This article is sponsored by PJT Partners.
How would you describe the scale of GP-led deals you are currently seeing and what are the primary drivers of dealflow?
Christopher Areson: PJT estimates secondary transaction volume to have been approximately $135 billion in 2021, and around $71 billion of that were GP-led transactions. That equates to 53 percent of overall volume, so the growth has been tremendous. Meanwhile, we are currently tracking 90 GP-led transactions with an aggregate value of over $60 billion, either in the market, or about to come to market. That is nearly the same volume of dealflow that we saw completed throughout the entirety of 2021, and it is now in the market in just the first quarter of 2022.
The main driver of that growth is a recognition among GPs that this market is another arrow in their quiver to provide liquidity options to underlying investors.
LPs are being faced with the dual challenge of a flood of capital calls, given how busy M&A markets have been, and an influx of managers coming back to raise new funds. Many LPs are telling sponsors that they want to grow with them but need help with liquidity and portfolio construction considerations. At the same time, sponsors are starting to understand the GP-led market better, and that is resulting in many more productive conversations leading to actionable dealflow.
The type of assets being considered, meanwhile, continues to skew toward trophy companies in funds that are more in harvesting mode than investment mode. The GP wants to continue its ownership but recognises that some LPs may prefer a liquidity option.
We also continue to see dealflow driven by the impact of the pandemic. For example, we are working on a transaction right now where the sponsor had considered an outright exit, but believes they can maximise value for investors by demonstrating another year or two of post-covid performance.
Another driver is the need for unfunded capital to support buy-and-build strategies or transformative mergers where that dry powder no longer exists within the original fund.
The market seems to be awash with potential deals on the supply side, but how has the buyer landscape evolved?
Johanna Lottmann: The buyer landscape has expanded meaningfully in recent years, which is fantastic to see. On the one hand, there are established buyers raising ever larger pools of capital.
At the same time, we are seeing the emergence of new entrants and niche buyers, for example those specialised in certain segments of the secondaries industry. In fact, PJT’s recent market survey shows that 30 percent of secondaries funds currently in the market are exclusively targeting GP-led transactions – this is separate from secondaries strategies that are targeting both GP- and LP-led deals. That phenomenal growth allows us, on the advisory side, to select the best pools of capital for specific transactions.
Yet with $60 billion of dealflow currently in the market, we fear that the market is still undercapitalised. New entrants will take some time to raise the larger pools of capital required to enable them to have a real impact.
What impact is that competitive environment having on pricing?
JL: Pricing needs to be attractive, otherwise there is not going to be a transaction. Our role is to make sure we have a good sense of what that pricing might ultimately be, so that the client can make a decision on whether to push ahead or not.
On the GP side, pricing is typically par, or may involve a slight premium. Pricing is strong because these deals often involve trophy assets in a market that is these days dominated by the very best GPs.
Pricing in the LP market, on the other hand, on average involves a discount but is still attractive. PJT saw average LBO secondary pricing last year at 96 percent. However, in recent weeks a lot of LPs have come out and put sizeable portfolios onto the market on the back of strong pricing last year, so buyers are understandably becoming increasingly picky.
How are macro factors impacting pricing?
Jolie Chow: Macro factors, including public market volatility, interest rates and regulation, all have an impact on secondaries pricing. For us, it is about capturing the right market window to either pause or push our transactions to achieve the right pricing for both sellers and buyers. Rising interest rates, for example, will probably mute purchasing power, so GPs may seek to hold assets for longer.
Meanwhile, new regulation in China is impacting buyside sentiment around venture capital and growth assets that rely on the public markets for exit.
The secondaries industry is increasingly global, however, which means buyers are quick to redeploy in other geographies where necessary. Historically, China has been the primary focus within Asia. Now we are seeing managers change gears and targeting developed Asia, including Korea, Japan and Australia, as well as Southeast Asia and India. For us, having a highly co-ordinated global team helps us navigate these fast-changing macro factors and ensures we have our finger on the pulse to support our clients.
How are you able to leverage M&A execution capabilities and cross-functional knowledge to drive optimal pricing?
JC: PJT takes a highly integrated and collaborative approach when it comes to secondaries advisory, and that is particularly true on the GP-led side. Every deal is staffed by both product and industry experts, which is essential for driving optimal pricing.
CA: We are working with a manager in the energy landscape right now, for example. That is obviously a sector that has seen limited interest in recent years, but by bringing our product expertise together with our sector expertise, we have been able to deliver a cohesive and articulate message to the market.
There is just so much dealflow out there right now that half the battle is making sure people are picking up their pencils. It would be easy for buyers to dismiss energy entirely, but in working hand-in-glove with our industry bankers to explain why this particular asset is head and shoulders above anything else in the market right now, we have been able to drive meaningful interest in the transaction. We ultimately expect that deal to price strongly, despite the backdrop of a global pandemic and a dynamic where private capital continues to flow away from the energy sector.
JL: I completely agree. We work as one team with our colleagues on the M&A side, which adds a great deal of value to our clients and by extension, to their LPs. In addition, we work with colleagues on the capital markets side, helping GPs weigh whether they should refinance before or after a transaction, and to consider what the best capital structure would be. Our fundraising platform also has an important role to play, particularly in the context of these billion dollar-plus GP-led deals where syndication to traditional primary fund investors is critical.
How would you describe the GP-led secondaries advisory landscape? What does it take to be successful and how do you differentiate yourself?
CA: Whenever you see the type of growth that we have experienced over the past few years, particularly on the GP-led side, you are going to see an influx of new players looking to address that market. Dealflow is growing so rapidly that there is space for multiple advisers and we welcome the competition. However, you need specific expertise to execute these transactions appropriately.
To drive successful outcomes for clients, I would say that there are a number of essential ingredients that need to be in place. First, of course, you need to have expertise and execution experience. This is not a market where any adviser should be learning on the job, which is why a track record across multiple cycles is key.
Second, having integrated investment banking industry coverage and sponsor coverage is crucial, particularly as these transactions increasingly involve single assets and move closer and closer to M&A. It is incredibly important to make sure that you have people who understand the sector and can articulate how a particular asset is differentiated.
The third component I would point to is a strong primary fundraising platform, which we have through Park Hill. Its relationships with underlying LPs are critical. LPs are seeing an ever-growing number of GP-led deals coming across their desks, and having longstanding relationships is incredibly helpful as you seek to articulate the specifics of a given situation, and try to drive an optimal outcome for not only the client, but also the LP.
Our clients hire us for our longstanding expertise in structuring and executing secondary transactions, but they often tell us the true value-add is in our ability to leverage our whole firm to help our clients see the full picture, ultimately getting a successful outcome.
How are you seeing valuation methodologies evolve?
JC: Secondaries pricing is typically expressed as a percentage of NAV. However, the market is now increasingly incorporating more fundamental valuation analysis, such as revenue and EBITDA multiples, public market equivalents, as well as last round valuations when it comes to the VC and growth space, and then triangulating those factors to reach a price.
It will always be important to present price relative to NAV, particularly from the LP perspective, given that is the most recent reference point. But as secondary buyers are increasingly working on highly concentrated, often M&A-like transactions, valuation methodologies are evolving.