The stigma against general partner-led secondary fund restructurings is declining as more investment firms are using the structure to improve liquidity and extend fund terms.
As more investment firms use the deal structure, however, limited partners have been seeking guidelines for how to deal with the mountain of paperwork involved in these deals — which are often turned around on short timelines. In response, the Institutional Limited Partners Association released on Thursday a set of guidelines and considerations for limited partners that find themselves considering a general partner-led secondary fund restructuring.
GP-led secondary transactions accounted for 40 percent of all secondary deals in 2018, according to Jennifer Choi, managing director at ILPA. These deals are different from conventional secondary transactions, in which an LP sells its stake in an investment firm to another LP.
GP-led secondaries take place when an investment firm restructures a pre-existing investment. While these transactions aren't new, their profile has “evolved” from being primarily used with so-called zombie funds to seeking solutions — “such as providing liquidity for limited partners or securing a pre-emptive extension of the fund term to maximize value of a fund’s assets” — as the secondary market has grown, ILPA said in its report.
The industry group worked with limited and general partners, secondary specialist firms, funds of funds, brokers, advisors, lawyers, and advisors to LPs to come up with the guidelines, according to Choi.
“On more than one occasion, I heard shared pain around reviewing a thousand pages of documentation around a transaction within 20 business days,” Choi said by phone Wednesday. “The challenges of doing that while also juggling all of the other responsibilities that come with being an LP are enormous.”
The deals are often bespoke, which makes evaluating the impact of deciding to hold or sell the investment all the more important, according to the guidelines.
The ideal GP-led secondary transaction would be efficient and transparent for limited partners, the guidelines recommend. They also suggest that LPs get involved as early as possible in the process, and that they are given enough time to consider the deal — which according to ILPA, is at least 20 business days.
ILPA also said that GPs and LPs should work together to address how they would mitigate conflicts of interest.
In an ideal process, GPs would disclose how many bids were received and the size of those bids to LPs, according to ILPA’s guidelines. They should also disclose management fees and carried interest, ILPA said.
If limited partners find themselves involved in a GP-led secondary process, they should review all new and existing documents on the transaction to ensure they understand any changes that would result, ILPA said. If the organization is subject to Employee Retirement Income Security Act (ERISA) requirements, limited partners should consult counsel, according to the report.
And while a limited partner may not yet be involved in a GP-led secondary transaction, they can plan for it, according to ILPA. LPs should consider having an internal discussion about creating protocols in case a GP-led secondary process occurs, according to the guidelines.
As a result of these guidelines, Choi said she expects that GP-led secondary processes will go more smoothly for LPs.
“In a nutshell, we think that LPs will feel like they’re making better-informed decisions,” Choi said. “The processes should be more efficient, but also there should be a higher likelihood of execution because the LPs will feel more informed and better informed.”