Secondaries
As IPOs and SPACs freeze, secondary deals seen heating up
February 9, 2022
The IPO market's winter of discontent could result in an early spring for secondary markets.
Secondary deals—in which investors buy secondhand equity stakes from early backers, founders and employees—have gained prominence in recent years as companies stay private for longer. The global unicorn count has grown from just above 200 in 2016 to over 1,000 this month, according to PitchBook data.
Last year in particular, the appetite for secondary shares swelled. Venture capitalists and nontraditional players often paid substantial premiums to companies' most recent valuations to get access to coveted fast-growing late-stage startups by any means available.
That brisk market has hit a speed bump in recent weeks after the sell-off in publicly traded tech stocks sparked a sharp pullback of prices in many venture-backed pre-IPO companies. Stakes in businesses that were scooped up at a premium last year can be bought now at a discount—sometimes as much as 40% off their 2021 prices, investors say.
Over the last several weeks, crossover investors and some late-stage VCs have been busy trying to build positions in their existing portfolio companies at what may now seem like attractive prices.
"When there are pockets of volatility like now, there are going to be strong deals, and we're busy trying to locate them," said Larry Aschebrook, founder and managing partner at G Squared, a growth-stage firm that deploys 60% of its capital in the secondary market. "When we could find assets that are 20% to 40% off compared to where the last round was priced, it is a massive boost to our performance."
Andrea Walne, a general partner at secondaries-focused investment firm Manhattan Venture Partners, said that high-profile hedge funds and other well-known crossover investors are especially aggressive with buying discounted shares. In some cases, she said, these investors are putting in orders of around $50 million for shares at prices well below the company's previous valuation.
Sellers in recent weeks have accepted steep discounts off the last available valuation, with prices falling on average more than 20% since their previous transactions, Walne said.
In this climate, however, trading volumes have cooled off—an indication in part that some investors are waiting to sell stakes as they come to grips with the new reality emerging in late-stage company prices.
"Until people accept the new normal and what the valuation of the assets would likely be if offered in a primary deal now, the secondaries volume will be affected in the short term," Aschebrook said. However, he added, "I don't see a [sustained] compression of secondary activity coming anytime soon."
The secondary market is just one of several exit opportunities for early investors and founders, but it takes on greater importance now that alternatives are dwindling in the IPO market and the blank-check craze has frozen over. After this period of price volatility subsides, the limited exit environment may prod even more investors to seek liquidity through secondaries.
The traditional 10-year fund structure is no longer aligned with the time it takes for a company to exit through a public offering—a median period of 11 years, according to an analysis by Jay Ritter, a finance professor at the University of Florida who studies the IPO market.
"Unless LPs decide to sign up for 14-year funds, early-stage managers are going to have to seek liquidity before their best assets exit," Aschebrook said.
Despite last year's record IPO activity, cash distributions are coming back to LPs at a slower pace than the step-ups of existing assets, according to Miguel Luiña, head of global venture and growth equity for Hamilton Lane, a firm that advises limited partners and also backs venture and secondary funds. As a result, limited partners' VC portfolios have swelled in relation to other asset classes in recent years.
For this reason, VCs who are planning to raise a new fund this year may be especially motivated to turn to secondaries to create some liquidity for their LPs, Luiña said, adding, "We expect the secondary market is going to continue to be one of the most interesting places to invest within the venture space over the next five to 10 years."
Featured image by DenEmmanuel/Getty Images
Secondary deals—in which investors buy secondhand equity stakes from early backers, founders and employees—have gained prominence in recent years as companies stay private for longer. The global unicorn count has grown from just above 200 in 2016 to over 1,000 this month, according to PitchBook data.
Last year in particular, the appetite for secondary shares swelled. Venture capitalists and nontraditional players often paid substantial premiums to companies' most recent valuations to get access to coveted fast-growing late-stage startups by any means available.
That brisk market has hit a speed bump in recent weeks after the sell-off in publicly traded tech stocks sparked a sharp pullback of prices in many venture-backed pre-IPO companies. Stakes in businesses that were scooped up at a premium last year can be bought now at a discount—sometimes as much as 40% off their 2021 prices, investors say.
Over the last several weeks, crossover investors and some late-stage VCs have been busy trying to build positions in their existing portfolio companies at what may now seem like attractive prices.
"When there are pockets of volatility like now, there are going to be strong deals, and we're busy trying to locate them," said Larry Aschebrook, founder and managing partner at G Squared, a growth-stage firm that deploys 60% of its capital in the secondary market. "When we could find assets that are 20% to 40% off compared to where the last round was priced, it is a massive boost to our performance."
Andrea Walne, a general partner at secondaries-focused investment firm Manhattan Venture Partners, said that high-profile hedge funds and other well-known crossover investors are especially aggressive with buying discounted shares. In some cases, she said, these investors are putting in orders of around $50 million for shares at prices well below the company's previous valuation.
Sellers in recent weeks have accepted steep discounts off the last available valuation, with prices falling on average more than 20% since their previous transactions, Walne said.
In this climate, however, trading volumes have cooled off—an indication in part that some investors are waiting to sell stakes as they come to grips with the new reality emerging in late-stage company prices.
"Until people accept the new normal and what the valuation of the assets would likely be if offered in a primary deal now, the secondaries volume will be affected in the short term," Aschebrook said. However, he added, "I don't see a [sustained] compression of secondary activity coming anytime soon."
The secondary market is just one of several exit opportunities for early investors and founders, but it takes on greater importance now that alternatives are dwindling in the IPO market and the blank-check craze has frozen over. After this period of price volatility subsides, the limited exit environment may prod even more investors to seek liquidity through secondaries.
The traditional 10-year fund structure is no longer aligned with the time it takes for a company to exit through a public offering—a median period of 11 years, according to an analysis by Jay Ritter, a finance professor at the University of Florida who studies the IPO market.
"Unless LPs decide to sign up for 14-year funds, early-stage managers are going to have to seek liquidity before their best assets exit," Aschebrook said.
Despite last year's record IPO activity, cash distributions are coming back to LPs at a slower pace than the step-ups of existing assets, according to Miguel Luiña, head of global venture and growth equity for Hamilton Lane, a firm that advises limited partners and also backs venture and secondary funds. As a result, limited partners' VC portfolios have swelled in relation to other asset classes in recent years.
For this reason, VCs who are planning to raise a new fund this year may be especially motivated to turn to secondaries to create some liquidity for their LPs, Luiña said, adding, "We expect the secondary market is going to continue to be one of the most interesting places to invest within the venture space over the next five to 10 years."
Featured image by DenEmmanuel/Getty Images
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