.

In this boom time for the secondaries market there’s no shortage of deals to write about, even with half of Europe on the beach. A week ago Secondaries Investor wrote about Glendower Capital backing the acquisition of a portfolio of mature direct secondaries stakes from UK buyout firm Bridgepoint.

The secondaries firm put up €100 million to allow directs specialist Compass Partners to execute the deal and provide follow-on capital to develop the assets: minority stakes in educational publisher Infinitas and opthalmic lens manufacturer Rodenstock; and 100 percent of educational staffing firm Protocol. The deal was interesting for a few reasons.

The buyer

With firms such as Vision Capital switching strategy and Verdane Capital adopting a blind-pool model, Compass Partners is probably one of the last deal-by-deal directs players. Typically, the firm approaches the owners of mature private equity funds that have little chance of hitting carry but still contain some fundamentally good assets. If the GP agrees to sell, Compass turns to a secondaries buyer, such as Glendower or – as in a previous deal – HarbourVest Partners, to provide the capital.

It is not bargain basement

“Every PE firm is a good seller and we don’t take it for granted that we’re going to get anything except at fair value, but there’s less emotion about the last dollar,” says Alister Wormsley, a partner at Compass. “The assets we’ve bought, by and large, have been through several exit processes, might have been through a restructuring at some point, but they are typically decent businesses.”

Operational control

As the Bridgepoint deal illustrates, Compass is happy to take minority stakes in the right situation. Ideally, though, it wants to take control positions and have the same day-to-day influence over its portfolio company as any primary GP. When it raises the capital, it will always tag on an additional sum of follow-on capital, typically around 30 percent of the transaction price. It also has the same return expectations as a buyout fund, not the 10-11 percent of a buyer of LP stakes.

GP-led supplement?

One source of directs opportunities is failed fund recapitalisations. In future, Wormsley sees an opportunity for directs players to actually help these deals get over the line. Instead of a GP choosing to carry out a process on all the assets in a fund, it can hone in on the ones it really sees potential in, recapitalise them, and sell off the rest in a directs secondaries sale. This could allow GPs to refocus on their best assets, LPs to get some liquidity, and would likely result in higher aggregate transaction value. “GP recaps themselves are relatively new transactions,” Wormsley says. “This layer of complexity will come at some point, as it allows the incumbent GP to focus on the assets it has the most belief in.”

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