In today’s market, a private equity firm (“GP”) has many avenues to monetize an investment. The traditional exit opportunities include a sale to another private equity, a sale to a conglomerate, an IPO, or a recapitalization. But, as of late, GPs have begun utilizing continuation vehicles (“CV”) to monetize an investment while still retaining exposure to get the proverbial “second bite of the apple.” CV’s are effectively funds created to continue investing in an asset (or sometimes a group of assets) that the GP believes has upside potential (for the most part), while also providing liquidity options to existing Limited Partners (“LPs”) or shareholders, and also adding new ones.
So, with these continuation vehicles, the PE firm is able to continue its value creation plan with companies that it knows intimately. One of the primary value drivers is the augmentation of management teams to help achieve the next phase of growth. For example, a GP may need to hire functional experts in the areas of integration or FP&A if the growth strategy is to complete tuck-in investments to achieve scale. Another instance could be that the current C-suite has used everything in their wheelhouse to grow the company and a new team with experience operating larger companies may be needed to execute the growth plan to achieve the metrics that the GP needs to have a successful full exit.
GP’s are granted the ability to raise additional capital if their current fund has restrictions or mandates in place that limits these types of investments, reset their incentive structure, or continue to let their best horse run.
New limited partners that are brought in can get involved with less due diligence due to the amount of granularity the GP has already spent with the investment, also having the comfort of knowing the trend of where the investment is going, not risking a longer hold period, and the opportunity to negotiate potentially more favorable terms.
The criticism around CVs centers around the decision-making period - when a fund is on its last leg but a particular investment still has more to gain, there can be conflicting interests between the GP and new LPs surrounding what the valuation is, as well the key decisions in how to move forward with the continuation itself.
When dealing within the private equity secondary market, the structural decisions typically make or break the deal, especially within continuation vehicles. Common problems we have seen come up is not involving limited partners early, leading to issues in conflicts of interest since the private equity firm is on both sides of the table, acting in the best interest of former investors, new investors, and themselves. An oversight committee is not unheard of, which will give guidance on the transaction value, new incentive structures, and write-ups surrounding the motivation of the continuation vehicle, who is “getting out”, and who is in for the next leg of growth.
Of course, within those terms, the portfolio company leaders are incentivized properly, giving them the necessary tools to grow. If we take a step back, before reaching the point of a continuation vehicle (which basically signifies the investment is strong and there is more room to grow that the investor doesn’t want to give up early), the investment / portfolio company needs that strong executive team, as well as B-team mid-level leaders - and since these ultra-talented (in one particular skillset) doesn’t just fall from the sky, Flywheel is going to be your best bet. Whether you have that talent and looking for a quality investment team to help you realize that, or you are an investor and tired of recruiters, job boards, and HR-managed job searches, get in touch with us through our site and determine where in the ‘flywheel’ you belong.