In a typical bull market, private equity sponsors exit out of portfolio assets through IPOs, strategic sales and sponsor-to-sponsor buyouts. But the 2025 deal market has proven to be neither typical nor robust. Amid tariff uncertainty, higher-than-hoped for interest rates and volatile equity markets, traditional PE exits have slowed to a crawl in 2025.
Against this backdrop, continuation funds have emerged as a crucial alternative for sponsors looking to generate liquidity for their limited partners while preserving exposure to assets they believe have further room to grow. The recent $3 billion continuation vehicle involving New Mountain Capital and Real Chemistry is a striking example. It also serves as a reminder that the legal structuring of continuation funds must be airtight, particularly when market conditions put increased emphasis on conflicts and valuations.
What is a Continuation Fund?
A continuation fund is a GP-led secondary transaction in which a sponsor approaching the expiration of a fund sells one or more portfolio companies from the expiring fund into a new vehicle that it continues to manage. The original LPs are given a choice: cash out their position for immediate liquidity, often at a premium to the last valuation; or roll over their interests into the new vehicle, keeping exposure to the underlying asset.
In today's environment, these vehicles offer GPs a way to hold trophy assets longer and avoid selling at a discount in a weak M&A market.
Case Study: New Mountain Capital and Real Chemistry
Earlier this year, New Mountain Capital closed a single-asset continuation fund to extend its ownership of Real Chemistry, a growing healthcare innovation company that uses AI-powered marketing, analytics and communications for the life sciences and healthcare sectors. The deal raised $3 billion and is reportedly the largest single-asset continuation fund ever.
Real Chemistry's earnings had grown more than six-fold during New Mountain's ownership; but with strategic buyers reluctant to pay premiums in the current uncertain markets and IPO markets effectively shut, a conventional exit out of Real Chemistry would likely have left too much value on the table for New Mountain.
Instead, New Mountain offered its fund investors the option to cash out, and roughly 80% chose to sell for an estimated 4× return. The remainder rolled over into the new vehicle. This left New Mountain a good deal of dry powder to pursue bolt-on acquisitions to grow Real Chemistry and an opportunity to keep building value in a holding that might otherwise have faced a forced sale at an inopportune time.
Key Legal Issues Heightened by a Downturn
A GP's fiduciary duties are always an issue, but prices set in a robust deal market can validate fair value. In a slower exit environment, however, the risk of perceived conflicts and valuation disputes intensifies. That's why the legal structure behind a continuation fund needs to address these pitfalls head-on.
Conflicts of Interest
Continuation funds inherently pose conflicts because the GP is effectively both a buyer and seller in the same transaction. Furthermore, in a weak market, a GP might be motivated to offload assets from an older fund at an artificially low price to a new fund it controls, only to capture further upside in that new vehicle. Ways to mitigate this risk include full disclosure to LPs, running a competitive process with multiple secondary buyers, independent fairness opinions and approval by an LP Advisory Committee or a majority of non-conflicted LPs.
Pricing and Valuation
When IPO windows are closed and strategics are hesitant to acquire, arriving at a fair market value is challenging. Under these conditions, independent third-party valuations and fairness opinions become critical. Not only do these protect the GP from potential disputes, they give LPs confidence that they are not leaving money on the table in a distressed exit market.
Process Transparency
Particularly when the broader exit market is slow, sponsors should give LPs a clear explanation of why a continuation fund is the best alternative to a traditional sale. The offering documents should disclose why the asset is worth holding longer, what exit alternatives were considered and rejected and what governance and roll-over options are available.
Key Takeaway
As more PE funds explore continuation fund strategies in a sluggish deal environment, lawyers advising GPs or LPs should ensure that conflicts are managed rigorously, pricing holds up under scrutiny and all stakeholders feel they have a genuine choice.
The content of this article is intended to provide a general guide to the subject matter. Specialist advice should be sought about your specific circumstances.
