Investing in Tax Receivable Agreements
- Sep 14, 2023
In this episode of Engaging Alternatives Spotlight, Elana Margulies-Snyderman, Director, Publications, EisnerAmper, speaks with Alex Orn, Principal, Parallaxes Capital, an alternative investment manager focused on tax receivable agreements. Alex shares his outlook for investing in tax receivable agreements, including the greatest opportunities and challenges and more.
Hello, and welcome to the EisnerAmper Podcast series. I'm your host, Elana Margulies-Snyderman, and with me today is Alex Orn, principal at Parallaxes Capital, an alternative investment manager focused on tax receivable agreements. Today, Alex will share with us his outlook for investing in tax receivable agreements, including the greatest opportunities, challenges, and more. Hi, Alex. Thank you so much for being with me today.
Thanks for having me.
Absolutely, Alex. So to kick off the conversation, tell us a little about the firm and how you got to where you are today.
Yeah, happy to. So Parallaxes Capital, we are an investment manager focused on corporate tax as an asset class, and yeah, it's tax, not tech, so not the sexiest asset class out there, but it's cliche. There's only two things that are unavoidable in life, and that's death in taxes. Thankfully, we're only operating in the latter. Parallaxes Capital, we were founded in 2017. We have 300 million under management and we have acquired nearly one billion in total tax receivables since inception. We offer our investors an uncorrelated cash yielding return and probably one the few, if not only strategies will benefit from an increase in tax rates.
I think first things first, what is a tax receivable agreement or TRA? At its core, it's just a long-dated cashflow stream. A great parallel is either farmer royalties or music royalties. The only thing is there's significantly more competition for Taylor Swift's music catalog versus our TRAs. We are primarily transacting with private equity firms, individuals, founders and management team members of publicly traded companies. All we're doing is just providing upfront cash in exchange for this long-dated cashflow. And while not many people know of TRAs, TRAs are created in approximately 10% of IPOs, and companies that you know, GoDaddy, Rocket Mortgage, Shake Shack, Planet Fitness. So a number of names that you're familiar with, you just didn't know they had a TRA. I think we're first move this space, we're really excited about that opportunity.
Great, Alex. And what is your overall outlook for the space? Love to hear your thoughts.
Yeah, so we think we're in the early inex. We think the asset will continue to grow and continue to see increased adoption from private equity firms. Over the last five years, the asset class has grown from 8 billion to 30 billion, and we think it's only just beginning. Private equity is extremely competitive today and will only get more competitive. I think Bain Capital released a study saying there's 3.7 trillion in private equity, dry powder. That's an astounding number. That amount of dry powder, the current interest rate environment, it's only going to get tougher for private equity firms to generate the returns. We think private equity will put a larger focus on optimizing the value of their tax assets in their portfolio companies, and that's where TRAs or some of these tax assets come into play.
If you think about just the evolution of private equity, there's been a variety of different ways or strategies that these firms have used to generate value, whether it be leverage, operating advisors, proprietary sourcing, these days' data and technology. We think tax is an untapped frontier for investment firms. Similar to, I would say, transactional liability, reps and warranties were unheard of back in 2000. Today, given all the M&A activity, it's hard to find a M&A transaction without a rapid warranty policy. And we think the tax, there's always an element regardless of the M&A transaction, we think it'll also become a lot more standardized and popular.
Alex, very interesting strategy. What are some of the challenges that you face in this space?
Yeah, we're basically creating a market from scratch. So there's been a ton of challenges, almost too millions to count, but that's both the opportunity and what's really exciting and also really scary at the same time. We are literally taking something from zero to one, but thankfully, since inception, these have gotten a lot easier. I think our main focus are two things. One, building awareness, and two, building credibility. First, we are dealing with very sophisticated counterparties. We're dealing with private equity firms, venture capital firms, founders of publicly traded companies, but even though they're sophisticated, they don't have the domain expertise with respect to tax. An accountant or a lawyer told them, "Hey, you need to create this agreement." But in reality, they don't know what it is, they don't know the mechanics, they certainly don't know the value.
I remember one story where we talked to a VC firm, a very well-known firm, and they were basically arguing with us, saying, "We don't own this asset. This is a waste of time." Thankfully, everything's publicly filed. So with a couple of clicks, we were able to kind of show them, "Hey, oh, by the way, you do own the TRA, and not only that, it's worth upwards to 50 to $100 million." So that really kind of changed the tone of the conversation.
Second, it's about building credibility. We are the first move in the space. I think we're trying to develop a reputation as a transparent, easy to work with counterparty that offers speed and certainty, and that's been crawl, walk, run and then the first couple of deals. What is this asset? Have you ever done any of these deals? But thankfully, we started to build a reputation as kind of the go-to partner. We've done 50-plus transactions and deployed over $300 million to the opportunity.
Alex, on the other hand, what have been some of the greatest opportunities you've seen in your space?
So, I think the opportunity is the word tax. It's misunderstood, it's complex, and ultimately people just don't want to deal with it. So that's a part of the opportunity just in the industry. Anytime you just mention tax, it has a negative connotation. With respect to our asset, TRAs, we're a long-dated cashflow. We're typically non-core, we're complex, and for our counterparties, it's almost easier for them to sell. We're dealing with private equity firms. They have finite funnel lives that can't hold on to 15-year receivables, or we're dealing with individuals that don't look 15 years out. Current market environment, maybe they're looking for liquidity or they just want to clean up their assets and they're looking to sell. And so I think for us as Parallaxes, we need to focus on finding the right opportunities at the right price. And thankfully, so far, knock on wood, we haven't seen any impairments or any losses.
Alex, we've covered a lot of ground today, and wanted to see if there are any final thoughts you'd like to share with us.
Yes. Ultimately, we want to be the premier firm in this space. I think we have a good headstart, but there's certainly going to be more competition over the next five to 10 years. Ultimately, as we think this industry will grow and continue to grow significantly, there will be an advantage to be the first to scale. Royalty Pharma is the 800-pound gorilla in the pharmaceutical royalty market. They are our North Star. They own 70% market share, have built a $15 billion business, oh, by the way, with 40 professionals. I think that is the goal. That said, we have a long way to go, but I'm very excited about the journey ahead of us.
Alex, I want to thank you so much for sharing your perspective with our listeners.
Yeah, thank you for having me.
And thank you for listening to the EisnerAmper Podcast series. Visit eisneramper.com for more information on this and a host of other topics. And join us for our next EisnerAmper Podcast, when we get down to business.
Transcribed by Rev.com
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Elana Margulies-Snyderman is an investment industry reporter and writer who develops articles, opinion pieces and original research designed to help illuminate the most challenging issues confronting fund managers and executives.
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