What Is the Difference?
On August 23, 2023, the Securities and Exchange Commission (SEC) adopted new rules (and amendments to existing rules) under the Investment Advisers Act of 1940 (Advisers
Act) that enforce the SEC’s objective to protect private fund investors by increasing
transparency, competition, and efficiency in the private funds market.
One of the more technical sweeping changes includes a new requirement for SEC-registered
advisors who execute a general partner (GP)-led secondaries transaction to
obtain a fairness opinion or a valuation report from an independent advisory firm. In
addition, the GP must provide a summary disclosure of material business relationships
the GP has or has had with the advisory firm within the prior two years. In the context of
these new rules, there are different GP-led structures where the SEC would mandate an
independent fairness opinion or valuation report. Still, in certain instances, there would
be no mandatory requirement (i.e., tender offers, cross-trades, etc.).
While the SEC observes that GP-led secondary transactions can provide advantages to
both GPs and investors in terms of liquidity generation and increasing the timeline to
optimize the value of future exits, it is important to consider the inherent conflicts of
interest given that the GP is involved on both sides of the deal and can have objectives
in the transaction that are different and not aligned with those interests of the limited
partners (LPs). Some examples of conflicts of interest include:
- Inherent: Most secondary transactions are a transfer of assets from one GP-managed
vehicle to another, effectively creating a situation where the GP is “selling” an asset in its
role as fiduciary to existing LPs who are interested in exiting and selling their proportionate
interests to the continuation fund. Simultaneously, the GP acts as a buyer by virtue of its
role as fiduciary to the continuation fund and the new LP participants.
- Prolong/Reset Economics: GPs benefit economically from leading a secondary
transaction. GPs benefit by extending the horizon of management fees they can receive.
Also, GPs can reset the cost basis at a lower value and potentially crystallize carried
interest.
- Staple Deals: To add to the web of conflicts, GPs may offer “stapled” co-investment
opportunities for other funds managed by the GP as part of a secondary transaction. A
stapled secondary is where an external LP purchases fund interests from current LPs,
while also committing to a new fund managed by the same GP.
To mitigate the potential impact of these various conflicts of interest, the SEC’s new rules
prohibit an advisor from completing a GP-led secondary transaction without first obtaining
a fairness opinion or valuation report from an advisory firm that is independent.
© Copyright 2023. The views expressed herein are those of the author(s) and not necessarily the views of Ankura Consulting Group, LLC., its management, its subsidiaries, its affiliates, or its other professionals. Ankura is not a law firm and cannot provide legal advice.
