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Cash and Continuation Funds

Private Equity Investors' Shift and Decision Dilemmas

SUMMARY: Private equity investors are opting for immediate cash over continuation funds, with 60% choosing to cash out. While continuation funds, allowing managers to retain assets, gained popularity, some investors are deterred by insufficient decision time.

Shift Away from Continuation Funds

Private equity investors are increasingly rejecting continuation funds in favour of cash, as revealed in Bain & Company’s mid-year private equity report. The majority (60 percent) of investors prefer cashing out rather than waiting for valuations to rise further within continuation funds.

Continuation funds, established by private equity managers, allow them to acquire select investments from an existing fund. These funds gained popularity during the surge in private equity, enabling managers to retain prized assets for an extended period. Limited partners, or investors, can choose to either continue investing in these assets through continuation funds or opt for liquidation once lock-up periods expire.

Liquidity Challenges and a Sluggish Exit Environment

The report’s message to fund managers is clear: “LPs would prefer you to generate liquidity than try to squeeze another half-turn of multiple from every last portfolio company.” While liquidity is a significant factor, some investors have opted out due to managers providing insufficient time to decide on participating in a continuation fund.

Investors’ liquidity challenges have been compounded by a sluggish exit environment. Buyout funds currently hold $2.8 trillion of unrealized assets, almost four times more than during the global financial crisis. Additionally, dry powder managed by buyout funds has reached a record high of $1.1 trillion, 75 percent of which was raised in the last three years.

A Strategic Dilemma for Private Equity Managers

Bain & Company’s report highlights that weak cumulative distributions over the past five years have left investors cash-flow negative on private equity allocations. As a result, investors are keen on recouping funds from general partners before committing to new ventures.

Private equity managers now face the dilemma of deciding whether to free up more capital for investors promptly or await shifts in markets and the economy. Effective private equity managers are finding ways to move aging assets off their books at acceptable returns while recalibrating strategies to drive value for the portfolio companies they plan to retain.

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