Chapter 1: What is the main focus of the continuation vehicle market?
Today at TPG, you focus on a very specific part of the secondary market.
Tell me about that. Every sponsor at some point in their history has owned a great business. They've made four or five times the money and they sold it to one of their competitors because they needed to get cash back. Their investors were looking for DPI. The management team was giving them some pressure to say, we've done what we said we would do. We could make five times the money.
It's time to reset. or you're at the end of the life of a fund.
Chapter 2: What pressures lead sponsors to consider selling successful businesses?
The fund that houses the company is out of time, is out of money. All these are different pressures to sell. Historically, the sponsor would simply say, thank you very much. We've made five times the money and I'm gonna sell the business to one of my competitors. Not withstanding, I see a lot of upside. Their competitor would then go on to make four times the money and so on and so on.
And I would go to the sponsor and say, do you remember that company? And they'd go, oh, of course I remember that company. There was so much runway left, but we had to sell.
How do you know that you're not being adversely selected? In other words, how do you know that the GP is not just taking a free option?
But what's critical about this business is to approach it with sector expertise, to approach it like a private equity business, a private equity investor would do. And to that end, the core judgment, if I were to distill things down for us, is at the point of entry, at the time that we're facilitating a liquidity option for the existing investors and buying in,
to the continuation vehicle, we wanna make sure that they could sell the business to you if they could. And they're actually taking a proactive choice not to do that. They're realizing five times the money, creating a lot of liquidity or potential liquidity for the general partner. But instead of putting it into the bank, which they could do if they could sell the business today, they're not.
They're rolling it all into the new deal.
I want to double click on something you said, which is that you approach it from a buyout side, not from an LP side, meaning you're underwriting the asset from the bottoms up, just like a Blackstone KKR and Apollo would. Talk to me about that.
at our core in investing in single asset continuation vehicles, we as a group are investing hundreds of millions of dollars into single companies. And hopefully it's almost self-evident why approaching that investment activity like a private equity firm, like a private equity investor just makes intuitive sense. By contrast, the origin story of the secondaries market is actually not doing that.
Six or seven, seven or eight years ago, if a single asset deal was brought to the secondaries market, the incumbent firms would have said, what's this? You've called the wrong person. That requires a private equity skill set. We don't have that. But what's one of the tremendous things about the secondaries market is innovation and where the innovation started was in the LP business.
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Chapter 3: How do sector expertise and private equity principles apply to continuation vehicles?
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I get why you need a buyout skill set to approach this, but why do you need a secondary part of the team and what value does a secondary perspective bring to it, given that it's just one asset?
In my experience, direct private equity investors are hunters. And when they go to make investments, it's about winning and losing. And when you're buying a company from another sponsor, you do that with a relatively high degree of competitive intensity, because you compete day to day in acquiring and investing new businesses. Like if one of our teams, just by example,
has a lot of experience in education, and they're trying to buy an education business from a competitor who also invests in education, you can see there can be some rivalry there. And of course, this is not just TPG, but the private equity buyer in this instance, trying to... participate in the secondaries market.
So you can get all these sort of dynamics at play, which serve folks very well in the direct private equity business. But in the secondaries market, it is a, we call our partners, our sponsor partners. We make judgments around, do we want to invest with them into the company? and then turn the keys over to them to trust them to do everything.
Because ultimately, that's how the secondaries market works. The incumbent sponsor stays in situ. And to that end, I actually do think there are both hard and soft skills that are necessary to succeed in the secondaries market. I could get into the details on the structures and how you align incentives and some of the technical parts of the business. But I think this...
partnership orientation and the necessity for trust that they are going to appropriately manage the business are different and potentially conflict with the mindset and experience and skills of a private equity investor.
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Chapter 4: What role does the general partner play in continuation vehicle investments?
into the continuation vehicle, not to sell, not to have their hold period, call it truncated, but they can continue along for the next four to five years, just the same way that the sponsor sees the upside, the new CB investors see upside, sometimes the limited partners see and believe in that upside and they want the option to participate in it.
So what's critically important is that that conflict is managed appropriately, needs to be done with great care. Really it comes down to having a proper process, and it comes down to transparently sharing information. So in this instance, the limited partners see the same information that buyers do so that they can make an informed decision.
The sponsors know them, the LPs know them, they created them and are widely adopted and guide how the market operates. So the conflicts are real. But in my experience over the last several years, I can only think of one or two situations where the LPs, for whatever reason, decided to reject an opportunity. 99 point whatever percent of them go through because this market operates in a proper way.
When I talk to LPs, institutional or otherwise, they all seem almost a cognitive dissonance around CVs. On one hand, they like the opportunity to potentially take some chips off the table. Obviously, DPI has been a big issue. On the other hand, they're not really set up to diligence these one-off opportunities, which is why the opportunity exists.
Give me a sense, what percentage of the times in terms of quantum of capital are LPs selling versus rolling their equity on average?
The advisors in this marketplace who really see and are close to the data would peg that somewhere around 15 to 20%. In my experience, I've seen sell volume as high as 99 or 100%. So literally every single LP decides to sell. That's one end. On the other end of the spectrum, I've seen that number as low as 50%. In other words, 50% want to take the money and run and 50% want to continue.
So I think the market average today in that 15 to 20% range is about what I would expect going forward. I think the demand for DPI today is perhaps at a cyclical high. which is perhaps driving that percentage down. Maybe it goes up a little bit more over time, but generally speaking, at least in my experience, when LP has the opportunity, these are successful deals.
Remember to take five times the money off the table. They're usually very happy and say, thank you very much. It's a little extra work. No question about that. And that is an additional burden on LPs. And some of them are not necessarily set up to make the decision or have the ability to roll into the continuation vehicle. but it's kind of in high class problem territory for me.
Five times the money, how bad is it? Actually, that's probably a little flippant, but what we have found is in general, when LPs receive the opportunity to successfully realize a very high multiple of money on the deal, all else equal, they're actually quite happy to take it.
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