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What are Secondaries?

The private equity secondary market (often simply called “secondaries”) refers to buying and selling pre-existing shares of a company or existing LP positions in a venture capital portfolio. Secondaries are different than typical VC investments, otherwise known as primaries.

The headlines you read in TechCrunch about so and so VC investing millions of dollars into some new high-flying startup at a huge valuation, that’s a primary investment. In these transactions, the company issues new stock (typically preferred) to the investor in exchange for capital. That capital goes onto the company’s balance sheet and is used to support operations and fuel growth.

In a direct secondary investment, no new shares are created. Rather, existing shares are purchased, and the capital used to purchase those shares goes directly to the seller of the shares (typically either an early investor or long-time employee), not to the company. In other words, a secondary transaction is not a financing event for a company, rather, it is a liquidity event for select shareholders.

There are other secondary investments that consist of buying out existing LP positions in a fund rather than purchasing shares in a single company. In these transactions, the buyer purchases either part of or the entire position from the investors who originally invested in a particular venture fund (otherwise known as LPs). This way they now become LPs in that fund that owns positions across a number of different companies.

Why does the secondary market exist?

Investments in startups or venture funds are very illiquid with long time horizons, often 10+ years. There are a number of legitimate reasons why a VC or LP would want to sell their position (I will cover these reasons in more detail in Part 2) before this long commitment has run its course. However, unlike in public markets, there is no easy way to exit these positions. As a result, the secondary market developed to provide liquidity to private equity investors.