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The Rise of (and Risk to) Funds-of-Firms

A new report from Bain & Co. says that the purchase of minority stakes in private equity firms is accelerating. But is there enough supply to keep up with demand?

As funds-of-firms – or portfolios of private equity minority stakes – take off, the supply of minority stakes for sale could be drying up, according to a new report from Bain & Company.

Minority stakes in private equity firms offer cash flows to buyers and liquidity to sellers, according to a report released by Bain on February 26. As a result, in a market with an extraordinary level of dry powder, more firms are creating portfolios of minority stakes.  

Since 2014, 119 firms have sold a stake to a GP in the hopes of raising capital, according to Bain. This is more than double the number of stakes sold in the five years prior, the report said.  

According to Bain, there are an increasing number of funds specifically focused on buying minority stakes in the market, like Neuberger Berman’s Dyal Capital Partners and Blackstone’s Strategic Capital Holdings. 

“While the space was once the domain of institutional investors buying individual stakes, these firms are raising billions in capital for ‘fund of firms’ vehicles that are dedicated to buying portfolios of GP minority stakes,” the report said.  

But some firms may have missed their chance to buy up some of the most valuable assets.  

“A critical question is how much opportunity remains,” the report said. “Already, the pool of the most obvious candidates is shrinking.”  

All the while, the amount of capital available for these funds has grown in spades. The funds have raised more than $17 billion since 2012, according to Bain. They are in the market to raise $14 billion more.  

“As competition for their equity increases, sellers are likely to drive harder bargains for a stake, preserving more value for themselves,” the report said. The report also noted that because of increasing competition among buyers, prices for assets will likely increase.  

[II Deep Dive: Investcorp Launches Business to Take Minority Stakes in Midsize Alts Firms]  

According to Bain, what’s likely to happen next is that a secondary market for these stakes will develop.  

“This would act as a relief valve for the capital raised for this strategy, as well as provide a path to liquidity for existing stake owners,” the report said.   

However, few of these transactions have taken place yet, the report said.   

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