September 12, 2022 – “GP-led” secondary transactions are typically initiated by a general partner (GP) or fund sponsor to create liquidity for existing limited partners (LPs) of a fund while allowing the GP to restructure and, in many cases, recapitalize one or more fund assets with a buyer. Unlike most GP-led transactions, LP tender offers represent a GP-facilitated liquidity process that gives LPs an option to directly sell their interest to a buyer in an otherwise illiquid investment.
1. GP involvement
An LP tender offer involves the sale of fund interests by existing LPs to one or more new LPs. Unlike a traditional LP-to-LP secondary transaction, the process is typically initiated by and run with significant involvement by the GP. The GP usually runs a broker-led process to solicit bids from multiple potential buyers to present the best price to fund LPs.
Register now for FREE unlimited access to Reuters.com
The GP will then enter into a framework agreement with the lead buyer and will often distribute offering materials to existing LPs to maintain control over communications with its LPs and may also seek certain modifications of the fund documents as part of the process (such as, an extension to the fund’s term).
2. Why tender offers?
Although LP tender offers have not seen the same rise in popularity as other types of GP-leds such as continuation funds in recent years, they still provide distinct advantages to GPs in certain situations. Some GPs are unable to easily transfer assets to a new continuation fund, particularly if the assets are in regulated industries or require complex execution.
Accordingly, LP tender offers facilitate LP liquidity without disrupting the ownership structure and triggering onerous regulatory filings or notifications. Another added benefit of LP tender offers is that they are often much simpler transactions than continuation fund transactions and involve lower transaction fees and expenses.
GPs may also offer the lead buyer the ability to make a primary commitment to a new fundraising of the GP in addition to the purchase by the lead buyer of secondary interests in connection with the tender offer (i.e. a stapled commitment). Any stapled commitment should be disclosed to selling LPs and note that the price offered in connection with the tender may be different from the price that would have been offered, had the staple not been in place.
3. Key documents and process
The tender offer typically starts with the GP and lead buyer entering into a framework agreement that outlines the mechanics of the transaction and certain terms such as price, expense allocation, parameters of the offer process and other basic undertakings from the GP regarding its conduct between launch of the offer and closing.
GPs may provide some level of representations regarding the fund interests (typically given by selling LPs) directly to the lead buyer in the framework agreement to simplify the purchase and sale agreement (PSA) between the lead buyer and selling LPs.
The lead buyer and GP will also prepare a set of documents commonly referred to as the letter of transmittal (LoT). The LoT details the terms of the offer, including the price, expenses, timing for response and risk factors, and will generally include a form PSA and transfer agreement. The PSA is quite often provided on a take-it-or-leave-it basis, with minimal negotiation accepted because, in part, facilitating negotiations on a bilateral basis with all of the existing LPs would significantly increase costs.
4. The ‘do nothing’ problem
One of the challenges of an LP tender offer is the “do nothing” problem. In a typical GP-led transaction, once the GP has received approval to proceed with the transaction, LPs generally have two options: (i) roll to the new vehicle or (ii) sell their interest. GPs will also make the sale option the default if an LP does not respond.
In LP tender offers, however, LPs have the option of selling or staying in the fund, with the default being staying in the fund if an LP does not respond. For this reason, an LP tender offer does not force action from LPs in the same way the sell/roll decision in a traditional GP-led does. As a result, these transactions are not always favored by GPs as they may result in limited seller uptake.
5. Limited ability to modify fund terms
One key limiting factor of LP tender offers is that they do not provide GPs the ability to change the terms of the funds in the same ways they are able to in continuation fund transactions.
Because the lead buyer is simply buying existing LP interests, the terms of the fund cannot be changed unless the tender offer is coupled with an amendment, which would be subject to approval by the existing LPs. As such, the GP has limited scope to reset economics, extend the fund’s term or expand follow-on capital.
6. U.S. tender offer rules
In the United States and in many other jurisdictions, there are prescriptive rules surrounding tender offers, even in private issuers. For example, U.S. tender offer rules typically require that the offer remain open for at least 20 business days, and if there are material changes to the offer it must remain open for another 10 business days. Tender offer rules also often include requirements for minimum disclosures on price and expenses, as well as anti-fraud rules and other requirements.
Specific care should be taken if any of the fund vehicles involved in an LP tender offer are corporations (particularly those listed on a stock exchange) as these transactions may be subject to the full scope of the applicable tender offer rules in the relevant jurisdiction.
The expenses involved in LP tender offers, like all GP-led transactions, can vary. Typically, any placement agent fees, paying agent fees and costs incurred by the GP in connection with the transaction will be borne by selling LPs, while costs incurred by the buyers in connection with the transaction will be borne by buyers.
The expenses in a tender offer are not often as extensive as a continuation fund transaction, given the lack of restructuring and limited negotiation of the PSA and transfer agreement.
A lead buyer will typically underwrite a large portion of the selling volume in a tender offer and the remainder of the volume will be syndicated to other buyers. The allocation between the lead and additional buyers is dealt with in the framework agreement between the GP and the lead buyer.
Additional buyers are generally required to accede to the framework agreement and be bound by the same terms and conditions as the lead buyer.
9. Tax structuring
Similar to traditional LP secondary transactions, buyers are acquiring the fund interests from existing LPs who have their own, and quite often very different, tax status. Because the selling LPs’ tax needs may not align with those of the buyer, some restructuring may be required internally by the buyer or there may be some additional tax structuring required by the GP. Accordingly, GPs and buyers alike should undertake appropriate diligence to ensure any tax issues are identified early.
10. Change of control and regulatory filings
One of the key diligence steps for a GP in an LP tender offer is to consider the effects of a change in ownership in the fund, particularly if a buyer will acquire a controlling stake. This is important because not only may the buyer be able to pass major actions (or veto certain actions) of the fund (such as amendments to the fund’s LPA), the shifting underlying asset ownership may trigger antitrust, Committee on Foreign Investment in the United States (CFIUS) or other regulatory filings.
Fadi Samman is a regular contributing columnist on investment funds for Reuters Legal News and Westlaw Today.
Register now for FREE unlimited access to Reuters.com
Opinions expressed are those of the author. They do not reflect the views of Reuters News, which, under the Trust Principles, is committed to integrity, independence, and freedom from bias. Westlaw Today is owned by Thomson Reuters and operates independently of Reuters News.