The Distribution by Juniper Square
00:09:09 · David Wachter
[00:09:09] S0: Sure. So what's interesting is there's sort of different tracks of asset management, and each of them has developed its own sort of secondary market. So to start with LP led secondaries, sort of the default on what was a secondary for two decades was the LP led, which is the buying and selling of LP stakes. That's the early players there, Coller Capital, Goldman, Blackstone, Strat Partners, a bunch of others, Lexington, Landmark. And I never viewed what the market needed as LP led. I viewed what the market needed as what is the company and its shareholders going to do when they're just not ready to go public. And the bar got higher and higher over time, meaning that investors and companies are going to own them longer and longer. And then what happened is the sponsor to sponsor m and a business started to become a real trend. And when one sponsor sells to another sponsor, they very often keep a rollover equity position. So over our first decade, happened was you have more shareholders in these privately held businesses, and you have some that are owning their shares for three years and others that are in the deal for five to eight or even ten years. So you have this different duration. We call it misalignment. You have different risk profiles. Some investors want their money back. Others wanna put more money in. So you've got this ecosystem where you need more liquidity and you need the alternatives. So that's what we've always done. We've been the buyer of those positions when one investor is looking for liquidity and others aren't. Another big breakthrough was what we called the private company tender offer. So the IPO market started to become more challenging, but employees in these private companies were waiting for five to ten years for their stock options to become currency so that they can buy a house and pay for school. And it wasn't happening. So in order to retain employees, we sort of came up with this marketing tool, which is let your employees sell some of their shares and we're experts in how to organize a tender offer. So we did that. And it was a huge success and these companies viewed it as a huge win. It extended the life of these businesses. It created better alignment, and it was just a win for everybody. Another milestone in the industry was the liquidity for rollover equity in buyouts.
00:12:02 · David Wachter, Brandon Sedloff
So buyouts became more relevant to the secondary market. And when one sponsor sold a company to another sponsor, but kept equity, that sponsor now became a minority shareholder in the business. And what happens when the lead investor, one of the bigger firms wants to grow it and do more M and A and extend their hold period, but the other firm who rolled their business now is stuck in the equity? So we found those as great opportunities too, which is tag along with the larger sponsor and provide liquidity for the smaller sponsor that wanted to get liquidity. But the biggest change is the last three to five years when interest rates changed and the private equity market truly had a a a massive change in the scale of the industry and the liquidity profile for LPs and GPs. [00:13:01] S1: Maybe let's pick up on that last point. So I think that's an interesting overview. And I guess all of that is set against the backdrop of the stock market collapsing or the bubble bursting back in the early two thousands, the tech bubble, and companies are staying private for longer and or there was distress. Right? I mean, is that kind of the the kind of macro framing that this industry evolved under where these private companies needed and their employees needed liquidity solutions?
00:13:01 · Brandon Sedloff, David Wachter
[00:13:01] S1: Maybe let's pick up on that last point. So I think that's an interesting overview. And I guess all of that is set against the backdrop of the stock market collapsing or the bubble bursting back in the early two thousands, the tech bubble, and companies are staying private for longer and or there was distress. Right? I mean, is that kind of the the kind of macro framing that this industry evolved under where these private companies needed and their employees needed liquidity solutions? [00:13:28] S0: Or or So the interesting thing is you used the word distressed. So during the last twenty years, you can hardly say that, like on, on the long term basis, we've had distress. We've had the greatest capital market expansion in history, and there's been huge growth and benefits. But we don't like to use the word distress because liquidity is a positive tool, not a sign of distress. So really important. And that's what we've been saying for a very, very long period of time. I think all parties involved in the secondary market, whether you're a GP, LPs, or players like us, you view this as a solution tool and a new embedded part of the private and public capital markets. So other than the word distress, you're completely right.
00:13:28 · David Wachter, Brandon Sedloff
[00:13:28] S0: Or or So the interesting thing is you used the word distressed. So during the last twenty years, you can hardly say that, like on, on the long term basis, we've had distress. We've had the greatest capital market expansion in history, and there's been huge growth and benefits. But we don't like to use the word distress because liquidity is a positive tool, not a sign of distress. So really important. And that's what we've been saying for a very, very long period of time. I think all parties involved in the secondary market, whether you're a GP, LPs, or players like us, you view this as a solution tool and a new embedded part of the private and public capital markets. So other than the word distress, you're completely right. [00:14:20] S1: I think that's I think that's important, and I totally appreciate that perspective because I think when we think about what the misconceptions are, one of the things that I've heard over and over again when talking to some of your peers and others in this space is this idea that it's a solution, not not distress. So I appreciate the clarification. [00:14:37] S0: Yeah. Yeah. [00:14:38] S1: So talk to me about where we are today. Obviously, the, you know, the interest rates have gone up. The private, you know, equity markets have changed substantially over the last three to five years, as you said. So what what is that what is that change that we're undergoing right now look like from the front lines as you see it through the lens of of your business at W Capital?
00:14:55 · David Wachter
[00:14:55] S0: Okay. So what happened is is interest rates changed. The scale of private equity GPs portfolios massively grew during the last ten years. So, I mean, in terms of order of magnitude, there were 7,000 private equity backed companies twenty years ago. Now there's 32,000. So the AUM in private equity alone has reached 5,000,000,000,000 from about 1 to 2,000,000,000,000. The number of exits per year hasn't grown at all. It's about 1,500 exits a year. And last year, it was a high of about $700,000,000,000. So you've got a $5,000,000,000,000 market with liquidity that is a fraction of the scale of the industry. Pre 2021, the yield on NAV was about 20% cash on cash year over year. So a phenomenal asset class. You build a portfolio and you're getting a 20% cash dividend off of your mature portfolio as a private equity investor. In the last four years, that's gone down to seven to 14%. And that's not yield. That is return on capital, including principal. So basically, takes you ten years to get your money back in the current environment. So the market needs more and more liquidity. So what happened is, is a a new phenomenon, a new technology called continuation funds developed about five to six, seven years ago. And what that is is allows a GP to take an asset and effectively get liquidity for their fund, but keep it in another vehicle. It has conflicts of interest, but there are market standards, and it's become extremely popular. But that alone is providing one stream of liquidity alternatives for the GP, but it's not solving the scale of the the need for liquidity in the industry today to the full extent. Because what it does do is cash out the flagship fund from its ownership in this in this asset. LPs are allowed to roll, but LPs aren't really equipped to roll. The newest technology, which is what we are focused on and a pioneer in, is what we call direct secondaries. So instead of a continuation fund, a GP can get partial liquidity. A way we think about it simply is if you own Apple stock and the stocks tripled or quadrupled, do you wanna keep all of it, or do you now have a very large position and you wanna rebalance your portfolio so you sell a quarter of it? So it creates a realized gain. It creates a win for the fund.
00:17:55 · David Wachter, Brandon Sedloff
It allows the fund to, generate more DPI, get cash back to improve that seven to 14% yield back up to 20% and better rebalance your portfolio. So effectively have more control over the duration of your winners and how you generate liquidity for your LPs. [00:18:15] S1: So in that example that you gave, just one clarification, you used Apple public company. Does the same apply to private companies as well?