We enjoy our collective quadrennial election meltdown as much as anyone. But it may be worth diverting our attention to where there’s actual good news: the historic meltup in secondaries.
Secondary investment volume is cruising to a record high in 2024.
Here are four takeaways for CVCs and other institutional investors.
1. Yes, it’s for the money. But it’s not only for the money.
Secondary buyers once assumed that investors pursuing secondary sales were in a bind and were feeling pressure to sell at a steep discount. This often put CVCs and other institutional investors on the back foot in negotiating pricing on secondaries.
But there’s now broad recognition that there are many different drivers for CVC’s pursuing secondary exits, including:- Closing out legacy positions, especially when there’s a strategy change (or CEO change) at the parent corporation;
- Freeing up capital locked into “long tail” holdings with diminished strategic relevance;
- Topping up dry powder to invest further; and
- Rebalancing within the portfolio.
These “due course” drivers of pursuing liquidity are becoming more broadly understood by both CVCs and by the secondary buyers they approach. As the assumption fades that panic selling is the driver for pursuing secondary exits, it’s putting CVCs on a stronger footing with secondary investors. It’s a big part of why 52% of CVCs are evaluating secondary sales of their positions rather than waiting around for IPOs or M&A events, and 15% have already executed secondary sales.
2. Secondary investors are buying for a good reason: CVC portfolios are attractive secondary investments.
By some measures, CVCs perform better than conventional VCs. That may be because CVCs’ deep subject matter expertise helps them do better diligence. It may be the substantive help in areas like distribution and product development that CVCs can offer their startups. Whatever the reason, statistically CVC-backed startups are more likely to sell for a bigger number, and less likely to fail, than startups backed by conventional VCs.
That’s why there’s an increasing perception among secondary buyers that they can generate attractive returns on CVC portfolios, especially if purchased at a discount (as CVC assets almost invariably are).
And of course VC secondaries overall have become more attractive as more buyers recognize the “J-curve mitigation” they provide. That’s an unnecessarily fancy way of saying that the secondary buyer gets ;paid faster when they buy secondary investments that are already partway through the hold period, rather than allocating funds to a GP waiting for the GP to deploy the funds and exiting years down the road.
3. That’s why secondary volumes are soaring (and spreads are contracting).
Global secondary volume was $68 billion in H1 2024, a 58% increase from $43 billion in H1 2023. Total dry powder (including available leverage) is at a record $253 billion, and projected 2024 deal volume was just revised upward to $140 billion.
Most of that secondary volume is going into private equity assets, not venture assets. But 12% – approaching $20 billion – is going into venture. For context, the dollars going into venture secondaries in 2024 are more than the dollars that went into all asset classes combined (venture, private equity, real estate and credit) in 2008.
Secondary demand is also nudging venture asset pricing upward, with venture valuations rising 200 basis points from H2 2023, though venture still lags behind other asset classes.
That’s not to say it’s a seller’s market. It isn’t. Brand name GPs and late-stage holdings heading toward IPO will continue to fare the best. CVC assets are a more difficult proposition for secondary buyers. But the secondaries meltup is helping all types of asset owners to generate liquidity.
4. Plain vanilla may not be your flavor. Good news: You’ve got choices.
The last takeaway: Strictly speaking, a “secondary” is a plain vanilla transaction where investor A sells their stake in company B, to buyer C.
But the proliferation of secondary buyer capital gives CVCs seeking liquidity, multiple types of deal structures to achieve their objectives.
Ensuring your deal structure aligns with your objectives is essential.
Plain vanilla secondaries
Plain vanilla secondaries will typically provide the largest up-front liquidity event. They will also eliminate balance sheet volatility, depending on the CVC’s accounting practices. But plain vanilla secondaries also come with writedowns. If investment positions are already written down – such as for corporate investors who use equity accounting and depreciate their investments – that matters less. But many prefer to avoid writedowns. A plain vanilla secondary will also typically cause the loss of portfolio company relationships – and upside. And if not messaged carefully, it could telegraph a loss of confidence by the CVC in the portfolio’s prospects.
Structured alternatives
That’s why for some investors, a “structured” secondary transaction may lead to better results. These may include a strip sale, a preferred equity sale or a profit participation, among other options.
At a high level, these structured transactions have the CVC retain nominal ownership, but with a buyer paying the CVC a portion of the assets’ NAV. In exchange, the buyer gets distributions from the portfolio until the buyer receives a minimum preferred return. Above that minimum preferred return, the CVC will participate in the remaining upside of the portfolio, with a small share going to the buyer.
Helping you understand your options – and executing them on your behalf – is what we do.
We can walk you through a decision tree to help you understand the transaction structure that best aligns to the outcomes you’re looking for, and brief you on what you’re likely to achieve in the secondary market.
To learn more, please feel free to schedule a call or to email us directly.
