Non-public fairness (PE) exit methods have tailored and developed previous the times of clean IPO runways and fast M&A turnarounds to incorporate continuation funds. The backdrop of low financing prices that inspired file transaction volumes, fast fund rotations, and regular exit alternatives have evaporated over the past 5 years. In at the moment’s high-rate setting, exit choices have narrowed, financing has develop into costlier, and holding intervals have lengthened. Final 12 months, common buyout holding intervals rose to six.7 years from a two-decade common of 5.7 years with the exit backlog now larger than at any level since 2005, in line with McKinsey analysis.
Enter the continuation fund, which has quickly moved from area of interest to mainstream, providing alternative to many buyers whereas inviting warning from others. The emergence of continuation funds displays a structural evolution in non-public fairness fairly than a brief adjustment. These funds, a comparatively new addition to the PE ecosystem, allow liquidity in a capital-constrained world whereas testing the boundaries of transparency and governance.
Understanding Continuation Funds
A continuation fund permits a PE agency to switch a number of portfolio belongings from an present, maturing fund into a brand new automobile, usually managed by the identical basic associate (GP). Current restricted companions (LPs) can both money out or roll them into the brand new construction, whereas new buyers can purchase stakes in mature, high-performing belongings with shorter holding intervals.
The marketplace for continuation funds has expanded shortly. In 2024, 96 such automobiles had been recorded, up 12.9% year-over-year, representing 14% of all PE exits. Single-asset continuation funds, just like the $3 billion Alterra Mountain Firm deal, underscore their rising scale. Analysts at Greenhill & Co. predict that continuation funds may account for 20% of PE exits within the coming years, pushed by a maturing secondary market and difficult exit environments.
Why the Rise?
All of this has slowed strategic M&A. In 2023, international M&A recorded its lowest stage in a decade, underscoring the post-pandemic slowdown in dealmaking. World PE exit rely declined to three,796 from the 2021 peak of 4,383. Whereas off its highs, international PE dry powder remains to be round $2.5 trillion as of mid-2025, and the stress to deploy capital stays excessive whilst exit channels tighten. A number of forces underpin the current proliferation. Amongst them: an absence of conventional exit paths, a looming maturity wall, and a necessity for LPs to liberate money.
First, rising financing prices have constrained leveraged buyouts and widened the bid-ask hole in M&A offers. Continuation funds enable managers to retain high-conviction belongings and supply buyers with liquidity choices. The upcoming maturity wall is one other issue. Greater than 50% of PE funds are actually six years or older, with 1,607 funds set to wind down in 2025 or 2026. Continuation funds enable corporations to increase worth creation with out pressured gross sales.
Lastly, these funds align with investor demand for flexibility. LPs can exit for rapid liquidity or roll over to chase future upside. New buyers acquire publicity to confirmed belongings with decrease blind-pool threat. Continuation funds boast a 9% loss ratio in comparison with 19% for buyouts, providing higher risk-adjusted returns.
The Advantages: A Win-Win-Win?
Proponents argue that continuation funds profit all events concerned: GPs, present LPs, and new buyers. For GPs, this extension permits them to proceed managing high-performing belongings, thereby producing continued administration charges and carried curiosity.
LPs acquire liquidity with out sacrificing potential upside, whereas new buyers entry mature belongings with a clearer path to returns. Current evaluation suggests continuation funds have outperformed buyout funds throughout all quartiles when it comes to multiple-on-invested-capital (MOIC) whereas additionally demonstrating decrease loss ratios.
Empirical proof helps their enchantment. Morgan Stanley discovered that upper-quartile continuation funds achieved 1.8x MOIC, in contrast with 1.6x for comparable buyout funds. Sector-specific examples, similar to Lime Rock Companions’ use of continuation constructions in vitality belongings, illustrate how managers can lengthen worth creation via market cycles. The corporations have utilized continuation funds to increase their possession of belongings in much less favored basins, betting on future market shifts. This flexibility can flip a great funding into an awesome one, particularly when market timing is suboptimal.
Dangers and Governance Challenges
Regardless of their advantages, continuation funds have raised governance and valuation issues. When GPs act as each vendor and purchaser, conflicts of curiosity are inherent. Buyers have raised eyebrows on the nature of those transactions, with critics likening them to round financing constructions if not rigorously ruled. For a deeper understanding of this dynamic, learn CFA Institute Analysis and Coverage Middle’s report Continuation Funds: Ethics in Non-public Markets.
Transparency in valuation can also be important. LPs should belief that the acquisition worth for transferred belongings displays truthful market worth. Many corporations handle this by participating third-party monetary advisors for unbiased opinions or conducting auctions to make sure market-driven valuations. But, LPs usually lack the sources to totally vet these offers, and the concentrated threat of single-asset funds (vs. diversified secondary funds) can deter rollovers.
Compounding these issues, the 2024 Fifth Circuit Court docket of Appeals choice to vacate parts of the SEC’s Non-public Fund Advisers Rule eliminated necessary fairness-opinion and disclosure necessities for continuation funds. This ruling reduces necessary reporting necessities, doubtlessly rising battle dangers as GPs face much less regulatory oversight but additionally permits for quicker transaction execution. It additionally will increase the onus on buyers to carry out thorough due diligence underscoring the necessity for voluntary and sturdy governance.
Greatest Practices for Buyers
For these navigating continuation funds, a number of greatest practices can mitigate dangers and improve outcomes:
Guarantee Unbiased Valuation: : Demand third-party valuations from respected advisors, similar to Houlihan Lokey or Evercore, to confirm truthful asset pricing and search public sale processes the place possible. LPs ought to request detailed pricing methodologies and comparable transaction knowledge.
Align GP and LP Incentives: Require GPs to roll over 100% of their funding and negotiate carried curiosity and management-fee constructions that steadiness long-term alignment with investor safety.
Assess Focus Danger: Single-asset continuation funds can introduce heightened publicity; buyers ought to examine their risk-return profiles in opposition to diversified secondary funds and conduct stress checks below hostile market situations.
Negotiate Governance Early: LPs ought to negotiate continuation fund phrases throughout preliminary fund formation, setting clear expectations for pricing, governance, and LP choices. Set up LP veto rights or advisory roles at preliminary fund formation to make sure affect over future continuation transactions.
Leverage Specialist Experience: Interact advisors skilled in secondary and GP-led transactions to evaluate valuation methodologies, cash-flow fashions, and regulatory implications.
Monitor Put up-Transaction Efficiency: Require clear, periodic reporting on operational and monetary metrics to substantiate that prolonged holding intervals generate incremental worth.
Interact in Energetic Dialogue: Foster open communication with GPs to deal with issues about conflicts or transparency. Take part in LP advisory committees to affect governance and guarantee accountability. Energetic engagement can deter self-dealing and promote truthful outcomes.
The New, New PE Regular
For buyers, success on this setting relies upon much less on the structural novelty of the automobile and extra on the rigor of its oversight. The lesson from each the zero-rate growth and the present high-rate adjustment is evident: in non-public markets, worth creation endures solely when alignment, transparency, and self-discipline do.
