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ASIAN VENTURE CAPITAL JOURNAL

PRIVATE EQUITY ASIA

M&A ASIA

Asia’s Private Equity News Source avcj.com September 11 2012 Volume 25 Number 34

FocusFunds

Exclusivity mattersHow to access quality deal flow in Asia’s nascent secondaries market Page 7

Cult of personalityAsian celebrities catch on to the PE craze 4

China property playCentury Bridge closes fund at $170m Page 11

Chinese courts plunge down-side protection tools into uncertainty

Page 10

Allstate uses fund-of-funds to get a first taste of Asian private equity

Page 15

Is Korea’s buyout market open for business again?

Page 3

Blackstone, Carlyle, CICC, CLSA, CVC, GIC, Goldman, IFC, Kaiwu, Kaizen, RRJ, Nexus, Northstar, Warburg Pincus

Page 4

Focus

Editor’s ViEwpoint

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Lp intErViEw

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AVCJ Private Equity & Venture Forum 2012

Hong Kong13 - 16 November 2012avcjforum.com

AVCJ Private Equity & Venture Forum 2012

Cathay Capital scores Sino-French mandate

Page 11

Funds

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Despite a few issues, sOutH KOrea Has always been a favored market for Asian private equity investors. That is hardly surprising as the many of the best performing transactions in the history of the asset class in Asia have come out of Korea. It could be argued that the restructuring deals triggered by the Asian financial crisis – Good Morning Securities, Korea First Bank, and so on – transformed private equity in the region.

This period was followed by a spate of buyouts PE investors helped Korean companies grow in a meaningful way. Deals representative of this stage included Hi-Mart and Faceshop, both of which were exited to strategics for great returns.

Around 2006, however, the country began to lose its international luster. Local conglomerates began to embrace the private equity funds (PEFS) structure and PE investment became a largely local affair, with the 2009 buyout of Oriental Breweries by KKR and Affinity Equity Partners one of few exceptions.

As documented in AVCJ, we are now seeing another wave of deals, which suggest that South Korea is coming back as a market for international private equity investors. Certainly, on my recent visit to Seoul there was a distinct feeling of optimism among both GPs and LPs.

There are several reasons why more than $4.5 billion has been racked up in private equity investment so far this year. Yes, chaebols, particularly the smaller ones, are more willing to do business with private equity. In fact, one fund manager went as far as saying that many executives at second- and third-tier conglomerates are beginning to see PE as a solution to their liquidity problems.

Another key factor is the wider availability of financing from Korean banks. Local lenders are hungry for deals and will go as far as investing into PEFs to help them secure business for their project finance divisions. Most of the recent large transactions were executed by firms that are either local or have been doing business in Korea for some time.

Finally – and, in the long term, perhaps most significant – South Korea’s renewed vibrancy is a function of the fact that the country is now part of the mainstream fundraising circuit. The National Pension System (NPS) remains the biggest LP but there are others like Korea

Post and Military Pension that are becoming increasingly influential. Of course, there is also Korea Investment Corporation (KIC), but it’s overseas-only mandate means it is off limits to the domestic GPs.

That’s only the tip of the iceberg, according to local GPs I met. Financial institutions are becoming active. In addition to the local banks, insurance companies are searching for alpha with private equity funds. It is no wonder that gatekeepers and fund-of-funds have been aggressive in this area. I’m told that virtually all Asia-focused fund-of-funds are now hiring or have already recruited Korean professionals to help with market access.

LP support of Korean funds also goes down to the venture capital level. The Korea Venture Investment Corporation, the government backed fund-of-funds that targets local VCs, has invested in more than 230 funds managed by 70 GPs. As a result, Korea has become the third largest market globally for venture investment after China and the USA.

While most of the Korean GPs I spoke to remain modest, all are quietly confident about the future of the asset class in the land of the morning calm. Only time can tell if South Korea will once again be a sweet spot for buyouts, but its chances seem better than many other Asian countries.

Allen LeePublisherAsian Venture Capital Journal

Korea reduxManaging Editor

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avcj.com | September 11 2012 | Volume 25 | Number 344

ASIA PACIFIC

MGPA announces first close on Asia real estate fundMGPA has held a first close on a EUR500 million ($639 million) Asia property fund targeting German investors. The vehicle has so far received EUR85 million from three German institutions. The fund - MGPA Asien Spezialfonds - is regulated under German investment laws and is primarily designed for institutional investors in German-speaking countries seeking exposure to Asian real estate markets.

AUSTRALASIA

Rival PE firm matches TPG’s $709m Billabong offerA rival PE firm – reportedly Bain Capital – has offered to match TPG Capital’s A$694 million ($709 million) buyout bid for Australian surfwear company Billabong International. The Billabong board maintains that neither offer reflects the fundamental value of the business in the context of a change of control transaction.

Lazard extends Australia corporate advisory reachLazard Australia has agreed to purchase independent corporate advisory firm O’Sullivan Partners. The Sydney-based player is an acknowledged media specialist and can also claim to have won several notable private equity mandates, including three from KKR. Tony O’Sullivan, founder and managing partner of O’Sullivan Partners, will become head of Lazard’s Sydney investment banking team.

Blackstone appoints Carnegie as senior advisorThe Blackstone Group has appointed James Carnegie as a senior advisor based in Sydney, where he will focus primarily on developing the firm’s private equity activity in Australia. He previously spent seven years at Archer Capital, leaving the local GP in mid-2011, and before that worked at Macquarie Capital.

General Catalyst invests $20m in BigcommerceAustralian e-commerce start-up Bigcommerce has won $20 million in Series B funding from General Catalyst Partners. The US venture capital

firm previously invested $15 million just over a year ago. The company plans to use the funding to nearly quadruple its headcount to 400 employees by the end of 2013.

Goldman tables Nine debt proposal Goldman Sachs has reportedly put together a restructuring proposal for Nine Entertainment that would see the Australian company’s A$3.8 billion ($3.9 billion) in debt convert to equity, writing off the vast majority of CVC Capital Partners’ investment. Earlier last week, Nine Entertainment also sold its ACP Magazines division to Bauer for A$500 million.

GREATER CHINA

Kaiwu Capital to raise $150m maiden fundKaiwu Capital, a China-based early-stage venture capital firm, is raising its maiden fund with a target size of $150 million. Last November, Shanghai Venture Capital, a government-backed

fund-of-funds, confirmed it will invest in Kaiwu’s new vehicle.

Qualcomm backs Dolphin Browser Series B roundQualcomm’s VC arm has participated in the Series B funding round of Dolphin Browser, a Chinese-made mobile browser. In 2007, Sequoia Capital and Matrix Partners China jointly contributed $10 million to a Series A round of funding.

RRJ Capital invests $50m in Chinese biotech firm RRJ Capital has injected $50 million in Chinese biotech company Triplex Biosciences, taking an 11-19% stake in the company. The Xiamen-based company manufactures products used to detect and diagnose hepatitis B and C and certain cancers from blood and tissue samples.

CICC PE’s assets under management reach $2.4bThe private equity arm of China International Capital Corporation (CICC) has seen its assets under management soar to in excess of RMB15 billion ($2.4 billion). These funds include capital within the CICC Jiatai Industry Integration Fund, the bank’s debut renminbi-denominated vehicle, which was established in May last year with a target size of RMB5 billion.

China, Russia sovereign funds back forestry firmChina and Russia’s sovereign wealth funds will invest $200 million for a minority stake in Russia Forest Products. This will be the first investment channeled through the Russia-China Investment Fund, a joint private-equity fund established by China Investment Corporation (CIC) and the Russian Direct Investment Fund (RDIF).

Carlyle-backed China Pacific taps sovereign fundsChina Pacific Insurance, a portfolio company of The Carlyle Group, has sold HK$10.4 billion ($1.3 billion) in new shares to Government of Singapore Investment Corp. (GIC), Norges Bank and Abu Dhabi Investment Authority (ADIA). The 462 million H-shares were sold through a private placement.

China investment in Europe surges in second quarterChina’s outbound direct investment reached $24

Nexus closes third India fund at $270mNexus Venture Partners has announced a final close for its third fund at $270 million, around $50 million more than for its previous vehicle. Investors include endowments, foundations and financial institutions across North America, Europe and Asia. All major LPs in prior funds participated in Nexus India Capital III.

Naren Gupta, Nexus’ co-founder, told media that the fundraising took a “couple of months”. The first US Securities and Exchange Commission (SEC) filing for the vehicle was made in late November 2011 and sources previously told AVCJ that the process was completed as early as March. The third fund will follow the investment strategy of its predecessors.

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billion in the second quarter of 2012, up 67% year-on-year, according to a research published by Sino-European private equity firm A Capital. Investment in Europe – which accounts for 48% of total deals by value – surged 95%.

NORTH ASIA

Advantage Partners poised for Rex Holdings exitAdvantage Partners is preparing to exit a 66% holding in Japanese restaurant operator Rex Holdings to Colowide. Local media said the transaction, worth JPY13.7 billion ($175 million), would close as early as October. Advantage completed a management buyout of Rex in late 2006, paying JPY45.72 billion (then $396 million).

SOUTH ASIA

Global Environment hires Sridhar Narayan for India Global Environment Fund (GEF), a private equity firm that targets energy, resources and environment-related assets, has appointed Sridhar Narayan as a principal within its India team. Based in Mumbai, Narayan will help execute GEF’s private equity investment program in India and South Asia.

NVP backs healthcare clinics with $4.5mNorwest Venture Partners (NVP) has invested INR250 million ($4.5 million) in NationWide Primary Healthcare Services, an Indian retail chain of primary care clinics. Bangalore-based NationWide, which was established in 2010, will use much of the fresh capital expand its operations and set up 120 new clinics over the next 18 months.

Kaizen commits $4.5m to school management firmKaizen Private Equity has invested INR250 million ($4.5 million) for a minority stake in Altus Learning, an Indian school management firm. The funding will be used to help the Gujarat-based operator expand in northern India.

IFC, Mount Kellett back Jain Irrigation SystemsInternational Finance Corporation (IFC) and Mount Kellett Capital Management are part of

a group that has agreed to invest around $200 million in India’s Jain Irrigation Systems. The company, which manufactures drip and sprinkler systems as well as agro-processed products, will use the funds to strengthen its balance sheet and reduce interest costs.

Non-profit VC firm hires Navis director Sachindra Rudra, former director of India operations at Navis Capital, has joined Acumen Fund, a non-profit global venture firm addressing poverty across Africa and South Asia, as the new country director. He replaces Ankur Shah, the interim country director who will maintain his existing role as head of the Education Portfolio.

CLSA Capital Partners invests in Earth WaterCLSA Capital Partners (CLSA CP) has invested $15 million for a 20% stake in New Delhi-based Earth Water Group, a water and wastewater management company. The investment will be used to support existing core businesses and future acquisition plans. As part of the transaction, Sanjeev Krishnan, a director at CLSA CP, will join the company’s board.

YES Bank’s Ghosh to join Motilal Oswal PE as co-CEOSomak Ghosh, Group President of Developing Banking at YES Bank, has reportedly left the company to join Motilal Oswal Private Equity Advisors, the private investment arm of Motilal Oswal Securities, as co-chief executive. YES Bank confirmed the departure.

IFC confirms $20m India energy fund commitmentInternational Finance Corporation (IFC) has confirmed its $20 million investment in Nereus India Alternative Energy Fund, a vehicle focused on renewable power generation and clean technologies. The cleantech fund was launched earlier this year, targeting $250 million to invest $15-25 million in 7-10 projects.

Warburg gets FIPB approval for Future Capital dealWarburg Pincus has won approval from India’s Foreign Investment Promotion Board (FIPB) for an INR8.08 billion ($145 million) investment in non-bank finance company (NBFC) Future Capital Holdings. Cloverdell Investment - an affiliate of the private equity firm - agreed to buy a 53.67% stake in Future Capital in June for about INR5.63 billion ($102 million). It would then have to make an open offer for a further 26% of the company.

IFC considers loan for wind power portfolio companyInternational Finance Corporation (IFC) may provide a $19 million loan to India’s NSL Group to support the development of a wind farm in the western state of Maharashtra. IFC already holds a 9.3% stake in the NSL subsidiary responsible for the project – NSL Renewable Power Private – while private equity firm FE Clean Energy owns another 17.4%.

SOUTHEAST ASIA

Northstar, GIC in $200m Indonesian oil dealNorthstar Pacific Partners and Government of Singapore Investment Corporate (GIC) have reportedly invested $200 million in Triputra Agro Persada, an Indonesia oil producer. The pair have acquired a minority stake through a combination of equity and convertible bonds, and they have the right to inject a further $50 million into the company.

PE group invests $150m in Zhaoheng HydropowerMorgan Stanley Infrastructure Partners, Fountainvest Partners and Olympus Capital have together invested $150 million in Shenzhen-based Zhaoheng Hydropower, matching a commitment they made two years ago. The total consideration is said to be the largest investment ever made in China’s renewable sector by a foreign group.

Olympus is the leading outside shareholder in the company and made the largest contribution to the most recent round of funding based on existing ownership percentages. According to AVCJ Research, Olympus previously invested $47.5 million in Zhaoheng.

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coVEr [email protected]

tHe secONDaries marKet is aLmOst guaranteed to spike in times of uncertainty. When the global financial crisis left LPs grappling with the denominator effect as plummeting public market valuations pushed the alternatives share of their portfolios past permitted levels, sale signs went up. It wasn’t the first time – a similar scenario played out after the tech bubble burst, for example.

Navis Capital Partners was deploying its debut fund during this period. The managers ended up buying back about 15% of the corpus from investors that wanted out and, although it turned out to be a lucrative move, there is little expectation of a repeat performance. At $1.1 billion, Navis’ most recent fund – its sixth – is more than 15 times larger than the debut vehicle. Putting together the financing for an average size LP stake would be a considerable undertaking.

“We wouldn’t do that and we haven’t had to do it for a number of years because there hasn’t been the turnover one might have expected post-Lehman,” says Nick Bloy, co-managing partner at the Asia-focused GP.

“Also, the whole process has become a lot more professional, with large intermediaries and advisors. I’m always getting calls asking if there are any positions available while existing LPs occasionally test values in the market, so you frequently have advisors calling up to ask about the portfolio.”

Although there has been progress, Asia remains a mixed bag as far as secondaries are concerned. Campbell Lutyens expects global transaction volume to hit a record high of $30 billion in 2012, but it remains driven by large deals out of Europe and the US. Most of the global intermediaries and secondary specialists are still relatively new to the region, which contributes to a fragmented market.

As for the GPs, their experience with such transactions ranges from comprehensive to non-existent – and this has an impact on how potential buyers present themselves.

“The size and resources of the GP is always an issue,” says Chin Chin Teoh, head of Asia at Greenpark Capital. “Larger international brand names have seen these transactions before and with larger funds, they tend to be more cookie-cutter type transactions. Smaller regional funds,

particularly those without dedicated IR teams and where the CFO hasn’t dealt with secondaries before, tend to be more unfamiliar.”

Difficult can manifest itself in several ways. The level of sophistication within individual GPs varies based on the managers’ backgrounds, rather than geography. However, industry participants note that countries in which primary due diligence is a challenge – China, for example – are equally problematic on the secondary side. There is a marked difference between the quality of information delivered by a GP that wants to engage compared to one that does not.

Another consideration is that the GP must usually sign off on the transfer of an LP interest. If they aren’t comfortable, they might procrastinate or simply deny approval. Education is critical when it comes to persuading a less experienced fund manager of the benefits of change.

“It reminds me of dealing with managers – especially VC managers – in the US in the

early 2000s” says Adam Howarth, a senior vice president with Partners Group’s private equity secondaries division in Singapore. “It was a new process to them at the time but through a little bit of education they quickly realized the value of recalibrating their investor base. Once we have these conversations with them the GPs get on board with allowing the transfer pretty quickly.”

Right of vetoNavis’ Bloy recalls refusing to the transfer of an LP interest for three reasons: he didn’t know the buyer directly, didn’t particularly like their reputation, and didn’t want them as an investor. This conclusion was reached in the context of balancing the interests of the GP (reputational risk, potential for distraction from core duties) and those of the existing LPs (the impact of introducing a new party with potentially a different agenda).

On a broader level, fund managers may have

Access all areas?With sophisticated regional players at one end and smaller novices at the other, navigating Asia’s nascent secondaries market requires patience, teaching skills and reliable information channels

pan-regionals: easy exit The likes of The Carlyle Group, KKR and TPG Capital are equally adept at handling secondary

trades for their Asia funds as for their flagship buyout vehicles run out of the US. Indeed, in many cases there are similarities between the investor bases for these vehicles.

“With the big pan-regional funds, where there are 100-plus LPs, all of them well-known names,” says Tim Flower, a principal at HarbourVest Partners in Hong Kong. “The GPs generally want the buyer to be an existing investor and investor that will consider their next fund. They have big investor relations teams that can deal with secondary inquiries.”

Carlyle has now taken things a step further. It was reported earlier this year that the GP had attached a liquidity mechanism to Carlyle Partners VI, its latest $10 billion global buyout vehicle that is currently being raised, to facilitate the exit of LPs. Twice a year investors will have the opportunity to sell their positions to a group of secondaries players, including Goldman Sachs, Credit Suisse, Coller Capital, Landmark Partners and Partners Group.

Market sources tell AVCJ that a similar mechanism has been included in Carlyle Asia Partners IV, which is said to be targeting $3.5 billion. Much like the global fund, about half a dozen LPs have agreed to act as liquidity providers, although it is unclear whether the mechanism will operate on the same twice-yearly basis.

The general aim is to assuage investors’ concerns about entering an illiquid asset class during a time of market volatility. By keeping the process internal, it also removes the time lag, bureaucracy and fees that are features of an intermediated auction.

“They have done it in other parts of the world, but this is the first time in Asia,” says one source familiar with the situation. “It works better with a large diversified LP base. Many LPs see it as a value-added service, even though they don’t invest in the fund with the idea of getting out early.”


obligations to existing investors – in some cases limited partner agreements award right of first refusal to another party should secondary stakes become available – or they just want to play favorites. A GP would much rather do business with an LP that is friendly, and most likely an existing investor in the fund, than a group they don’t know at all.

The other issue is fundraising. According to AVCJ Research, private equity firms attracted $22.3 billion in capital commitments during the first half of 2012, the lowest level since 2009. Fewer than 100 funds achieved a close compared to nearly 400 in 2011 as a whole. In the likes of South Korea, Japan and Australia, GPs are reaching out to foreign investors for the first time as domestic LPs withdraw from the asset class.

In the current climate, an institution that wants to forge a long-term relationship with a PE firm and participate in future funds is worth its weight in gold. This appears to offer an edge to the likes of Partners Group, HarbourVest Partners, Pantheon and LGT Capital Partners – that offer secondaries as part of a package that includes primary fund-of-funds commitments

– over secondary specialists such as Greenpark, Lexington Partners, Coller Capital and Paul Capital.

“It has to been helpful to have a diverse platform in Asia,” says Tim Flower, a principal with HarbourVest in Hong Kong. “On some deals, our team has been more attractive and displaced secondary-only players because we have a primaries platform. In other cases, GPs have refused consent because they didn’t want a secondaries specialist and then called up us.”

A number of secondaries specialists have for some years included pockets in their main funds for primary investments. It is not unusual for these players to appear on the LP roster for an Asian GP with a commitment of around $5 million to a $2 billion vehicle.

Building a relationship with the private equity firm isn’t the only consideration. Serving as an LP means the secondary investor receives the quarterly reports and can attend the annual general meeting. These sources of information are vital when valuing the portfolio if LP interests subsequently come to market, although it’s unclear how large a primary stake is required to get a GP’s full attention.

Greenpark, however, retains a particular focus

in emerging markets: LP interests in mid-size funds. Teoh argues that it is important to convey a consistent approach to investors, noting that different segments of the asset class involve different risk-return profiles. She also has a different take on GPs targeting fund-of-fund LPs with a view to securing primary commitments.

“Attitudes may be different but dealing with a fund that has a lot of primary money and a smaller pocket of secondary money can make it harder to access LPs further up the chain,” Teoh says.

“We are very interested in introducing GPs to our LPs because we don’t see a conflict. Fund-of-funds can be more defensive with these relationships because they don’t want to be dis-intermediated.”

Best way in?In assessing the merits of secondary strategies, deal access is a critical issue. If an LP is selling 50 positions in funds around the world and an Asian GP is just one of them, the first they might hear of it is when the intermediary running the auction gets in touch to say that a group of potential

investors wants to conduct a due diligence call. In some cases, GPs are asked to provide pre-approval lists of LPs with whom they are willing to do business.

There are a handful of large buyout funds with broad LP bases – large European and North American institutions that often use the secondary market – that are routinely available to buy and pricing is easy because they are so widely known. The group includes TPG Asia V, KKR Asian Fund, CVC Capital Partners Asia Pacific II and III, Pacific Equity Partners Fund IV, and several vehicles operated by The Carlyle Group.

Reaching deeper into the GP community can mean a departure from the Western-style intermediated auctions. Interests in smaller funds with fewer seasoned LPs might trade relatively rarely and the GP is often informed early on and involved in the search for replacement capital.

“Generally speaking, you find more proprietary deals in Asia because it’s more informal and the big secondary houses are only just setting up shop here,” says Doug Coulter, head of Asian private equity at LGT Capital Partners . Even in a pool auction in Asia you might only have 5-8 players at most.”

He notes that two of the Asian secondary

deals LGT has completed so far this year were not intermediated: one came through a GP in which LGT was already invested; the other was introduced by a friendly third party and no potential rival bidders were involved.

Again, the fund-of-funds’ primary relationships come to the fore. Some industry participants have invested substantial sums in Asia over more than a decade and have large teams on the ground working with GPs. According to Howarth, it is rare for Partners Group to be dealing with a fund manager that it hasn’t already met.

The secondaries specialists, for their part, can also claim to have carved out proprietary channels. China Investment Corporation (CIC) has a separate account within Lexington’s most recent $7 billion fund and it is expected to serve as a magnet for larger transactions, effectively expanding the deal pipeline.

Greenpark, meanwhile, last year teamed up with International Finance Corporation (IFC) to create a $500 million emerging markets secondaries fund. IFC has 180 GP relationships and the idea is that Greenpark will have access to a wealth of information on these managers and then get the first call whenever an LP is looking to exit. Teoh says the Greenpark expects to see in excess of $3 billion in emerging markets secondaries this year – most of it from mid-cap, late-stage positions.

“If you look at most emerging markets firms, the fund sizes are sub-$1 billion and so the average LP interest is smaller,” she adds. “These tend to be less intermediated so there is less competition.”

Choose your strategyAs Western institutional investors increase their exposure to Asian private equity, and as the funds they invest in mature, creating more secondary market supply, processes are likely to become more streamlined. The cookie-cutter approach that exists at the top end among the large pan-regional players is already filtering down into the leading country managers, and this will continue.

However, this doesn’t mean the market as a whole will suddenly become less fragmented. There will still be an unruly mid-market populated by future heavyweights and long-term makeweights, and secondary investors will identify a range of opportunities, from pools of LP interests to direct acquisitions of GP portfolios. Industry participants must decide whether they want to cover it all or just certain segments.

“It does come back to the point that there is less intermediation in Asia,” says Jason Sambanju, managing director and co-head of Asian operations at Paul Capital, which targets direct secondaries in particular. “You really have to think about deals in a broader sense here.”

coVEr [email protected]

“On some deals, our team has been more attractive and displaced secondary-only players because we have a primaries platform” – Tim Flower

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NOt aLL pubLicity is gOOD pubLicity. Previously just one of China’s many mid-cap private equity players, Suzhou Industrial Park Haifu Investment now finds itself in the spotlight for all the wrong reasons. The PE firm took its portfolio company Gansu Shiheng to court, seeking compensation after profit targets weren’t met, only for a judge to rule the claim invalid.

It is the first time a Chinese court has expressed an opinion on the net profit guarantee that underpins many private equity and venture capital investment agreements. By refusing to enforce the clause, a key element of down-side protection is now under threat.

“The court case has significant implications,” Gary Rieschel, founder of Qiming Venture Partners, tells AVCJ. “If entrepreneurs know that the letters they signed offering shares or cash to investors in the event of non-performance are invalid, then investors can no longer have protection in that regard and the discussions on price will become fallacious.”

A net profit guarantee is a variety of the value adjustment mechanism (VAM) often used by private equity players to incentivize company founders to reach specific growth targets. In addition to revenue and net profit guarantees, VAMs include the timing or issue price of an IPO, as well as various operational milestones such as the realization of a strategic collaboration, a new product launch or a horizontal acquisition.

Root of the problemThe Haifu-Gansu Shiheng dispute dates back to 2007. The PE firm agreed to pay RMB20 million ($3.1 million) for a 3.85% stake in the northwest China-based non-ferrous metals manufacturer. A VAM was included in the contract: If Gansu Shiheng failed to achieve a net profit of RMB30 million in 2008, Haifu could claim compensation equivalent to its initial investment plus a multiple of the amount by which the company fell short of the target.

Based on the agreed calculation, had Gansu Shiheng made RMB10 million in 2008, it would have been obliged to return RMB13.3 million to Haifu. As it turned out, the company posted negligible income for the year, so the investor demanded virtually its entire principal.

When Gansu refused, Haifu sought legal recourse. However, both the First Instance Court

and the Court of Appeal ruled the investment contract invalid, with the former declaring that any company issuing shares with preferential rights is in violation of Chinese Company Law. The case is now pending Supreme Court adjudication.

According to James Wang, a partner at Han Kun Law Offices, VAMs are increasingly popular in China, given that growth in the country’s capital markets hasn’t been matched by advances in investor protection and transparency. Foreign private equity funds, in particular, may rely heavily on VAMs to counterbalance

the informational disadvantage that comes from limited experience dealing with local entrepreneurs.

In addition, a contractual agreement – whether it provides for monetary compensation, share adjustment or repurchase arrangements – may act as a short-term solution when private equity investors and entrepreneurs come up with different valuations for a business.

“I’d say 90% of the reasons for having these VAMs, or gambling agreements, are that sellers and buyers cannot settle on price and these terms can help them reach temporary agreements,” says Frank Han, executive director of Bohai Industrial Investment Fund Management. “Without these terms, it’s very hard for private equity players to close deals in China.”

Although investors are trying to replicate international practices in China, the country’s regulatory system suffers due to its inflexibility. A typical minority investment in a mature market, for example, might involve the issuance of preferred shares and ratchet clauses. Under Chinese law this isn’t permitted.

“In China, investors would have to look for protection through a contractual arrangement with founders and other shareholders,” Yingxi Fu-Tomlinson, a partner at legal firm Kaye Scholer,

tells AVCJ. “However, from the enforcement perspective, a shareholder agreement and a statutorily provided structure are somewhat different species.”

Debt for equity?How, then, should private equity investors deal with Chinese entrepreneurs without the luxury of a VAM? One option is to structure the transaction as a loan rather than an equity sale. The debt instrument could then convert to equity if the portfolio company reaches the agreed development targets.

The Court of Appeal’s ruling in the Haifu-Gansu case appears to advocate such an approach. Although the court held the net profit provision as invalid, it said that because Haifu has neither partici¬pated in Shiheng’s operations nor assumed any risk, most of the capital it provided should be categorized as a loan. On these grounds, Haifu may recall its principal plus interest for a total consideration in excess of RMB18.8 million.

While a debt structure makes sense in terms of protection, private equity players are skeptical of such arrangement from a profitability angle. Loans are unlikely to generate the kind of returns PE investors require from a long-term illiquid commitment.

“The loan structure is a solution investors may look at, but how long is the loan outstanding and can the investor force conversion at the agreed price? All these questions will make the discussion more complicated,” says Qiming’s Rieschel. “What happens is that the PE firms risk becoming banks, with loans instead of equity and no board seat or influence on the company.”

In the circumstances, all PE players can do is to hope entrepreneurs honor agreements. Reconciling with a CEO or founder is eminently preferable to seeing him in court, especially when recent case history suggests that the law doesn’t stand on the side of the investor.

“I think these kinds of gambling agreements will continue because people in China cannot compromise on price anyway,” says Bohai’s Han. “But from now on, private equity investors should remind themselves to conduct better due diligence, as well as offering a more reasonable price in the first place in order to protect themselves.”

Chinese courts threaten PE protectionPrivate equity firms routinely use value adjustment mechanisms to incentivize entrepreneurs and offer down-side protection. Two Chinese court rulings have now called them into question

“Without these terms, it’s hard for private equity players to close deals in China” – Frank Han


raisiNg a cHiNa-fOcuseD first-time fund is rarely easy, a Century Bridge can attest. Tom Delatour, CEO of the real estate private equity firm, came to China in 2006, assembled a team of investment professionals, and launched a fund in spring 2010. The final close came last week at $170 million, less than half the $400 million originally targeted.

“This is a very difficult market to raise money as a lot of pension funds and endowments are having their own problems after the global financial crisis,” Delatour tells AVCJ. “There is also a huge misunderstanding in that some foreign investors consider the risks of doing business here to be much greater than they really are.”

Nonetheless, the first-time vehicle – Century Bridge China Real Estate Fund – has attracted a number of pension funds, endowments and fund-of-funds as LPs. These include Church Pension Fund, Metropolitan Real Estate Equity

Management, Merseyside Pension Fund, Quilvest and Deutsche Finance Group. Placement agents Avec Capital and XT Capital Partners led the fundraising on behalf of the GP.

Century Bridge is not the only foreign private equity firm that believes in Chinese real estate.

Last year, property market investment reached $6.75 billion, higher even than the $4.55 billion and $3.95 billion seen in 2007 and 2008, respectively, before the financial crisis. In April, SOTAN China Real Estate I, the $400 million fund co-managed by Hong Kong-based real estate private equity firm Tan-EU Capital,

made its debt investment with the acquisition of a 102,000 square-meter site in Tianjin.

“As the government has tightened bank lending and restricted trust companies to provide capital to developers in the last couple of years, this creates a greater opportunity for foreign direct investments,” Delatour says. “We believe we should not spend any more time

and effort raising money but invest, and once we invest all the money we will go and raise a second fund.”

The vehicle will focus on build-to-sell, middle-income and residential real estate projects in tier-two cities. With China’s urbanization and infrastructure drive showing no signs of slowing, there should be no shortage of willing mid-market buyers. According to McKinsey & Company, the country’s urban population by more than 350 million by 2025.

Delatour adds that all investments from the fund will be done via joint ventures. Last year, the private equity player made its first exit in China, selling its stake in a $125 million joint venture with Jia Heng Real Estate. The joint venture – which was partly funded by Century Bridge’s balance sheet – built 1,200 residential units in 11 high-rise towers in Xi’an, Shanxi province.

“For foreign investors, it is always wise to do business in China by partnering with developers who have good reputation, experiences and knowledge about how to do business in a particular city,” Delatour says.

tHe rOLe Of cHiNese pe firms iN outbound investment is poorly defined: In the absence of clear guidelines, participants must win approval from every single regulator. One way to avoid the red tape is by partnering with a government-backed entity, which usually has little problem getting the green light for deals.

Cathay Capital, a Sino-French private equity firm, has been appointed to manage a EUR150 million ($189 million) joint venture fund between China Development Bank (CDB) and French state-owned bank Caisse des Dépôts (CDC) to invest in Chinese and French small- and medium-sized enterprises. CDB Capital and CDC Enterprises, will each contribute EUR75 million.

“The launch of this fund materializes the closeness between our two institutions,” says Xuguang Zhang, president and executive director of CDB Capital. “We have great ambitions for this partnership and are confident of its success, given the respective qualities of French and Chinese companies.”

This is not CDB’s first commitment to outbound funds. In 2007, the state-

bank launched the $5 billion China-Africa Development Fund to invest in African projects developed by Chinese enterprises. It also backed Mandarin Capital, which closed its maiden fund in the same year at EUR327.75 million, alongside the Export-Import Bank of China.

“CDB and CDC Entreprises started negotiations about two years ago and they were searching for a GP to manage their joint-investments,” Lanchun Duan, executive director of Cathay Capital, tells AVCJ. “We were mandated largely based on our strong track record of investment over the last six years and our close ties with CDC, which has been our LPs since inception.”

Cathay’s EUR70 million maiden cross-border fund is now fully deployed and in May 2011 it held a first close on a second fund at EUR125 million. A final close of EUR250 million is expected in November.

“The Sino-French Fund is a parallel fund of

Cathay Capital Fund II managed by the same team,” Duan adds. “In the coming future, we will co-invest into companies by channeling capital from both funds at the same time.”

In the second quarter of 2012, China’s outbound direct investment reached $24 billion,

up 67% year-on-year, according to a research published by another Sino-European PE firm, A Capital. Investment in Europe, which accounts for 48% of total deals by value, surged 95%. Duan observes that, while more Chinese companies want to expand overseas, they need PE players with local and overseas

expertise to handle operational matters.“Having established teams in both China

and France, we have equal understandings of both markets,” Duan says. “While in China we are a Chinese manager; in France, local companies are also more likely to share their advanced technologies with us, rather than other foreign investors who they don’t trust.”

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Century Bridge in China fund debut

State banks launch Sino-French fund

Century Bridge targets tier two

CDB seeks outbound deals

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wHat wOrKs iN tHe us DOesN’t necessarily work in Asia – it’s the golden rule of investment in the region and industry veterans have countless war stories that attest to its veracity.

As such, more than a few eyebrows were raised when Yao Ming, China’s former NBA star, announced last month that he had invested in two private equity funds. The ex-Houston Rockets player has backed D&F Capital, China’s first-ever sports-focused private equity fund, as well as taking control of Hongyuan Equity Investment Fund alongside a team of investors.

American celebrities are no stranger to the world of investments. Bono, the lead singer of rock band U2, is managing director and co-founder of entertainment and TMT-focused private equity firm Elevation Partners, while rapper MC Hammer has invested in a number of startups, including search engine Wiredoo and video sharing site DanceJam. Hollywood actor Ashton Kutcher, meanwhile, has done numerous successful deals over the past few years, including his backing of Skype in 2009, two years

before the site was sold to Microsoft for $8 billion. Even in Europe, the likes of Cherie Blair – wife

of former UK Prime Minister Tony Blair – launched a private healthcare fund with a target of GBP75 million in January.

In Asia, however, the celebrity investing culture is a much newer phenomenon, not least because of the more nascent state of the venture capital industry and the as-yet-unproven returns. Most high-profile figures would rather put their capital into lucrative property transactions than leveraging their personal brands in more public VC-style investments.

Some industry participants, though, believe celebrities lend themselves particularly well to the current focus of venture capital.

“The big fad at the moment is around mobile apps and web apps – essentially retail businesses, which is different to previous eras of investment,

which focused on technology businesses. From that perspective, celebrity investing makes perfect sense and is a natural progression,” Jordan Green, chairman of the Australian Association of Angel Investors, tells AVCJ.

Cultivating the fanbaseIn previous generations, celebrities opened restaurants, opened their own sports stores, or launched their own perfumes and jewelry lines: They got involved in businesses where their celebrity status was inherently of value, which gave them a way to actively contribute to the success of the enterprise.

What’s happening now – a number of celebrities have invested in social media platforms, for example video-sharing app Viddy, which pop singer Shakira invested in earlier this year – may be another stage in the evolution of that trend. In investing in these networks, which share characteristics with celebrity “fanbases,” famous people are participating in a business area that they understand. As a result, they can motivate users accordingly.

“They can double or triple their equity stake because of their name, and because they’ll endorse the company,” explains Richard Robinson, an angel investor in China and adviser to companies looking to raise seed funding. “They give operational expertise in terms of promotion – they know how to promote stuff. [American reality TV star] Kim Kardashian is probably one of the best self-promoters in the world and look what she’s done with her shoe company.”

This is in part a function of celebrities becoming more actively involved in managing their commercial interests. The traditional ambit of a celebrity was whatever sphere that made them famous in the first place: Basketball players played basketball; football players played football; actors acted, and singers sung, and their management companies took care of their brand

profile and any investments they wished to make. By assuming greater command of their careers – and as result, their investments – these individuals regard celebrity status as one facet of them, instead of the total definition of who they are.

Of course, some celebrities are more suited to venture capital than others. Yao Ming is a particularly suitable candidate because, as a sports star, there’s a degree of political neutrality surrounding him.

“Everyone on every side of politics is okay with national sporting heroes,” says Green. “The problem with singers is that all too often they’re expressing a point of view that can create political issues, so if they get into business, it’s a lot harder for them to be investors, because they’ll be contaminating the business with their own profile. Dancers, meanwhile, are strongly associated with social rebellion.”

In Asia, the high profile of a number of successful business people – such as Li Ka-shing and Stanley Ho – also lends itself well to making angel investments, as they can share substantial expertise and industry networks as well as offering endorsement.

Secrets of their successIf the consensus is that we’ll see more celebrities turning their hand to investment, what are their chances of success? Though they have a clear advantage when it comes to deal origination – especially in Asia, where rather than being located around a hub such as Silicon Valley, opportunities are thinly dispersed across vast geographies – what it ultimately takes to be successful in venture capital is the same as for any other early-stage investor. That means backing a business they understand, adding value to that business, and being prepared to fail.

One way to mitigate failure is through diversification, according to Anand RP, an angel investor in India and an investment director at fund-of-funds Squadron Capital, which is something he believes many Asian investors are yet to learn.

“The typical mistake that people in Asia typically make is to do two $50,000 deals. They should actually be doing ten $10,000 deals, and if you have an additional $50,000, keep that for the best two companies, so then you can re-up and make even more multiples on that money.”

Star potential: Celebrities turn to VCChinese basketball star Yao Ming recently upped his involvement in private equity, prompting speculation that other Asian celebrities will follow suit. Can they be successful?

“They can double or triple their equity stake because of their name, and because they’ll endorse the company” – Richard Robinson


Lp [email protected]

IN a seNse, aLLstate’s private equity group can be characterized as a bellwether LP. A growing part of Allstate Investments, which manages some $100 billion for insurance and pension entities, the group is responsible for a diversified portfolio of more than $3.3 billion in exposure across 150 partnerships and meaningful investments globally.

Given that allocations to the asset class are ultimately funded exclusively by individuals writing monthly checks for Allstate insurance products, institutional capital flows have never been a factor. As such, the firm has been able to stay consistently engaged in the private equity business since the 1960s, regardless of tough times.

According to Peter Keehn, global head of private equity for Allstate, adjustments in strategy are therefore a real signal of fundamentally changed conditions.

“Because we’re a captive fund, as we think through asset allocation in general – how much to privates versus publics, how much to stocks versus bonds, how much to alternatives – we can exercise a lot more freedom around portfolio construction, on optimizing it without the constraints of needing to match our investing activity to where we’ve been successful raising third-party money,” Keehn tells AVCJ.

“Finding we have a lot less capital to invest because the people who backed us last time didn’t back us this time isn’t an issue - if we’re out of money for PE, it’s because we’ve chosen to allocate somewhere else.”

Paradigm shiftsTwo notable shifts have resulted. First, geographically, Allstate will become less reliant on the US (although for obvious reasons, dollar-denominated liabilities among them, it will remain the dominant slice). Already intentionally under-allocated to Europe, the firm has been gradually broadening its exposure to emerging markets since 2006, Asia and Latin America being the most prominent examples.

Second, Allstate is moving away from buyouts, though again, these will remain the largest single component of the PE portfolio. As the firm sees things at present, other strategies may be better fits for low growth conditions,

such as mezzanine, distress and turnaround equity.

“That’s different to the profile of managers we were backing in the up market,” Keehn remarks. “And even in the buyout category, the players we favor now are those who have demonstrated a consistent ability to unhinge the revenues – and certainly the cash flow – of a business from the broader economic environment it exists in.”

Allstate’s appetite for alternatives generally is constrained by the fact that it is a listed insurance company. Although portfolio

managers appreciate that alternatives have historically shown good returns, the associated risk means that asset allocation models restrict exposure. This is in stark contrast to the likes of endowments, foundations and even insurers that are mutuals and not publicly traded.

But this conservative bias delivers real defensive advantages in difficult times, for example, in limiting the downside fallout from the denominator effect. As many LPs with high exposure to illiquid alternatives were taken out of the market completely when the global financial crisis hit and denominators plunged in advance of numerators, Allstate was largely unharmed. Its asset base shifted under the stresses of the crisis, but the conservative allocation to private equity meant it was manageable.

In terms of actually deploying capital, Allstate doesn’t use gatekeepers; that kind of work is done in-house. But the firm does partner with funds-of-funds, despite similarities between these and Allstate that might make this look odd at first glance.

The partnerships have two purposes. First, for investments in areas that portfolio managers don’t see as critical to the mainframe portfolio construct but still warrant some exposure. Keehn cites the example of venture capital. Allstate has kept a relatively low allocation to this asset class for the last decade. However, in order to maintain this small presence in the fast-moving world of VC, a decision was made to buy expertise rather than expend resources to build it in-house.

Allstate’s other, and more important, use for funds-of-funds is to spearhead investments

in areas where it wants to build out a presence over time, notably ex-US markets. If the appropriate fund can be found, it can provide an ideal way to aggregate important local knowledge in fairly short order. That is a critical differentiator when the time comes for Allstate to choose local managers on their own bat.

First Europe, now Asia?This approach proved very effective in the firm’s earlier foray into Europe. “We were very open and specific with our European fund-of-funds partner from the outset, back in 2005,” Keehn recalls.

“We told them we anticipated Europe would be a building piece of our business, so we wanted them to manage money for us as a first step. And we made it clear that tuition was integral to the deal; meaning we’d ask a lot of questions, seek a lot of introductions and so on.”

Allstate went as far as to say that it would probably end up opening an office in London, at which point the partner’s services would no longer be required. This is exactly what happened and now the firm has its own team operating in Europe.

A couple of similar arrangements with fund-of-funds in Asia are already in place, and Keehn says an eventual upgrade to a formal operation in the region is very possible.

“As Asia becomes a much more important part of the global economy – and therefore a much bigger piece of the Allstate portfolio – these local resources are proving very helpful as we make our own direct commitments there and evaluate the potential benefits of a local presence.”

Allstate branches outUnencumbered by the volatility that can restrict non-captive LPs, Allstate alters its PE portfolio to reflect fundamental changes in the market. It is scaling back on buyouts and scaling up on Asia

Allstate’s alternatives exposure, 2011private

equity/debtreal

estateHedge tax

credit

Total $1,896m $1,099m $1,142m $560m

No. of managers 94 45 13 9

No. of funds 154 92 78 17

Largest exposure to single fund

$42 $184 $79 $58

Income $149m $98m $12m ($12m)

Source: AVCJ Research

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Distinguished global speakers include:

11 October 2012, No.4 Hamilton Place, London

David G Pierce Chief Executive Officer SQUADRON CAPITAL

Shankar Narayanan Managing Director THE CARLYLE GROUP

Mukund Rajan Managing Partner TATA OPPORTUNITIES FUND

Joseph Y. Bae Managing Partner KKR ASIA

Nicholas Bloy Managing Partner NAVIS CAPITAL PARTNERS

Volkert Doeksen Chairman and

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Roy Kuan Managing Partner CVC CAPITAL PARTNERS

Simon Pillar Managing Director PACIFIC EQUITY PARTNERS

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