One of the oft-touted advantages of investing in private equity is the opportunity to buy in at a discount to public markets. This valuation discount, as measured by EV/EBITDA multiples, has persisted since 2012, widening to nearly 60% in 2020.¹ Since that peak, the discount has narrowed significantly as public market equities have sold off. While this may give some cause to pause, it is interesting to consider what transpired for investors between 2009 and 2012, on the heels of a near-meltdown of the financial system. With equities down sharply into 2009, the denominator effect boosted percentage allocations to private equity within investor portfolios. The instinctive reaction (and in some cases, forced action) may have been to abstain from new private equity investments beginning in 2009 so as not to exacerbate the over-allocation. This may sound familiar to private equity investors in 2022.

With hindsight being 20/20, these corrections to annual capital commitments ultimately resulted in an under-allocation to private equity, and thus underperforming portfolios over the next decade, as public markets and public market allocations snapped back. Furthermore, while private equity will likely not see the type of drawdown that public markets have seen, we do expect valuations to pull back, creating attractive entry points for managers with dry powder to deploy capital. While investors should be mindful of any liquidity constraints and maximum allocations to private markets, those that are able to remain steadfast in their annual commitment pacing schedules may find themselves in a better position once the public markets settle. Marquette believes that a successful private equity program is one that is consistently diversified by vintage year over time and highly selective in terms of manager partnerships.

Print PDF > When Not to Quit

¹Pitchbook, as of June 30, 2022

The opinions expressed herein are those of Marquette Associates, Inc. (“Marquette”), and are subject to change without notice. This material is not financial advice or an offer to purchase or sell any product. Marquette reserves the right to modify its current investment strategies and techniques based on changing market dynamics or client needs.

Amid public market turbulence, venture capital exit activity and total exit value so far in 2022 are down significantly from peak 2021 levels. The venture-backed exit value in the U.S. came in just under $50 billion in the first half of the year. If this pace continues, 2022 is on track to come in at less than 15% of 2021 levels, returning to an exit value range last seen in 2017.

The number of acquisitions and buyouts as forms of exit are tracking close to 2021 numbers. Firms at the lower end of the market commonly use acquisitions and buyouts as exit strategies. This area of the market has also been more resilient against public market compares. Weakness in the IPO market — potentially on track for its worst year since Dealogic began tracking it in 1995 — is having the greatest impact on the decline in exit value. The IPO market has essentially shut down for venture capital-backed businesses. The familiar macroeconomic headwinds — high inflation, rising interest rates, and the risk of recession — have weighed on venture capital valuations alongside public market equities. Startups that were planning on an IPO are now forced to reevaluate their options. In the meantime, these companies have to rely on the strength of their balance sheets and the financial backing of sponsors. For companies still early in their life cycle and burning cash, liquidity may be a growing concern. Since valuations are down, VC managers are predicting 2022 could in theory be an attractive vintage year and entry point into the VC market. Partnering with VC managers who have experience investing through business cycles and periods of high and low valuations will prove to be important. Overall, with the outlook for the IPO market still uncertain, we are carefully monitoring the impact to the VC landscape and the potential impact to investors.

Print PDF > This Exit Closed

The opinions expressed herein are those of Marquette Associates, Inc. (“Marquette”), and are subject to change without notice. This material is not financial advice or an offer to purchase or sell any product. Marquette reserves the right to modify its current investment strategies and techniques based on changing market dynamics or client needs.

The private equity secondary market has matured and become more efficient over the last decade, with annual secondary transaction volume scaling from approximately $25 billion in 2012 to roughly $130 billion in 2021. Investors are increasingly turning to the secondary market for liquidity as they look to exit their private equity investments to better manage their overall portfolio allocations. Single asset transactions have been a more recent contributor to the growth of the secondary market, growing from 3% of total secondary transaction volume in 2018 to 25% in 2021, with a large part of this volume driven by the creation of continuation vehicles. These vehicles are quickly gaining in popularity, primarily by managers within the middle and upper end of the private equity market.

Continuation vehicles have become a hotly debated topic within the private equity community. The ability for private equity managers to recapitalize what is often their top portfolio company into a new single fund structure helps raise additional AUM and allows the manager to continue to own the company. However, it can be challenging for Limited Partners (LPs), who often lack the ability to underwrite a single company or are not given enough time to do so. Many institutional LPs are also simply unable to take the concentration risk of investing in a single asset.

As the secondary market evolves, single asset continuation vehicles are expected to become more common. LPs in private equity funds will need to evolve as well to take advantage of these opportunities and remain invested in the best assets over a longer period. This may require LPs to increase their allowable concentration limits, expand underwriting capabilities, or adjust policies in order to roll top investments into continuation funds.

Print PDF > The Evolving Secondary Market

The opinions expressed herein are those of Marquette Associates, Inc. (“Marquette”), and are subject to change without notice. This material is not financial advice or an offer to purchase or sell any product. Marquette reserves the right to modify its current investment strategies and techniques based on changing market dynamics or client needs.

A general partner (GP) stake is a direct investment in a general partner’s management company and is typically a passive, minority investment. GP stake investors have purchased interests in hedge fund, real estate, private credit, and venture capital managers, but the most significant adoption of this transaction type has been in the private equity buyout landscape. GP stake investing has increasingly become a topic of conversation due to robust fundraising by dedicated GP stake funds and the maturation of the buyout market, with many firms on the cusp of a generational transition and a desire to raise capital to finance future commitments and build out platforms via product proliferation and team growth.

Investors in GP stakes are attracted to the stable yield of the management fee, the upside potential provided by carried interest, and other strategic benefits that may include better access to co-investment opportunities or a primary allocation to future funds. Managers view a GP stake sale as a more favorable path to raising capital relative to an IPO given the scale required and the complexities of going public.
For limited partners (LPs) investing in funds of managers that have sold a GP stake, or are planning to do so, understanding the manager’s plans for the use of proceeds is critical. The capital is typically used to offer liquidity to existing owners of the management company and/or as a means to reinvest in the firm, either through increased GP commitments in future funds or growth initiatives. In addition to confirming the use of proceeds, LPs ought to diligence the rationale for the sale, percentage of the management company sold, and terms of the agreement between the manager and the GP stake investor.

GP stake sales were a key feature of the private equity marketplace in 2021 and show no signs of dissipating in 2022. While these types of investments historically have been limited to the largest buyout managers, increasingly middle market managers are selling GP interests. As we continue to see buyout funds participating in GP stake sales, as well as an increase in the number of dedicated GP stake funds raising capital, it is important for clients to consider this dynamic when investing in private equity funds.

Print PDF > What Is at Stake?

The opinions expressed herein are those of Marquette Associates, Inc. (“Marquette”), and are subject to change without notice. This material is not financial advice or an offer to purchase or sell any product. Marquette reserves the right to modify its current investment strategies and techniques based on changing market dynamics or client needs.