Mezzanine, Restructuring / Distressed Debt

Special Situation Partnerships

These partnerships include organizations with a specific industry focus not covered by the other private equity subclasses, or unique opportunities that fall outside the regular subclasses. Adams Street expects that its target U.S. allocation to special situation managers will range between 10-15%.

Adams Street favors managers that:

• Offer specific domain expertise often focused on niche opportunities in single industries that differentiate them from other buyout or venture capital managers
• Examples include managers pursuing strategies in the financial services, energy or real asset industries

Mezzanine Partnerships

These partnerships provide the intermediate capital between equity and senior debt in a buyout or refinancing transaction. Mezzanine partnerships typically own a security in the company which provides current interest or dividend payments as well as a potential equity interest in the company, allowing for current income with upside potential at lower risk than a pure equity investment.

Mezzanine firms have historically pursued strategies that have ranged from more “debt-oriented” to more “equity-oriented” in nature. “Debt-oriented” mezzanine managers typically invest capital alongside equity sponsors who own a controlling stake in a company, and reflect a capital preservation risk orientation focused more on generating fixed income-like return rather than higher risk equity returns. “Equity-oriented” mezzanine managers tend to seek meaningful equity ownership stakes alongside their debt financings to compensate them more fully for perceived higher risk investments. Given that equity-oriented mezzanine managers seek to share in the equity upside of their investments, their objective reflects more of a capital appreciation orientation: a stable income-like return on a portion of their investment accompanied by a higher returning equity portion on the remainder. They may also be the only institutional investor in the capital structure.

Adams Street seeks to invest in primarily equity-oriented mezzanine managers pursuing strategies where the competition is less intense and where attractive risk-adjusted returns can be achieved. Mezzanine funds have been and are expected to remain a very small component of Adams Street’s portfolios with a target U.S. allocation range of up to 5%.

Adams Street favors mezzanine managers that:

• Pursue opportunities in the small to lower middle market sector (e.g., companies with $5-20 million of EBITDA) where the balance between operating risk and financial reward is most favorable
• Play an active, value-added role with the companies
• Tend to have meaningful equity ownership in the companies, thereby enabling them to share in the upside of the business
• Tend to pursue (as at least part of their strategy) transactions without an equity sponsor
• Are highly experienced investors that have generated strong historical returns with low capital loss rates

Restructuring/Distressed Debt Partnerships

These partnerships capitalize on opportunities generated by over-leveraged or poorly managed companies. Restructuring partnerships typically make new equity investments in financially or operationally troubled companies, often for a control position, with a view to improving the balance sheet and operations for a subsequent sale. Distressed debt partnerships purchase the debt of companies in distress, whether in bankruptcy or not, with a view to participating in the increase in value post reorganization. Distressed debt funds can be further broken into three strategies: passive trading, active non-control and control.

• Passive trading funds react to opportunities in the fixed income markets by purchasing small positions in distressed or defaulted debt and either benefit from the work of others on the creditor’s committee or through general market movements. These managers often manage their portfolios similarly to a fixed income manager.
• Active non-control managers attempt to own a significant position of a particular class of debt in a bankrupt company in order to sit on its creditor’s committee. Active non-control managers typically do not hold positions much beyond the reorganization process and aim to capture the value generated as a byproduct of the restructuring process.
• Control-oriented managers attempt to gain control of a distressed or bankrupt company by purchasing its debt. By controlling the debt of a bankrupt company, the manager controls the reorganization process through its representation on the creditor’s committee. Their goal is to obtain majority control of the equity in the restructured company and then manage the investment like a typical private equity transaction. This is the most complex strategy to deploy, and a successful manager must possess fixed income and trading skills to purchase a company, as well as private equity skills to then manage and exit it.

Adams Street’s distressed and restructuring sector target U.S. allocation ranges between 5-10%.

Adams Street favors managers that:

• Employ a control-oriented distressed debt strategy
• Focus on equity investments in financially or operationally troubled companies, often for a control position, with a view to improving the balance sheet and operations for a subsequent sale