Like pharmaceutical royalties in the 1990s, or music royalties in the 2010s, tax receivable agreements are an esoteric asset class that pays over time and could grow dramatically, according to a small fund manager in New York.
After stints working on mergers and acquisition at Citigroup and then at the $86 billion private equity firm Lone Star Funds, Andy Lee thought there was enough opportunity to zero in on tax receivable agreements, or TRAs.
TRAs are contracts that obligate a publicly traded company to pay its previous financial sponsors based on the future realization of cash tax savings on tax attributes. But the stakeholders receiving the payments, who are usually private equity firms, would often rather have a lump sum of cash.
In 2017, Lee founded Parallaxes Capital, which has raised four funds specifically to give those stakeholders liquidity and buy discounted TRAs. Now, Parallaxes and its limited partners, which include the wealthiest families, foundations and endowments, are the beneficiaries.
Some groups within or affiliated with big investment firms, such as Blackstone and Apollo, have been active in the TRA space, but Lee isn’t aware of any other firms focused on the contracts. Parallaxes has done more than 30 deals for contracts, many times what other groups have done. However, he said he wouldn’t be surprised if competition increases.
Lee’s ultimate goal is to replicate what other investment firms have done with pharmaceutical and music royalties. He envisions Parallaxes acquiring TRAs, bundling their long-term cash flows, and then potentially taking his investment firm public, much like the Hipgnosis Songs Fund in the U.K. Continuing the music analogy, Lee explained that no limited partner wants the risk of concentrating their royalty investment with just one artist, even a pop star like Justin Bieber. “They want exposure to broad opportunities,” he told Institutional Investor.
The TRA market continues to grow, too.
Parallaxes estimates the secondary market for TRAs is around $30 billion today, up from $8 billion in 2017. Much of that was driven by the hot initial public offering and special purpose acquisition company market in 2021, when there were 75 new TRAs in the U.S.
Last year, rising inflation and interest rates caused equity and fixed-income markets to plunge, dramatically slowing deal volume. But there were still about 20 new TRAs in 2022 and Parallaxes expects there will be more this year.
The firm already knows of almost nearly a dozen companies that plan to go public through an IPO or SPAC that have a TRA this year and that number is expected to grow, it said.
“There has been a growing desire for more non-correlated or less-correlated strategies,” Lee said.
His cottage industry might not be one for very long.
