Three reasons why energy-related secondaries deals are gathering pace.
In December, we used this space to pose the question: will 2016 be the year of energy secondaries? While it’s still too early to deliver a verdict, market participants are reporting an increase in successful energy secondaries deals, for several reasons.
First, commodity prices, while low, have stabilised, and limited partners in energy-related funds are starting to realise the massive drop in pricing was more than just a blip. As a result, bid/ask spreads are narrowing as the gap between sellers’ and buyers’ expectations shrinks, leading to more deals closing.
Second, net asset values (NAVs) have come down, and this is allowing sellers who are focused on headline discounts to record smaller perceived losses on their books. Many sellers are often driven by investment committees and just look at headline discounts and not at the actual dollar amount they will receive. “They’re happy to sell later at a smaller discount but that produces a lower price for them,” one source said. “It’s a psychological thing.”
And third, some investors are just plain fed up with seeing the value of their investments come down quarter after quarter.
“June was horrible. September was worse. December was even worse. And March is going to be worse than it was in December,” one buyer of energy fund stakes told me. “A number of investors have just reached a point where they say ‘I don’t want to deal with this any more.'”
Investing in energy-related funds – which for some includes metals and mining exploration as well as oil and natural gas – requires specific skills, sector expertise and knowledge. The alternatives sub-sector comes with a range of risks, such as commodity pricing and macroeconomic or geopolitical risks that can quickly impact an investment. So when something goes wrong, the first-time or inexperienced investor doesn’t have the institutional knowledge to ride it out, market sources say.
“Some LPs made [energy-related] commitments just because it was the flavour of the day and they saw all these endowments and foundations doing so well,” the same buyer told me. “Now they’re asking, why the hell did I invest in something that I didn’t understand?”
Of course, LPs wanting to exit funds for any or all of the reasons above means secondaries buyers can step up. But even secondaries players require a deep understanding of the market to make energy fund stake purchases work. Funds of funds including HarbourVest Partners and Pantheon are currently raising dedicated real assets vehicles that will target energy secondaries.
One aspect that market sources remain divided on is GP-led restructurings of energy-related funds and assets. When Secondaries Investor spoke to industry insiders late last year, the general sentiment was that such deals would likely happen in the beginning of 2016, but we haven’t seen many of these yet, according to sources I spoke to this week.
Why? It’s a timing issue. Even troubled funds raised in 2012 or later are still within their investment periods and it’s too early to start thinking about restructurings, one source said. The funds that are going to be in trouble are those raised more recently, and there’s still plenty of time for them to improve their situation. Restructurings will have to happen at some point – oil price recovery or not – but it’s more of a 2019 or 2020 story, I’m told.
Ultimately, primary investors in energy funds have to understand there are going to be up cycles and down cycles, and in the down cycles you have to stay put and make the best of the situation. While this is sage advice for LPs, it means secondaries buyers keen to capitalise on restructurings in the energy space may have a little longer to wait.
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