Jersey is in an excellent position to assist the growth of increasingly popular general partner-led secondary transactions, thanks to its political and fiscal stability, tax-neutral environment and market access, says Tim Morgan, Partner at Mourant
History has often shown that by-products of a process can, with the right entrepreneurial focus, turn into major business areas in their own right. Think of the transition of Marmite from an unwanted brewer’s by-product into a much-loved national treasure.
In the same way, restructurings of troubled ‘zombie funds’ have evolved from being a by-product into, in many cases, a highly dynamic restructuring tool, particularly when combined with support from significant secondary fund investors.
There has been a notable rise in the popularity of such general partner (GP)-led restructurings in recent years. Why has Jersey been so well placed for such deals? And why does it continue to be a big growth area in the jurisdiction?
Types of GP-led restructurings
Several features may form part of GP-led secondary transactions, which are being used by funds:
• Fund restructurings typically give investors a choice between rolling their positions into a newly formed successor fund vehicle or realising their position for cash. At the end of 2017, 79% of the limited partners (LPs) surveyed by Preqin completed a GP restructuring and 63% said they were likely to increase their GP restructuring activity in 2018. As part of this, tender offers give LPs the choice between remaining in the fund or selling to a secondary investor. In 2017, 21% of LPs participated in a tender offer.
• Direct secondary transactions involve the sale of existing positions in a portfolio, and passing on responsibility of managing those positions to a new GP. Again, in 2017, 79% of LPs surveyed had completed one of these transactions.
• A variation can be stapled secondary transactions, which occur when a secondary buyer purchases an interest in an existing fund and invests in a new fund being raised by the GP. In the same 2017 survey, 36% of the LPs were involved in a stapled secondary transaction.
These transactions can offer both LPs and GPs significant benefits and can provide an effective compromise among investors with different interests. LPs seeking liquidity will take this option, while LPs that wish to retain exposure will be able to roll over and continue with their investment.
The extension of the fund and the potential for additional capital may result in better returns on the assets, benefiting those who elect to remain with the GP. Moreover, with new capital and time, the GP may become re-incentivised, allowing for the potential of more capital to be raised and an even greater return on investments.
Why Jersey?
Often, new funds emerging as follow-on vehicles in a GP-led restructuring will be established in the domicile of their predecessor fund. Given the large number of funds from the early 2000s in Jersey, this promises significant activity around these funds.
However, Jersey also offers a number of advantages for transactions relating to funds being restructured from other jurisdictions. The island has all the well understood advantages of political/fiscal stability and a tax-neutral environment, as well as a well tested market access position for investors inside and outside of the European Union.
These all lead to Jersey being a suitable jurisdiction for deals of this type, which when combined with experience of executing complex transactions, together with the Jersey Private Funds (JPF) regime, provides a particularly strong platform for such transactions.
ILPA guidance and managing conflicts
The growth in popularity in these transactions has led to increased regulatory focus. A recent Institutional Limited Partners Association (ILPA) report set out views as to how these transactions should be managed, including suggested periods for LPs to come to a decision, as well as default options for investors.
Although most limited partnership agreements (LPAs) were not designed with the possibility of GP-led secondary transactions in mind, solutions have been found, and restrictive LPAs have not significantly slowed the growth of these transactions.
Transparency from the GP during the process is important to ensure the LPs are treated fairly and manage conflicts. Third-party valuations, including fairness opinions, often provide another layer of comfort to LPs, combined with consultation of a limited partner advisory committee, if one exists.
With $500bn of net asset value in pre-2008 funds maturing, the option of GP-led restructuring is not only becoming more respectable but also considerably more practical. We should expect GP-led secondaries to become increasingly important in the secondaries market. Jersey is in an excellent position to assist in the growth of these GP-led secondary transactions.