Direct lenders eye secondaries market for first-gen funds

Several European direct lenders are speaking to secondaries advisers about running processes on older vintage funds, as first-generation direct-lending vehicles approach maturity, according to three market sources. One deal has already closed, towards the end of last year, said the sources.

GP-led transactions, whereby the fund manager hires an adviser to run a competitive process to select buyers for LP positions in aging funds, have become common on post-crisis private equity funds over the past three years, as 2007-2009 vintage vehicles have reached the end of their intended lifespans. Many deals were completed following landmark transactions on funds managed by BC Partners and Apax Partners in 2017.

Bain Capital was among the first credit managers to use the market in this way. The manager restructured two pre-crisis credit funds (Sankaty Credit Opportunities II and III) in a GP-led process last year, selecting Neuberger Berman as the buyer, according to Unquote Data.

Avenue Capital Group and Three Hills Capital Partners were among the first credit managers to complete GP-led processes on European funds last year, but both were on funds with more flexible investment mandates and higher return targets than vanilla direct lenders.

Pantheon emerged as the buyer for Avenue's 2011-vintage special situations fund in a process led by Park Hill, while Idinvest won a competitive process to restructure two Three Hills Capital funds in a €192m deal run by Rede Partners, according to Unquote Data.

"On the deals that have previously been completed for direct lending funds in Europe, secondaries investors have been able to pay close to par because of the remaining upside in the equity-like investments. On a more vanilla, mostly senior direct lending fund you would expect there would need to be a discount for the economics to make sense for the buyer," said the first source.

Canary in the coalmine
BC Partners hired Campbell Lutyens to run a process on two of its European buyout funds in 2017. Lexington Partners was understood to have agreed to buy €1.2bn in existing LP commitments in BC European Capital IX (BC IX) while also committing up to €600m to BC European Capital X (BC X), which was being raised at the time, according to a report on Unquote, a sister publication to Debtwire.

"You will increasingly see these taking place for brand-name GPs, as they come to realise they can take control of secondaries transactions that would be happening anyway and using them to their advantage," a source told Unquote at the time.

"We've seen it in PE and it's going to be the exact same thing in direct lending. All the first generation of post crisis direct lending funds in Europe closed in 2012-2013, so it's around now that LPs start asking for liquidity and even if the remaining assets have underperformed, at a certain price they will have value to somebody," said the second source. "All it takes is one landmark transaction from a brand name manager for it to become destigmatised. We saw it in 2017 when BC Partners did its staple and suddenly the floodgates were open."

"The first vintage funds of Alcentra, EQT and Permira could all be interesting to secondaries funds looking to deploy capital in direct lending this year," a fourth source familiar with the secondaries market said.

EQT is particularly interesting given the recent news of its strategic review, the same source added. The Swedish listed asset manager announced in its annual report that it was considering a sale or partial sale of its credit business, with newswire reports emerging that the management team was talking with financiers about a management buyout of the business.

"The outcome of the review is still unclear but there could be a simultaneous opportunity for a secondaries investor to offer liquidity to existing LPs and allow them to take a view on whether to continue their support for the new franchise," the same source said.

Dry powder
Secondaries funds have raised more than $130bn since 2017 and, while the majority of this capital has been deployed into private equity funds, the proportion invested in private debt increased 105% last year, according to a report by Setter Capital.

"Most secondaries funds have always had a small bucket that they can invest in things that aren't secondaries in order to reduce the J-curve. Private debt is good for this generally due to the relatively faster deployment and return of capital, and if it can be accessed through the secondaries market then that's even better," said a fifth source familiar with the secondaries market.

Some secondaries funds have even raised dedicated vehicles to target the strategy. Pantheon was the first mover in this space, speaking to investors about a private-debt-focused secondaries fund at the end of 2018, according to press reports.

Tikehau has been the most recent, announcing the launch of a similar strategy at the private equity event Ipem in Cannes last week, after hiring Olga Kosters as head of private debt secondaries in November last year.

Alcentra and Permira declined to comment. EQT did not return a request for comment.

BC Partners is a minority stakeholder in Acuris Group, publisher of Debtwire.

This report was originally published on Unquote sister publication Debtwire

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