Continuation funds keep momentum after record year in 2023

May 22, 2024 (Preqin News) – A record number of continuation vehicles were launched in 2023 as GPs sought to avoid closing out investments, hopeful that improved economic conditions and amenable borrowing costs would help boost asset values.

It’s a trend that is likely to continue throughout 2024, with tempered expectations over future rate cuts, an ongoing lack of liquidity, and significant dry powder reserves among factors supporting secondaries transactions.

The number of continuation fund closures increased to 73 in 2023, up from the previous record of 48 funds set in 2021, according to Preqin data. Buyout funds dominated, with 47 new vehicles announced and 24 single-asset funds.

Single and multi-asset continuation funds have been growing in popularity since 2018 as an alternative to IPO and sale across all asset classes. Their adoption was further increased as higher interest rates and depressed valuations stymied exit opportunities. With LPs simultaneously reducing commitments, continuation vehicles have helped provide liquidity.

‘As the exit environment continues to prove challenging, GPs will view continuation vehicles as an alternative route to liquidity. LPs have generally remained skeptical and are often taking the liquidity option rather than rolling their investment forward into the new vehicle. This is in part due to the liquidity constraints that many LPs are facing, but also the operational cost of underwriting a new investment, which can often be quite small compared with their overall portfolio,’ said Cameron Joyce, Head of Research Insights at Preqin.

So far this year, 25 new vehicles have been disclosed, according to Preqin data. In late April, US mid-market private equity firm Vestar Capital Partners announced the closing of a $1.2bn single-asset continuation vehicle for its stake in consumer behavior advisor Circana.

Earlier the same month, OceanSound Partners closed its $1.2bn OceanSound SMX Continuation Fund to continue to support the growth of its portfolio company SMX, a technology firm in which it secured a majority stake in 2013.

VCs have also turned to the strategy of extending the holding period of their startups by transferring them to new funds. In January 2024, the Financial Times reported that Lightspeed Venture Partners was setting up a new continuation fund to buy $1bn of stakes in 10 US-based portfolio companies.

2024 saw the biggest continuation fund raised in Spain to date, a €550mn ($595.6mn) infrastructure core fund managed by Lanza Capital, which attracted capital from Brookfield Asset Management and Partners Group. Lanza Capital Fund II has acquired 110 off-street car parks with more than 43,000 parking spaces across the country from the Aparca2 Capital Estacionamientos and Aparca3 Capital Estacionamientos.

As continuation funds are likely to be instruments in the secondary market moving forward, LPs are seeking to maximize value in the process. They are offered the option of rolling into them and retaining a stake in the asset or sell. To align LPs and GPs’ interests during negotiations, the Institutional Limited Partners Association (ILPA) published a guidance on continuation funds in May 2023.

‘While this transaction provides more optionality to private equity funds, their increased use has raised many questions for LPs. First, the highly complex nature of these transactions demands a substantial amount of attention from LPs. It also requires LPs to make decisions about individual assets, as opposed to private equity funds or managers. Additionally, LPs can struggle with the speed at which these transactions are run,’ the association said.

ILPA said it had been compelled to act because of the growing LP frustrations around these transactions. However, it remains confident that there is a path to mutually beneficial deals: ‘If the principles laid out in this document are followed, these transactions can be structured in a way that reduces strain on the alignment of interest between LPs and GPs.’

_{The opinions and facts included within the above do not constitute investment advice. Professional advice should be sought before making any investment or other decisions. Preqin providing the information in this content accepts no liability for any decisions taken in relation to the above.}