Mar 4, 2023 · 51m · news
Hunter Somerville: Biggest Mistake LPs Make; Deep Dive into Secondary Markets | 20VC #985 · 20VC with Harry Stebbings
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gold bands on the timeline = statements, start to end. Hover to read, click to jump. CC turns on captions
In this technical episode of 20VC, Harry Stebbings interviews StepStone Group Partner Hunter Somerville to unpack the complexities of secondary markets, the institutional LP liquidity crunch, and the vital transition from TVPI to realized DPI.
How this conversation actually went
Every chapter scored 0–10 on four independent dynamics. Hover any point for the reasoning behind the score. Harry holds 25.6% of the talking time here. How this is scored →
Harry as informed peer 6.0 Guest teaching 5.3 Guest disagreement 1.8 Harry pushing back 4.4
speaking balance: gold is Harry, purple is the guest (3 minute bins)
Sharpest disagreement ▶ 24:09 Hunter Rejects Anecdotal 60% Discount Benchmark
Hunter reframes Harry's assertion that secondary buyers demand 60% discounts by citing Jeffries data showing average discounts of 20-35% for company secondaries and explaining that 60% discounts reflect low-quality assets.
Hardest push from Harry ▶ 19:04 Harry Directly Challenges Optimistic 2023 Liquidity ForecastHarry refuses Hunter's framing that 2023 liquidity will improve over 2022, pointing directly to shut IPO windows, rare acquisitions, and delayed transactions to challenge the premise.
Biggest teaching moment ▶ 14:11 Hunter's Comprehensive Breakdown of GP-Led Restructuring MechanismsHunter educates the host on the intricacies of GP-led restructurings in venture, explaining strip sales, tender offers, and continuation funds for funds entering year 12-15 with concentrated NAV.
Harry holds his own ▶ 41:09 Harry Exposes the Fallacy of Excessive GP Commit ExpectationsHarry demonstrates superior domain expertise on GP firm management by explaining how LP demands for excessive GP commits force managers to recycle management fees, crippling their ability to invest in talent and firm infrastructure.
the scores for every segment, with the reasoning behind each
| Chapter | Topic | Harry as informed peer | Guest teaching | Guest disagreement | Harry pushing back | Why |
|---|---|---|---|---|---|---|
| Categorizing the Secondary Market | 3 | 4 | 1 | 1 | Harry prompts Hunter to lay out the structural framework of secondary markets based on their prior offline discussion. Hunter clearly categorizes company versus fund secondaries and outlines who typically seeks liquidity in company secondaries during current market conditions. | |
| The Denominator Effect Explained | 6 | 5 | 2 | 5 | Harry pushes Hunter on whether VCs have marked down their books adequately and introduces the operational conflict between fund-of-funds wanting high marks and endowments desiring realistic pricing. Hunter provides a nuanced breakdown of how managers should evaluate runway when considering discretionary markdowns. | |
| Endowment Liquidity & LP Selling Trends | 7 | 4 | 2 | 4 | Harry demonstrates deep domain knowledge by detailing how university endowments face guaranteed annual cash outflows for scholarships and operations despite illiquidity, and quotes an LP regarding DPI expectations. Hunter expands the seller landscape to include family offices and corporate pensions. | |
| Realized DPI vs. On-Paper TVPI | 6 | 6 | 2 | 5 | Harry highlights multi-billion dollar funds sitting on uncalled dry powder and questions the capital call risks for LPs. Hunter explains why DPI is undebatable compared to TVPI and outlines how fee structures on committed versus invested capital affect LP patience. | |
| A Bearish Outlook on Growth Investing | 6 | 4 | 2 | 6 | Harry presses Hunter on whether over-sized growth and crypto funds should return capital to LPs, asking directly where multi-billion dollar crypto funds will spend their money. Hunter acknowledges growth funds over-expanded while explaining why crypto-native capital retains a distinct niche. | |
| Mechanics of GP-Led Restructurings | 2 | 7 | 1 | 1 | Harry invites Hunter to explain GP-led restructurings assuming no prior knowledge. Hunter delivers an educational breakdown covering strip sales, tender offers, and continuation funds for late-stage venture portfolios. | |
| GP and LP Alignment in Secondaries | 8 | 5 | 4 | 8 | Harry challenges Hunter with strong pushback, arguing that GP-led secondaries create alignment risks by sacrificing long-term LP upside for GP fundraising metrics, and directly rejects Hunter's claim that 2023 liquidity will improve given shut IPO windows. Hunter defends his view by highlighting PE recaps and secondary mechanisms. | |
| Evaluating Discounts in Secondary Markets | 7 | 6 | 3 | 6 | Harry pushes back on Hunter's discount figures by citing a major secondary buyer who refuses to touch deals under a 60% discount. Hunter counters with industry benchmark data from Jeffries while emphasizing that cap table understanding is critical when evaluating deep discounts. | |
| Evaluating Cap Tables & Info Sourcing | 6 | 5 | 2 | 4 | Harry identifies a market paradox where higher quality assets provide less financial disclosure, asking if buyers are simply brand-buying. Hunter explains how 20VC leverages GP relationships to secure management access and warm introductions rather than buying opaquely. | |
| Scaling Secondary Transactions | 6 | 6 | 1 | 4 | Harry asks how secondary buyers aggregate small employee sales into institutional ticket sizes and probes LP direct investment mistakes. Hunter outlines how aligning with management enables consolidated cap table cleanups and explains why today's bid-ask spreads differ from 2008. | |
| Middle East Capital & LP Sourcing Trends | 6 | 5 | 1 | 2 | Harry brings up the noticeable trend of Silicon Valley GPs traveling repeatedly to the UAE for capital as US LPs pull back. Hunter agrees, predicting an increase in international capital participation for growth funds writing large check sizes. | |
| LP Classes, GP Stakes & Carry Dynamics | 8 | 5 | 1 | 6 | Harry delivers strong industry commentary regarding European family offices getting burned by mega-funds and argues that high LP demands for GP commits force managers to recycle management fees rather than build firms. Hunter agrees on GP commits while outlining criteria for performance kickers and fee terms on invested capital. | |
| Quick-Fire: Valuation Policies & Partner Dynamics | 7 | 6 | 2 | 6 | During the quick-fire round, Harry points out that vintage diversification provided little protection between 2018 and 2021 since prices were universally inflated. Hunter highlights internal GP partner friction where senior GPs hold onto carry while younger partners push to deploy in lower-valuation vintages. | |
| Investment Mistakes & Emerging Markets | 6 | 6 | 1 | 4 | Hunter breaks down his biggest mistakes across funds, direct investments, and secondaries, noting how downside structure can evaporate during exits. Harry highlights the sharp retrenchment of venture capital from emerging markets back to core US tech hubs. |
Statements from this episode (39)
Somerville: Depressed IPO and M&A markets force creative secondary liquidity
“And particularly in an environment like the one we have now, where other liquidity options are more limited. You're not seeing companies go public, you're not seeing strategic M&A as a robust of a clip, and so they need to think more creatively about getting l…”
Somerville: Denominator effect forces LPs into secondaries to rebalance portfolios
“The denominator effect is effectively when you have both a public and a private book, the public side has gone down more significantly. The private side has come down, but not at the degree or the speed that you've seen the public side go down. And what you're…”
StepStone: Venture funds have marked down portfolios by 15% to 20%
“I think we looked on average funds have come down around 19% on the venture side somewhere between 15 and 20, I would say, is, is what we've typically seen.”
Somerville: VC managers are taking proactive discretionary markdowns for the first time
“I have been surprised and happily so that people have taken discretionary markdowns more proactively for the first time in, in my history of doing this.”
Somerville: Mark down VCs with under two years of runway, not long-runway growers
“I would look at the companies that are shorter on runway that are going to need to raise within the next 18 to 24 months, and if those companies have hit a growth phase and a price that's too high, then I would take a discretionary markdown on it. If instead i…”
Somerville: Family offices and corporate pensions are seeking secondary market sales
“I mean, we're seeing family offices that were overly adventurous in this category need to sell we're seeing corporate pensions similarly looking to sell, so it's not just specific to them.”
Somerville: LPs will downsize fund commitments rather than abandon top managers
“I think what you'll see is smaller investment sizes in the managers that they like. In the ones they really like, they'll just stay the same instead of growing. And in the ones that are on the fringe or in their, you know, respective penalty boxes, as you may …”
Somerville: DPI will become crucial as LPs struggle to evaluate true TVPI
“Showing DPI is going to become more and more important. Mostly because LPs will struggle to evaluate what true TVPI is”
Somerville: VC managers with most aggressive TVPI valuations need capital most
“And the ones that are the most aggressive in TVPI carrying value Are the ones that need the capital the most versus the ones that have been more conservative.”
Somerville: Growth Funds with Capital Are Currently Not Deploying It
“Most of what I've seen from growth funds and late stage funds, or even if they have the capital, they're not actually deploying it.”
Somerville: LP Patience Depends on Management Fees Being Charged on Invested Capital
“If it truly is on invested capital for some of these growth funds, then I think LPs are fine being patient and respecting the discipline of the manager. If it's on committed, that becomes a more problematic scenario”
Somerville: Massive venture valuation step-ups won't return near-term
“I don't think you're going to see massive upticks like we saw before where companies were raising it, you know, two X last round after six to nine months. I think we're not close to that environment nor will be in the near to medium term, but”
Somerville: Mainstream generalist growth funds are absent from crypto
“I mean, specific to the crypto side, the only potentially interesting thing there is no mainstream generalist money at the growth stage investing in that category. So the people that will be coming in and supporting those companies are the crypto native folks.”
Somerville: VC Will See More GP-Led Restructurings Through 2025
“Venture is always slower to adopt some of these structures and I think we'll see a lot more of it in the second half of this year and the following two years.”
Somerville: VC Managers Lacking DPI After Four Funds Face Organizational Risk
“I think if you wait around and have four or five funds and have returned no capital, you're actually introducing organizational risk from an LP standpoint.”
Somerville: Buying secondaries off current TVPI risks paying for overinflated valuations
“You could argue in some scenarios, if you're buying off of current TVPI, it's already overinflated, and in order to actually get to that TVPI at the end of the day, it might not make sense from a duration standpoint to even consider that.”
Somerville: Single 2021 Quarters Outpaced All 2022 VC Liquidity
“Twenty-twenty-one had quarters that exceeded all of twenty-twenty-two from a liquidity standpoint”
Somerville: Venture secondary discounts reached 12% in 2021 and 34% in 2022
“The average discount to venture ticked up as high as just 12% in 2021, so quite low overall, but if you were to fast forward that forward to 2022, it's back down at an industry level to 34%”
Somerville: LP interest secondary discounts range 30-45%, company secondaries 20-35%
“On LP interest, a lot of what we're seeing is in the 30 to 45% range. A lot of what we're seeing on the company secondaries is in, like, the 20 to 35% range.”
Somerville: Company secondary buyers lacking management relationships will get burned
“A lot of people that look at company secondaries Don't have a relationship with the management of these companies and don't get full information. So they're actually buying in a very imperfect way with not a lot of granularity on what actually the company is d…”
Somerville: Missing deep-pocketed investors increases venture down round risk
“Deep pocketed investors that actually know how to do reserve management that will be there to support the companies in the future. If you don't have that, you're going to be more susceptible to down rounds or complete wipeouts.”
Somerville: Many secondary funds rely on cold calls to former employees
“What many other direct secondary funds are doing are cold calling departed employees or reaching out to people that they know need to sell and are really relying on their own point of view of the company instead of ongoing information and monitoring.”
Somerville: LPs Face Rampant Adverse Selection in SPV Direct Investments
“That they get rampant adverse selection and oftentimes pushed into fee bearing SPVs that even further dilute their end of day return.”
Somerville: VC Funds with 3x-4x TVPI Can Accept 50% Secondary Discounts
“Now, if a fund is at a three to a four X and you're asking them to take a 50% discount, they're still going back to their board with a two X return and the ability from an opportunity cost standpoint to then deploy it. Into what we all expect to be very good v…”
Somerville: No Tech IPOs Will Occur in the Next Two Years
“Company side, people, I think, think of a little bit differently philosophically, but at the same time, they know that there's not going to be an IPO in the next two years, and A lot of those constituents are smaller, they're high net worths, they're individua…”
Somerville: Sell Secondary Stakes in 1.5-2x Assets, Hold 3-5x Growth Assets
“For me, I would look at the portfolio If there are assets that you really like, but you feel like are higher priced and offer maybe you know, one and a half to two X kind of arbitrage off of whatever last round prices, I would think about pruning some level of…”
Somerville: International and Middle East LPs Will Increasingly Fund Growth Venture
“I do. I think there will be a lot higher level of international participation and particularly in the growth funds just because on the growth side, you know, if you want to write a 50 to a hundred million dollar check, I mean, even in the early stage funds, if…”
Somerville: Emerging VC managers should avoid selling management company GP stakes
“I don't think they should take it unless that's the only option. And if it's that hard to fundraise, and they don't have, like, a natural group of family offices or high net worths to support them maybe they should wait and find a different way to generate a t…”
Somerville: LPs will demand fees on invested, not committed, growth capital
“For more branded, more established groups, I think there'll be more of a focus, particularly in the growth funds around invested capital instead of committed just because of the uncertainty of deployment and when that capital goes out the door, I think that wi…”
Somerville: Carry performance kickers in venture funds require at least 3x net returns
“I don't like when it's less than three X and people start doing, like, kickers at two X or two and a half. I mean, that's just not high enough for a venture fund. I think it really needs, at a minimum, to be a kicker of three X net, net or above”
Somerville: GP commitments should be judged on net worth percentage, not dollars
“I like to see a decent level of GP commit, but there's no reason to, like, push it to an extreme kind of percentage level, and I do think that the net worth percentage is much more important than whatever the absolute dollar value is”
Somerville: VC Asset Valuation Methodology Is Permanently Changed
“I never thought valuation policy would change as much as it did have public comp reliance option pricing modeling inserted, broad scale discretionary markdowns. I just think how people will value these assets has probably been forever changed on a go forward b…”
Somerville: Secondaries Will Be Essential for Early-Stage VC Liquidity
“And as a result of that, and as a result of the limited liquidity options, the secondary part of venture is going to be very significant for a long period of time. And I think pretty interesting and also a compliment from a duration standpoint If you're doing …”
Somerville: Generational Friction Will Cause Increased Infighting in VC Partnerships
“I think what you're gonna end up having happen is increased infighting in a lot of groups, because you have older GPs that have done very well that are staying on longer than they ever expected just because they're going to be needed to get funds raised in the…”
Somerville: Rapid 2020-2021 VC Deployments Face Multi-Vintage Returns Crisis
“You're not going to provide any vintage or diversification, and those funds will probably end up being challenged if they were concentrated in, in parts of, like, 20, 21, and you didn't smooth it out enough, and if you manage to do two or three funds within a …”
Somerville: Lateral partner hires can disrupt firm chemistry and create organizational risk
“I think on the fun side, just underestimating the human element with people that join on a lateral basis that have great pedigrees that you think will be additive, it's not always that way. You can have someone join and it completely messes up the chemistry of…”
Somerville: Picking category winners in weak sectors yields poor growth-stage returns
“You can pick a winner in a bad category, and you can still really not do well if you're entering in at a growth phase. I think we've picked some companies that have proven to be the category leader, but if it's in an area like InsureTech, or areas of PropTech,…”
Somerville: Structured equity downside protections often evaporate prior to exit
“Structure doesn't necessarily stay when a company exits. It gets negotiated out by management or the rest of the board, and so you can think that you've protected yourself with structure, and it ends up absolutely evaporating.”
Somerville: Venture capital will re-concentrate focus on the US over emerging markets
“I think it depends on the region, but yes, I think there will be more of a re-emphasis on the US but certain, certain areas like people are much more excited about India and there continues to be interest in investing there.”