What are the fundamentals supporting growth of private equity in the region?
The positive factors supporting the Asian growth story include decreasing dependence on the US and Europe due to the growing, and now much larger, domestic markets; increasing intra-Asian trade; ongoing urbanisation; and the emergence of a sizeable middle class with rising consumer purchasing power.
For example, in 2005 China’s middle class accounted for less than 10% of its consumers, yet by 2025 it is predicted to account for around 60%. In India, approximately 30% of the population currently resides in the urban centres of the country, and the figure will only continue to head upwards.
Although Asian equity markets are now trading at slightly premium levels relative to the US and Europe given the strong foreign capital inflows into the region in recent months, Asia is still at fair value when compared to historic levels. In addition, the superior economic growth and attractive return potential in Asia remains appealing to investors. As of October 2010, the average 2010 P/E multiple for Asia (ex-Japan) firms stood at 14.5 times -- compared to 14.3 times for the US and 12.2 times for Europe.
At the same time, corporate governance and transparency has also improved. Therefore, most Asian economies are now more stable, both economically and politically, providing favourable investment grounds, particularly for illiquid asset classes such as private equity.
You are saying private equity is poised to make a comeback...?
Despite a huge drop in global private equity investments during the 2008 financial crisis, Asian private equity investment activity was significantly less impacted on a relative basis and the 2009 levels in Asia were still at levels seen in 2005/2006.
The increasing amount of private equity transactions and, more importantly, successful and profitable exits have also increased the credibility of private equity firms as “value added” partners. In addition to the strong deal flow in the region, there is a moderate level of competition for deals resulting from a lack of alternative sources of financing. Many of the small and medium-sized enterprises in Asia are privately owned and lack access to banks or corporate bond financing. Public equity and debt capital markets are not yet as developed as in Western economies and private equity is therefore emerging as an attractive alternative funding source. This provides opportunities for funds to invest in these growing and small and medium enterprises in Asia.
In addition, Asian markets remain under-penetrated in terms of private equity investments when compared to the US or Europe. According to Dealogic, Asia private equity investments in 2009 were $44 billion, yet, the private equity penetration as a percentage of GDP still needs to grow by six times in India and 7.5 times in China in order to reach the same level of penetration as in the US.
Overall, the public markets have been an increasingly important exit route during the past five years and trade sale activity has also been improving. We expect that private equity funds will continue to see a favourable exit environment going forward as the Asian (ex-Japan) stock markets have increased in importance and efficiency on a relative basis. On the other hand, we are likely to see increased interest for strategic assets in the region.
That should be flagging the attention of investors...
Asian private equity has started to gain increasing credibility and acceptance from investors, not only locally but also globally, with its more favourable market dynamics relative to the US and Europe. As a result, international investors are now turning to the growth potential for private equity in Asia and are becoming more active in this part of the world. Increasing numbers of international institutional investors have been establishing regional investment offices in Asia, and this trend is set to continue as investors look to increase their portfolio exposure to the region.
In which regional markets do you see the greatest growth potential for this asset class?
China has shown positive private equity dynamics during the past few years, as fundraising from Chinese private equity funds increased six-fold from 2005 to 2008. 2009 was slightly softer but fundraising growth has returned in the past 12 months.
Private equity penetration in the Greater China region is still relatively low compared to the US and Europe. But there is clearly increasing acceptance for private equity as market participants are not only supplying capital, but also added value and expertise. More importantly, during the past few years, there has been an increasing number of successful exits by select private equity funds, which have strongly supported the case for private equity in China. We expect this trend to continue given the support from a maturing regulatory environment and private markets. In addition, late last year, the State Council in China passed legislation allowing foreign firms to raise renminbi funds and since then, 17 global institutions have registered to do so.
Private equity in India has also seen great growth in the past decade, bolstered by the market entrance of global private equity firms and the strong economic growth. Private equity penetration in India is also relatively low compared to the US and Europe but was slightly higher than in China in 2009. There is generally wider participation across sectors with most transactions being minority growth capital investments. With the integration of Indian companies into the world economy, there is a strong drive for privately-held businesses to unlock value and bring better business focus. As such, large Indian promoters have started to actively participate in the domestic private equity markets. Many of the large domestic corporate names, such as Reliance and Tata, have established funds with teams focusing on private markets. With the increasing number and visibility of private equity exits, there is a clear indication of an increased maturity of the Indian private equity market.
Certainly, risks still exist when one considers investing into private equity in Asia. Private equity in Asia, however, has never been as compelling as now. China and India particularly remain two of the most attractive emerging markets for this asset class. Based on the arguments that I have outlined, investing in a high-growth environment is certainly key to achieving an outstanding performance, and emerging Asia is where economic fundamentals look the strongest.
