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Editor’s Letter: Normalizing restructurings in the secondary market

I’ve recently had a few conversations with folks in the secondary market about reports that Warburg Pincus plans to carve out about $1 billion in Asia interests from Fund XI, which closed on $11.2 billion in 2013.

The feeling from a few sources is this deal — if it gets completed as was reported in the Wall Street Journal — would be a good sign for the secondary market and the business of finding creative ways to provide liquidity to investors in older funds.

The deal, unlike some other headline-grabbing restructurings and GP-led secondary processes, is not a negative story. The GP is highly respected and a strong performer.

“It’s a case of the GP strategically using the secondary market as a method of achieving certain goals,” according to a secondaries adviser I spoke with. “The secondary market has matured to the extent where that would not have been considered two years ago. Now we find GPs actively thinking how can they more actively manage their portfolios for LPs.”

Restructurings have been burdened with a negative perception by LPs, and for good reason.

LPs were angry about some past restructurings, feeling they were forced into two bad choices: sell their interests at a loss or give fresh incentive to an underperforming GP with a reset management-fee stream and even another shot at generating carried interest. The SEC has even taken an interest in scrutinizing these processes in search of conflicts.

This side of the secondary market continues to grow: GP-led processes like restructurings and direct equity deals represented about 33 percent of first-half market activity, up from 26 percent in the year-earlier period, according to Evercore.

However, restructurings and tender offers — in which a GP lines up an investor to buy LP interests at a set price — continue to be challenging to get done, and to get done at sizes originally anticipated.

Part of the challenge of completing such deals is the negative perception they have among LPs. GP-led transactions done by established GPs like Warburg could do much to normalize this type of activity for LPs.

But these types of more positive deals need more press. One secondary adviser complained to me that the “good” deals that get done don’t get covered in the media. “A fraction of the deals that get done are reported on,” the adviser said.

I agreed with that sentiment. Even from simply chatting with folks in the secondary market, I can tell there is a ton of activity. But without anyone willing to speak up about deals — especially the positive ones — I have no way of reporting on them.

The fact is, I generally  hear only about the tough situations because that’s when people are frustrated. And frustrated, angry people are the ones more likely to reach out to people like me to get their message out.

But I agree that today, restructurings, or should I say GP-led processes, are not the soundly negative story that they were a few years ago. Many of these processes are innovative ways to provide capital to LPs in older funds while supporting remaining portfolio companies in well-performing funds. The only issue is length of time, but that doesn’t need to be a big issue if LPs are being paid back.

Private Equity Editor Chris Witkowsky reflects at home. Photo by Wendy Witkowsky