Considerations in Continuation Vehicle Transactions

Continuation Vehicles

Continuation vehicles are a tool to allow a sponsor to transfer one or more portfolio assets from an existing fund to a new, sponsor‑affiliated vehicle to extend ownership and pursue additional value creation, often with a reset of economics and infusion of new capital. These transactions may create perceived or actual conflicts when sponsors benefit from renewed fees or carried interest, while existing investors must choose between selling their interests or rolling into the new structure. Continuation vehicle disputes typically focus on whether investors had a meaningful, fully informed opportunity to evaluate and approve the proposed transaction before it closes. Investor challenges may arise when the sponsor seeks to move forward with a continuation vehicle transaction on a compressed timeline or without providing investors adequate disclosure and deliberation time.

Potential Continuation Vehicle Disputes

Investor complaints related to continuation vehicles may target the sufficiency, balance, and consistency of disclosures provided to advisory bodies (such as the Limited Partner Advisory Committee (LPAC)), existing investors, and prospective continuation vehicle investors. Potential concerns may include:

• Material misstatements or omissions by the sponsor relating to valuation, asset life, and prospects for alternative liquidity events, with claims that internal or existing investor‑facing narratives were more conservative than materials shared with potential continuation vehicle investors.
• Procedural defects, such as insufficient time for review by existing investors of the proposed transaction, limited access to data, and limited or constrained opportunities for independent discussion among advisory board members or investors.
• Self‑dealing and conflicts with respect to the sponsor, including structures perceived to maximize sponsor economics (e.g., new fees or carried interest) while diminishing existing investor returns.
• Obtaining inadequate or uninformed approvals from the existing investors, including “divide‑and‑conquer” solicitation strategies and asymmetric communications that allegedly discourage collective deliberation among existing investors or the LPAC.
• Fairness opinions in respect of the asset sale that rely only on sponsor‑provided information without independent verification, raising questions about the robustness of third‑party checks on process and value.

These process‑focused allegations may accompany breach of fiduciary duty claims and assertions that the approval obtained from existing investors was not in accordance with the partnership requirements, or were the result of an inadequately informed and procedurally lacking process.

Reducing Dispute Risk

Sponsors faced with satisfying approval requirements in continuation vehicle transactions should align the process with governance documents and industry norms, focusing on full, even‑handed disclosure and ample time for evaluation. Approvals for continuation vehicle transactions are stronger when obtained through a fully informed and procedurally sound process. Conversely, selective or misleading disclosures can undermine the validity of the approvals obtained from existing investors and amplify fiduciary risk.

Ensuring equal access to material information for all relevant investors and avoiding tactics that create information asymmetry or suppress independent discussion can mitigate allegations of unfairness in both substance and appearance. Sponsors should also anticipate investor scrutiny of valuation methodologies, the presentation of alternative liquidity paths, and the neutrality and evidentiary basis of any fairness opinions. Clear documentation of inputs, assumptions, and independent checks can be critical to defending the process.

In recognition of the continuation vehicle trend and the potential for disputes arising therefrom, the Institutional Limited Partners Association (ILPA) has published guidance for investors related to the use by sponsors of continuation vehicles. ILPA sought to set forth principles to inform the process of establishing a continuation vehicle that would align the interests of the sponsor and the investors, citing many of the potential pitfalls listed above as obstacles to a satisfactory continuation vehicle transaction on all sides.

Lending Implications

Subscription-backed credit facility lenders typically rely on investor agreements to fund capital commitments without set-off, counterclaim, or defense so that any dispute between an investor and a sponsor will not impede the lender’s ability to receive capital contributions to repay the facility. Allegations of fraud, embezzlement, or misappropriation of funds by an investor—even if unproven—with respect to an investment manager or other affiliated entities can materially increase the risk that such investor may resist capital calls, a dynamic that lenders and sponsors have historically sought to mitigate through drafting and diligence. Concerns over potential disputes between investors and sponsors related to continuation vehicle transactions are likely to renew focus on whether and how subscription-backed credit facilities should treat these risks, including through tailored exclusion events. For further discussion on this type of exclusion event, please see our Legal Update, Subscription Finance: Fraud as an Exclusion Event.

As continuation vehicles become more common, lending to such vehicles will also expand. The process of establishing such continuation vehicles and obtaining related existing investor consents may become a point of focus for lenders. Lenders may inquire about the investor consent process for asset transfers to sponsor-affiliated vehicles in hopes of avoiding claims that challenge the establishment of the continuation vehicle and the related transfer of assets. Allegations against a sponsor with respect to establishing a continuation vehicle may potentially impact lenders making loans not just to the continuation vehicle, but also to the funds that sold the applicable assets. Lenders may seek to gain increased visibility into key disclosures, approval mechanics, and any advisory board or investor‑level processes with respect to the establishment of a continuation vehicle due to the potential impacts on either side of the sale.

Key Takeaways for Fund Finance

• Sponsors should obtain approval for conflicted transactions, particularly those involving continuation vehicles, through a fully informed and procedurally sound process. Selective or misleading disclosures undermine the validity of such approvals and may expose sponsors to claims for breach of fiduciary duty.
• Sponsors should ensure equal access to material information for all relevant investors and avoid tactics that discourage independent discussion or create information asymmetry both between and among existing investors and new potential investors.
• Lenders to funds (including continuation vehicles) will increasingly focus on the process of obtaining investor consent to sales of assets to continuation vehicles.
• Events of Default and Exclusion Events related to investor allegations of fraud or breach of fiduciary duty against a sponsor will have a renewed focus in subscription-backed credit facilities.