PEs Sell Firms to Themselves Twice Over to Navigate Deal Drought
The private equity landscape, long characterized by its relentless pursuit of new deals and lucrative exits, is currently navigating a period of unprecedented calm. With traditional exit routes like IPOs and trade sales largely stalled, a curious new phenomenon is emerging: the CV-squared, or a continuation vehicle of a continuation vehicle. It’s a move that sees private equity firms essentially selling assets to themselves, not just once, but twice over, in a creative bid to generate liquidity and keep the gears of the industry turning.
For seasoned market watchers, the concept of a continuation vehicle (CV) isn't entirely new. These structures emerged a few years ago as a sophisticated mechanism for General Partners (GPs) to hold onto prized assets for longer, offering Limited Partners (LPs) in the original fund a chance to cash out or roll their investment into a new, dedicated vehicle. It was a clever way to extend the investment horizon for high-performing companies without forcing a sale in an unfavorable market or liquidating a fund prematurely.
But the CV-squared takes this strategy to another level, reflecting just how profound the current deal drought has become. Imagine a scenario where a GP, having moved an asset from Fund I into a Continuation Vehicle (CV1), now finds themselves a few years down the line still without a clear traditional exit path for that same company. Instead of waiting indefinitely, they establish another continuation vehicle (CV2) and "sell" the asset from CV1 into CV2. It’s a maneuver designed to generate some much-needed liquidity for investors in CV1, while allowing the GP to continue managing the asset and, crucially, continue collecting management fees on a fresh pool of capital.
This intricate dance is a direct response to the chilling effect on M&A activity. Global deal volumes have plummeted, with some estimates showing a 20% to 30% drop in the past year alone. High interest rates, inflationary pressures, and geopolitical uncertainties have made buyers skittish and IPO windows virtually shut. Private equity firms, which typically operate on a 3-5 year investment cycle, are finding themselves holding onto assets for much longer than anticipated. The CV-squared, therefore, isn't just an opportunistic play; it's a strategic imperative for many GPs to demonstrate activity and provide some form of return to their LPs, who are increasingly clamoring for distributions.
From the LP perspective, the reaction is, predictably, mixed. For some, particularly those facing their own liquidity constraints or seeking to rebalance their portfolios, the opportunity to receive cash from an asset held in CV1 is a welcome relief. It provides an exit where none previously existed. However, others express a degree of skepticism. The fundamental question remains: is the valuation truly at arm's length, or is it influenced by the GP's desire to secure fees and maintain assets under management? Without a competitive market process, the price discovery aspect can feel less robust, leading to concerns about the "fairness" of the transaction. It's a delicate balance between needing liquidity and ensuring transparent, market-driven valuations.
Advisors and placement agents are, of course, playing a crucial role in structuring these increasingly complex transactions. The legal and financial gymnastics involved in carving out assets, forming new vehicles, and navigating potential conflicts of interest are substantial. These deals require meticulous due diligence and often involve bringing in new LPs to anchor CV2, injecting fresh capital into the ecosystem. It's a testament to the industry's adaptability, but also a signal of the underlying stress in traditional exit markets.
Ultimately, the rise of the CV-squared speaks volumes about the current state of private equity. It highlights the sector's ingenuity in finding new avenues for value creation and liquidity in a challenging environment. But it also raises important questions about the long-term implications of such structures. Are we witnessing a temporary workaround, or a fundamental shift towards a more "evergreened" model where GPs hold onto assets almost indefinitely, recycling them through a series of internal transactions? As the industry continues to evolve, market participants will be watching closely to see if this trend becomes a permanent fixture or merely a creative solution to navigate a particularly stubborn deal drought.
