Continuation funds have become a controversial subject in LP land – talk to any group of LPs and half will tell you they want to see more of them, and the other will scoff and hint that they are just another way for GPs to pay themselves more fees.
Wherever you come down in the great CV debate, we can all acknowledge that this type of GP-led secondaries deal is not going anywhere. Continuation funds have become more popular than ever, and despite a slowdown in activity this year, they will continue to be part of the play book.
Because of this, some LPs are wrestling with policy changes making it easier for them to participate in these types of deals. Because of what many LPs perceive as concentrated timelines, a majority of investors choose to take liquidity in continuation fund deals, rather than try and hit the GPs’ deadlines to make a roll decision and stay with the asset.
GPs usually give LPs 20 days to decide whether or not to participate in a continuation fund or similar vehicle. Many public allocators require board approval for private fund commitments, a lengthy process that precludes many retirement systems from participating in continuation funds – even when investment staff see a good opportunity.
It’s a real problem. According to a 2022 study from Upwelling Capital Group, systematically avoiding continuation funds could cost LPs more than 15 percent of total cash-on-cash returns over a 10-year period.
Massachusetts Pension Reserves Investment Management Board published documents this week outlining its efforts to rectify the situation. The system’s investment committee last week approved a policy that gives investment staff increased flexibility to participate in continuation funds that need extra capital without board approval.
MassPRIM would not be the first large public institutional investor to eye continuation funds.
Los Angeles County Employees Retirement Association has become something of a steady investor in CV deals in recent years. The $73.5 billion system participated in GP-led secondaries from Rivean Capital and Adelis Equity Partners, along with an Accel-KKR deal that moved several companies into a continuation vehicle.
LACERA and MassPRIM are in great positions to participate in continuation vehicles. Both are long-term investors in private equity with well-regarded investment teams. Both have private equity portfolios that are cashflow positive, reducing the need for liquidity. And both have knowledgeable board members who understand the nuances of private equity and are amenable to tweaking policies to get it right.
Not every system has these advantages. It’s a tough ask to change the rules for LPs desperate for liquidity. It’s even tougher when many public pension boards lack the expertise and knowledge to properly underwrite such deals.
It’s also not just board approval processes that remain an obstacle.
According to ILPA’s guidance on continuation funds, many LPs are required to consider each continuation fund transaction as a completely new investment – no matter how long the life of the primary fund or the LP’s relationship with the manager.
This may require additional costs and time commitments like a full investment and due diligence review and other compliance requirements. Many LPs may also need to essentially undertake an entirely new underwriting process, too, according to ILPA.
In today’s parched environment, most LPs want to cash out in CV deals anyway, but when a good opportunity arises to fully participate, LPs should have options.