The mid-2007 credit crunch brought about a bit of renaissance for several groups—distressed investors, mezzanine lenders and, more recently, secondary buyers of LP stakes. You might say secondaries are having a “moment.”
For that reason, I half expected today’s Private Equity Secondaries Conference to be a bit like Drexel Burnham’s infamous “Predator’s Ball,” at the peak of the junk bond heyday. An exciting event for a specific group of professionals on the verge of a big, exciting seachange.
Clearly, I got ahead of myself.
The conference, while useful, doesn’t exactly have that frenzied, “new masters of our domains” feel. Secondaries are certainly gaining momentum, but they’re not there yet. The thing that’s been holding them back is the bid-ask spread, and judging by the comments I’ve heard today, it hasn’t really improved in the past month.
See, for the past three months, buyers of private equity fund stakes have been laying in wait for official year-end numbers to come out before pouncing on deeply discounted private equity funds. The idea is sellers will more readily accept the lower numbers after seeing how deep their writedowns are. “Sellers’ investment committees are sensitive to price,” said Justin Pollack of Newbury Partners. According to Charles Smith of RREEF Private Equity, “They come to market because they’re curious about pricing, but they’re so offended by the price they’re offered that they walk away.”
Well, last month year-end results came out, which should have theoretically helped sellers adjust their pricing expectations, yet deal activity hasn’t picked up. What’s the problem? Well, Q1 was so bad that now buyers are saying that they want to wait for those numbers to price in even deeper discounts. Will it ever be the right time, or will it be a deal-less buyer-seller stalemate like the M&A market?
Some buyers are finding ways to get around that. Others are basically saying “screw it, we’re buying anyways.” Others still are simply sticking with the more desperate “have-to-sell” sellers, and there are plenty of ‘em.
One example of a workaround: David Waxman of Azla Advisors said his firm was focusing on making his firm’s bids more IRR-driven versus multiple-driven. He said his firm, an intermediary, has negotiated a deferred payment schedule, which allows sellers to unload their interests at a more reasonable discount. The seller doesn’t get all of its capital upfront, and the deferred payments allow buyers to accept higher pricing, replacing the role of leverage in secondary deals. This which helps push discounted deals past investment committees, Waxman said.
Meanwhile Pollack said Newbury Partners has been busy buying from “have-to-sell” sellers. The firm has done $350 million worth of deals since October. That’s because they were all distressed sellers who, as he said, “needed money now.” He added, “It wasn’t even a capital call issue. Once the capital calls start, the sellers will be the ones who blink first. They have to some degree already.”
Waxman also said non-distressed deals will come back by the end of this year: “By Q4 we’ll probably see discounts that are more palatable, we could see sellers who are not distressed start to transact at discounts of 50% or more to clear their books for the end of 2009.”
So, yes, the big secondaries “moment” has yet to happen. See you in Q4.