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This Article provides the first comprehensive examination of an emerging practice within the private equity sector—continuation funds. Continuation funds break from the traditional private equity model by allowing sponsors to hold on to assets beyond the typical fund term and, instead of selling the assets to third parties, sell them to their own newly established fund. Lauded by the private equity industry as providing “optionality” to investors, by allowing them to cash out or roll over, continuation funds have grown to represent a major segment of investment activity in the United States. Despite their surging popularity among private equity sponsors, they are subject to unusual investor resistance, and, puzzlingly, most existing investors in the original funds decline the option to roll over their stakes into a continuation fund, even though it is run by the same private equity firm with which they have cultivated relationships for years.

This Article addresses this puzzle and makes three contributions to the literature. First, we highlight the labyrinth of concerns that cast a shadow on the growing prevalence of continuation funds. Specifically, we show why the “house always wins” is a major part of private equity managers’ incentives and explore the web of conflicts of interest between sponsors and investors and among investors themselves. Second, employing in-depth interviews with market participants from both sides of the aisle––investors and sponsors¬––we examine the practical dynamics of continuation funds, exploring the cautionary tale they present to the conventional deference of law and economic theory to private contracting among sophisticated parties. Third, we present two alternative viewpoints regarding continuation funds: the market outcome view and the market failure view, and against this backdrop, we offer several policy recommendations that are particularly timely in light of the SEC’s recently adopted rules addressing the issue.

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