The Road Ahead for Private Equity: Private Funds & Dealmaking

Fundraising’s Effect on Dealmaking

Fundraising has been challenging over the past 12 months, primarily driven by the fact that distributions have slowed as a result of the lack of exit opportunities. For institutional investors such as pension funds and endowments, their ability to make new allocations has been hindered as they await distributions, while sovereign wealth funds—particularly those in the Middle East benefiting from rising oil prices—have been increasingly active.

Sponsors are taking various initiatives in a bid to bolster fundraising efforts, with greater use of first closing fee discounts and other incentives and a push to bring in brand-name LPs early to create momentum. Those raising capital are being more judicious in identifying a target fund size and in their approach to making substantive changes from one fund to the next, with those more difficult to justify in this environment.

We are seeing a real push on fundraising in Q1 2024 as sponsors look to tap limited dry powder early in the new year. There remains strong appetite for certain strategies, including private credit, infrastructure and energy transition, and we expect that investors will continue to favor allocating capital to existing relationships over new ones. Family offices and high-net-worth investors represent a growth opportunity for private funds, but come with operational challenges that require significant manager commitment.

We have seen an enhanced focus on co-investment as a route to supplement primary fundraising. Access to co-investment opportunities is being used as a carrot to encourage LPs to allocate to new funds, while simultaneously allowing managers to write bigger equity checks and overcome shortfalls during the current high interest rate environment.

Managers have also turned to cornerstone investors for capital to warehouse investments. This allows the manager to showcase an attractive pipeline, often in return for favorable co-investment arrangements with the cornerstone investors. In addition, large institutional investors are increasingly interested in acquiring GP stakes in exchange for making anchor commitments to emerging managers and new fund products. 

We have also seen a significant increase in the volume of GP-led secondary transactions in recent years, both as a portfolio management tool and a liquidity solution. LP-led secondaries continue to be robust, driven by LPs seeking to generate liquidity or reduce their exposure to certain asset classes or managers. We see no signs of a slowdown in the secondaries market in 2024.

Funds Regulation and M&A

CTA

Under the Corporate Transparency Act (CTA), which became effective on January 1, 2024, all companies (including limited partnerships) formed or registered and doing business in a U.S. state need to disclose (i) all 25% or greater beneficial owners, and (ii) all others with “substantial control” over the entity. There are exemptions for registered investment advisers and for 3(c) (1) and 3(c)(7) funds, but there are no express safe harbors for portfolio companies.

In addition, “upstream” and “downstream” entities in a management company structure, or in a fund structure, will have to be examined to determine if they are subject to their own reporting obligations. The rule is applicable in 2025 for existing companies, but immediately effective (on a 90-day lag) for entities created in 2024.

Private Funds Rule/Private Fund Adviser Rules

Changes to Form PF and the new Private Fund Adviser Rules (PFAR) will require more information from private fund sponsors (and, indirectly, from portfolio companies), including information on valuation determinations,
which will be used for mandatory public and regulatory reporting and other purposes. Because there are numerous materiality assumptions to be made under both rules, counsel and other relevant decisionmakers should be consulted.
PFAR also requires disclosure of value, and  prohibits differential disclosures and liquidity at the fund level. In addition, PFAR requires audits in all cases, so SPVs and other holding companies that currently use the “surprise examination” option to comply with the Custody Rule will now have to produce a financial statements audit, which may require the participation of
portfolio company management.

Changes to 13D and 13F

The Securities and Exchange Commission (SEC) amended or adopted several rules relating to persons investing in securities, which became effective in 2023 or with compliance dates in 2024. Most significantly, the SEC adopted amendments to Regulation 13D-G under the Securities Exchange Act of 1934 to accelerate (i) Schedule 13D filings to five business days following an acquisition resulting in beneficial ownership of more than 5% of an equity security and amendments within two business days following a material change starting on February 5, 2024, (ii) the initial filing deadline
for initial Schedule 13Gs to 45 days following quarterend (instead of year-end) or within five business days, depending on the type of filer, starting with the quarter ending September 30, 2024 and (iii) amendments to update Schedule 13Gs within 45 days of the end of a quarter in which there is a material change (instead of the end of the year in which there is any change) starting with the quarter ending September 30, 2024, with even faster filings if the beneficial owner acquires more than 10% or subsequently acquires or disposes of 5%.

In addition, the SEC clarified its treatment of groups to continue the requirement for “concerted action” between beneficial owners to form a group and declined to extend beneficial ownership to include certain cash-settled instruments for activist investors.

The SEC also increased its enforcement with respect to reporting of ownership—bringing charges resulting in civil monetary penalties against (i) six officers, directors and large shareholders of public companies for failing to timely report information about their holdings and transactions in company stock, and (ii) five publicly traded companies for “contributing” to their Section 16 insiders’ disclosure violations.

The SEC brought enforcement actions relating to a nonprofit that filed Form 13Fs through shell companies to obscure and misstate its control over the portfolio and against an investment adviser that failed to file Form 13Fs for several years.

Further, the SEC adopted two other significant new forms for persons trading securities. Rule 14Ad-1 and Form N-PX, which will require institutional investment managers who file Form 13F with the SEC and exercise voting power over securities to file a Form N-PX for all securities for which it voted relating to a “say-on-pay,” “say-on-golden-parachute,” or “say-on-frequency” vote for issuers with a Section 12 registered class through June 30 of that year, not later than August 31 of the year, starting with the voting year ending June 30, 2024. 

Finally, the SEC adopted Form SHO, which will, starting with the month ending January 31, 2024, require an institutional
investment manager with a gross short position in excess of the applicable threshold to file a Form SHO within 14 days
of the end of the month reporting the gross short position in the reportable security on the last settlement day and the changes in gross short position on each settlement day of the month.