Does Taiwan still like buyouts?

When KKR said it would participate in a management buyout of Yageo in April, it appeared that Taiwan would play host to Asia's largest private equity transaction for the second year running. KKR and its partner, Pierre Chen, Yageo's founder, chairman and CEO, offered $1.6 billion for the electronic components maker, a value rivaling its highest-ever trading price. Following a lengthy due diligence process aimed at establishing an appropriate amount of leverage for the deal, they were confident it would close.

But two months on regulators rejected the bid, saying that minority investors didn't have sufficient information to determine whether the acquisition was in their best interest. Fan Liang-tung, executive secretary of Taiwan's investment commission, told the group that it had not mollified doubts "about shareholder and investor protections, whether the offer price is reasonable, and level of transparency of information disclosure."

KKR's failure is the latest in a string of disappointments for private equity players in Taiwan over the past 12 months - a complete contrast to the investment climate just four years ago when deals were rife. The market's long-standing reputation for being open to buyouts now lies in tatters.

"KKR did nothing wrong. It's a legitimate private equity firm and it has worked well with Yageo and Pierre Chen for the past few years," says Dennis Chiang, SVP and head of financial advisory of China Development Industrial Bank's corporate and investment banking unit. "This case is a matter of regulators' subjective view, and to them it's all about the public image of business. That's a hurdle private equity may not have been able to foresee."

Regulation objection

Navigating Taiwan's private equity landscape has become trickier since the onset of the global financial crisis, when regulators sought to hedge risks by coming down harder on overseas firms looking to conduct business within the country. Even as the economy improves, private equity has seemingly seen the short end of the stick.

A cornerstone example of this was Primus Financial Holdings and China Strategic's bid to acquire Nan Shan Life Insurance, a local unit of AIG. Taiwan's Financial Supervisory Commission rejected the group's $2.15 billion offer in September due to concerns about the consortium's inexperience in the insurance industry, questions about its long-term commitment to the company, and the potential that Chinese backers were involved. In January, Taiwanese firm Ruen Chen Investment Holding announced that it would acquire Nan Shan for $2.16 billion, also subject to regulatory approval.

Even the most successful deals were not completed without hitches. In November, The Carlyle Group received long-awaited approval from Taiwan's media and telecoms regulator to sell its local cable TV and broadband asset Kbro to the Tsai family for TWD36 billion ($1.2 billion) one year after the PE firm first entered into negotiations. Regulators delayed the deal throughout 2010 because of obstacles related to government ownership of a media business, as the Taipei city government holds an indirect stake in Taiwan Mobile, which is controlled by the Tsais.

Taiwan has traditionally been a market of returns for diligent private equity funds willing to go through the motions. In October 2010, MBK Partners sold a 60% stake in cable provider China Network Systems (CNS) to the chairman of Chinese snack food maker Want Want Holdings for $2.4 billion. It was Asia's largest deal of the year and given the full rags-to-riches treatment: MBK Partners was just one year old when in 2006 it outbid leading global investors including KKR, CVC, TPG, Macquarie Bank and Goldman Sachs to pick up CNS. It walked away with a profit of around $800 million.

Shortly after that deal's close, MBK also exited another Taiwanese media firm, Gala TV, to EQT Greater China.

These transactions are part of the golden era of Taiwan private equity - and it has long since ended. According to AVCJ research, a total of $4.68 billion was invested in Taiwan in 2007, across 50 deals, compared to three deals and $243.5 million invested in 2010. In 2007, Taiwan's top-five transactions by valuation were also brokered, including two privatization transactions: Nien Made Enterprise, bought by CVC, and Oaktree Capital's MBO of Fu Sheng Industrial.

According to C.Y. Huang, CEO of FCC Partners and chairman of the Taiwan Mergers & Acquisitions and Private Equity Council, these deals crept in before the regulators hardened their stance on privatization bids.

Turning point

The turning point is said to have come in November 2006 when Advanced Semiconductor Engineering was subject to a management buyout by a consortium comprising of Carlyle and company CEO Jason Chang. They bid $5.6 billion, a 10% premium to Advanced Semiconductor's trading price at the time. Despite increasing the bid to more than $6 billion, the consortium saw its bid turned down in February 2007. Regulators said the proposition did not reflect the company's true value. Industry observers speculated at the time that the deal was rejected because the authorities did not want the company to delist - an excuse cited for other cases that have followed.

Chiang says that Taiwan still hopes to position itself as an international business destination, and if its Stock Exchange loses the listings of prominent, billion-plus-dollar companies, such as Yageo, regulators fear Taiwan's efforts will appear undermined. "Regulators want the Taiwanese stock market to get bigger and bigger, and the delisting of a one- or two-billion-dollar market cap firm on the stock market is going to hit them," he adds.

FCC's Huang avers that appearance is a real factor to contend with. "The government is biased against private equity because it thinks they're a bunch of greedy financers who won't bring more to the table than initial vulture capital. This is especially true with MBOs because they don't under stand it," he says.

AVCJ sources agree that KKR - which first invested $230 million in Yageo in 2007 - did its fair degree during its due diligence process to ensure the MBO's success. The private equity firm currently owns 34% of the company with Chen and his family, and is said to have received more than 70% of the shareholders' approval for the buyout. "Even without approval, Yageo's existing growth strategy remains ... The management of Yageo will continue its efforts to grow the business," KKR said in response to the deal being rejected. "KKR will maintain its existing partnership and will continue to provide its full support."

Under Taiwanese regulations, KKR and Chen have 30 days to appeal the decision. Neither party has announced whether or not the consortium would pursue this option.

Under the microscope

The government's basis for accepting and rejecting deals is hardly formulaic. For KKR and Yageo, it was a question of leverage and risk exposure for minority stakeholders. For Primus, China Strategic and Nan Shan, there were concerns about commitment levels and Chinese backing. For Carlyle and Kbro, delays were linked to competition issues as well as the government's own connection to an affiliate party in the deal.

"Private equity is still regarded as a money game. Regulators don't appreciate the value that investors bring," Janice Lin, partner at Taipei-based Tsar & Tsai Law Firm, tells AVCJ. "If you look closely, the successful deals are acquisitions between industry players that are described as strategic investments where the merged company brings in knowhow and technology. Somehow private equity is less convincing in conveying the value that funds hold."

While some private equity sources suggest that regulators are creating hurdles for the industry - thus driving business and funding out the market - Lin says it isn't deliberate. Taiwanese law, in fact, is more lenient than other markets when it comes to M&A transactions, stating that acquisition firms need only majority support from target's backers to move forward with a merger if target is a listed company, a lower threshold than other markets. Indeed, this law was what made Taiwan an attractive market for private equity buyouts in the first place.

"The laws that have been put in place were not written for deals involving private equity or MBO. It's a developing process, and there isn't a lot of education regarding what management buyouts are all about," she says. "It is the time to ask regulators to put something in writing to eliminate confusion on this in the future."

In the days following the Yageo ruling, this may already be happening. Citing an unnamed official, Reuters reported on Monday that Taiwan aims to better regulate the processes leading up to tender offers by mandating more transparent information disclosures to protect minority shareholders. This would include asking potential acquires to set up independent internal committees to assess the fairness of prices.

As the battle now appears to be one of educating regulators to understand the value of private equity, more of this may come, and if anything can be learned from the Yageo outcome, the industry may do its share of lobbying to educate regulators of the behind-the-curtain value-add private equity brings to the table.

In the meantime, industry insiders believe opportunities remain for private equity funds that employ a sensible strategy.

For example, Chiang suggests going for a buyout target that "is not in the Red Zone." This could mean making a delisting play for a mid-sized company, valued at less than $1 billion, or one that is already private. "Smaller transactions may not catch so many eyeballs," he says, advising that private equity looks beyond the top player in an industry and consider buyouts of the number two or three players.

On a wider scale, private equity may be a welcome partner for the clutch of Taiwanese companies looking to boost their positions in China. Domestic regulators have slowly become more liberal in terms of the exchange of business with the mainland, and many domestic companies - in areas ranging from manufacturing to retail - are looking for capital to fund their expansion.

An example of this is coffee shop manger Gourmet Master, which owns the 85°C Bakery Café chain, dubbed the Starbucks of Taiwan. Gourmet Master, which claimed TWD$4.1 billion ($141.7 million) in revenues the first half of 2010, is 7%-held by funds owned by HSBC. In November of last year, the company announced that it would expand its 170-store presence in China to 1,000 outlets by 2016, with RMB200 million ($30.4 million) invested to open 100 new stores in 2011 alone. This news paralleled Gourmet Master's TWD$2.39 billion ($79 million) IPO raise, which underwriter Yuanta Securities said was more than 200 times oversubscribed when the when the public subscription ended.

Huang sees companies like Gourmet Master - aggressively innovative private sector players - as natural partners for private equity.

"I have no confidence in the government; efficiency will continue to be slow," Huang says of anticipated change to the industry. "But people will find new ways to engineer deals. This may mean a collaboration with Taiwanese companies. We're going to see a lot more firms looking to sell their goods in China funded by private equity."

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• Topics
• Greater China
• Buyouts
• KKR
• Primus Pacific Partners
• The Carlyle Group
• Oaktree Capital