Whether managing publicly traded stocks and bonds or dealing with private, illiquid assets, there are times when selling investments becomes necessary. Reasons for selling might include poor performance, the need to rebalance a portfolio, or a desire for increased liquidity. Publicly traded securities usually offer a straightforward sales process, whereas selling illiquid private assets presents distinct challenges.
For Korean institutions, a decade of substantial overseas investments and market disruptions—such as those caused by Covid—have heightened the urgency to liquidate assets in the secondary market. This increased demand highlights the need for more effective and efficient asset disposal methods.
To address these challenges, we have developed a secondary marketplace designed to streamline asset sales. Before exploring our platform in detail, it is important to understand why auction-based sales processes are particularly effective in today’s market environment.
Secondary investments play a crucial role in the financial ecosystem, particularly within private equity, real estate, and other alternative asset classes. Unlike primary investments, which involve direct capital commitments, secondary investments involve transferring these commitments between investors. The secondary market has expanded significantly over the past decade due to the growing need for liquidity and the desire for more dynamic portfolio management.
Maximizing the value of these transactions is essential for sellers, as they often involve substantial capital and impact overall portfolio performance. Traditionally, sellers have relied on agents to facilitate these transactions, handling everything from due diligence to transaction management. However, auction-based sales platforms offer a compelling alternative, providing enhanced value realization, faster transactions, and greater transparency.
This whitepaper examines the advantages of auction-based sales processes over traditional agent-led transactions, supported by academic research, case studies, and real-world examples. By the end of this paper, readers will understand why auctions are a superior method for optimizing secondary investment sales.
The conventional approach to selling secondary investments involves engaging a financial intermediary, such as an agent or broker, who manages the entire sales process:
While agents offer valuable expertise and services, this traditional approach has notable drawbacks:
Lengthy Transaction Times: The process can be time-consuming, often taking months due to extended negotiations and thorough due diligence.
High Fees: Agents typically charge substantial fees, including retainers and success fees, which can significantly reduce the seller’s net proceeds.
Limited Transparency: The private nature of agent-led sales means that much of the negotiation and pricing occurs behind closed doors, limiting sellers’ visibility into true demand and optimal pricing.
An auction-based sales process, particularly in an open auction format, invites multiple potential buyers to bid publicly on an investment, fostering a competitive environment. All bids are visible to participants, often leading to bidding wars. This transparency and competition usually result in a final sale price that reflects or exceeds the asset’s true market value.
The open auction format is effective in maximizing sale prices by leveraging market dynamics and the psychology of competition. The visibility of bids encourages bidders to offer their best prices, leading to quick, decisive transactions. Additionally, the structured and transparent nature of open auctions provides confidence in the fairness and efficiency of the process, making it an attractive alternative to traditional agent-facilitated sales.
Higher Price Realization
Auctions often lead to higher price realization by creating a competitive environment where multiple buyers vie for the same asset. Research, such as Jeremy Bulow and Paul Klemperer’s study in the Journal of Political Economy, shows that auction markets provide superior price discovery compared to negotiated sales, resulting in higher prices. Real-world examples, like a 2021 Setter Capital study, reveal that auction-based transactions achieved a 10-15% price premium over traditional sales, significantly affecting the outcome of large transactions.
Speed and Efficiency
Auctions are generally more efficient than agent-facilitated sales. With a predefined timeline for bid submissions and reviews, auctions facilitate quicker decision-making and reduce the time assets spend on the market. This streamlined process minimizes inefficiencies like prolonged discussions and delays, crucial during market volatility when quick sales can mitigate potential losses and enhance portfolio performance.
Transparency
The transparency of auctions allows sellers to gain valuable insights into market demand and pricing. Sellers can observe interest levels, bid ranges, and, in some cases, the identities of potential buyers. This transparency builds trust and ensures a fair process, which is particularly important for institutional investors adhering to governance and fiduciary responsibilities. In contrast, agent-led sales often lack this visibility, potentially leading to suboptimal pricing and reduced confidence in the process.
Market Dynamics
Auctions leverage competitive market dynamics to the seller’s advantage. By encouraging multiple buyers to compete, auctions can result in higher bids and better terms. This competitive pressure forces buyers to bid closer to their true valuation of the asset, leading to more accurate pricing and greater efficiency. The global art market exemplifies this, with 2022 auction sales reaching $26.3 billion, driven by competitive bidding wars.
Cost
Auctions offer a cost-efficient alternative to traditional agent-led sales. While engaging an agent involves significant fees, including retainers and success fees, auction costs typically consist of a percentage of the final sale price, often lower than agent fees. This cost efficiency allows sellers to retain a larger portion of the proceeds, enhancing the overall value of the transaction.
Case Study 1: Private Equity Secondary Market
A prominent private equity firm opted for an auction-based approach to divest a significant portion of its holdings in a mid-sized technology fund. The auction attracted diverse bidders, leading to a bidding war that exceeded initial estimates by 20%. The entire process was completed in just 45 days, significantly faster than the typical 3-6 months required with agents, demonstrating the potential for higher price realization and quicker transactions.
Case Study 2: Real Estate Secondary Market
A large pension fund decided to test an auction-based platform to sell its stake in a commercial real estate fund due to the need for a quick sale and concerns about agent fees. The auction, structured as a sealed-bid process, attracted numerous serious bidders and resulted in a winning bid 15% higher than the highest offer received through traditional agent channels. Additionally, auction fees were 25% lower than typical agent fees, leading to significant cost savings and a higher net return.
Conclusion
This whitepaper demonstrates the superior value of auction-based sales processes over traditional agent-led transactions for secondary investments. Auctions offer higher price realization, speed, efficiency, transparency, and cost-effectiveness. The case studies further illustrate how auctions achieve better outcomes in terms of price and transaction speed. For institutional investors and other stakeholders, auctions present a compelling case for optimizing secondary investment sales in today’s dynamic financial markets. As the secondary market continues to evolve, leveraging auctions can help sellers maximize value, reduce transaction times, and navigate the complexities of the financial landscape with greater confidence and success.
A SAVAS Capital Marketplace publication, August 2024