Southeast Asia fundraising: Gaining a foothold

The world of fundraising in Southeast Asia continues to be a small one. Dreams of persistent expansion seem far off; while a record 38 funds were raised in 2008, since the global financial crisis levels have fluctuated widely, with just half that number in 2014.

These numbers do not tell the whole picture, of course. Deals continue to be transacted, and money continues to move through the system. In addition, players in Southeast Asia's investment community say that temporarily dry wells are by no means a disaster for the industry.

"In Southeast Asia, the number of GPs today is higher than it was five years ago, but it's still a relatively small group. That's partly because it's difficult to raise a fund. And that's the way we like it," says Eugene Lai, managing director and co-managing partner at Southern Capital. "That imposes discipline in the market. If there's no discipline, and there's too much money chasing too few deals, that's not a good investment environment."

Lai, and other managers of established Southeast Asia-focused funds, see much to like about the current state of the region. But they know that the outlook is not so promising for everyone. The region continues to be challenging for newly established funds, due to uncertain climates in the affected countries and skepticism among LPs about future prospects.

Safety in scale

Fundraising figures for Southeast Asia GPs tell a story of consolidation. While the number of vehicles raised has swung widely since the high of 2008 - going from 22 in 2011 to 35 just two years later, and dropping down to 19 the year after that - the dollar figures for the pre- and post-financial crisis periods are more revealing.
According to AVCJ Research, significant funds of the post-2008 vintage number 70 in all and have received aggregate commitments of $12.3 billion, while the 122 2004-2008 vintage funds raised $13.3 billion. This means a higher average fund size, from $109 million to $175 million.

In addition, some types of fund are seeing more participation than others; the six funds of $500 million and up raised since 2008 have collected $5.3 billion in all, while funds of the same size raised between 2004 and 2008 took in just $3.3 billion. That contrasts with the figures for funds of $100-500 million, which dropped from $7.1 billion to $5.7 billion. For those in the $100 million and below bracket, the aggregate figure has fallen from $3 billion to $1.3 billion.

One of the biggest players in Southeast Asia is Navis Capital Management, which has raised two pan-regional funds since 2008, totaling $2.6 billion. Nick Bloy, co-managing partner at the firm, says that a large fund size is also partly a necessity for doing business in Southeast Asia.

I think you need to be in the $1 billion-plus space to be able to do that at an appropriate scale and with an appropriate scope geographically - Nick Bloy

"It's expensive to run multiple offices, so you need to have a certain scale to be able to afford to have multiple people in multiple places," he explains. "I think you need to be in the $1 billion-plus space to be able to do that at an appropriate scale and with an appropriate scope geographically."

Navis also serves as an example of another tendency among funds in Southeast Asia: the push to geographically diversify. Less than half of the funds raised since 2008 - of all sizes - are focused on a single country, with the rest being aimed at two or more, or having a pan-regional focus. While the same is true for pre-2008 funds, the proportion of regional to country-specific funds is much narrower in that case.

This approach has several advantages for GPs - for example, having a presence in several countries can help managers avoid a downturn in one. If a particular market becomes difficult, whether it is due to spiking valuations or economic uncertainty, a GP can turn its attention to other areas and wait for opportunities to revive. There are drawbacks as well. As noted earlier, operating a scale business across multiple countries is expensive. Many firms, both large and small, get around this by establishing a central office - usually in Singapore - and travelling from there to the other countries in which they operate. But this approach has its downside too, in terms of travel time and logistics costs.

Another complicating factor is the reluctance of LPs to invest in funds that are not sufficiently diversified. Northstar Group is a prominent exception, having closed an Indonesia-focused buyout fund at $820 million in 2011, but it was one of only three out of the 10 biggest post-2008 funds to have a country-specific approach rather than regional or pan-regional. It is also worth noting that while Northstar is most active in Indonesia, the GP has completed deals in Singapore, the Philippines and Thailand.

"If you're focused just on Indonesia, Philippines, Thailand, Malaysia, I think it's very difficult to sell your product, because you're very un-hedged and undiversified, so it's a tough sell," says Kai Schneider, head of the funds and management group in Southeast Asia for Clifford Chance. "Northstar has done a great job in a very difficult country, but those are, frankly, not the norm. It's more regional plays."

Storms on the horizon?

LPs may also be put off by the possibility of political disruptions in the region, such as the recent turmoil in Thailand or last year's presidential election in Indonesia, which held back deals. This type of instability can be worrying to investors because it has the potential to derail even the best manager's plans.

While these issues are not necessarily a deal breaker in and of themselves, they can make an investment decision much trickier. Brian Lim, a partner at private equity fund-of-funds Pantheon, observes that LPs may decide that a fund with all its eggs in one basket is simply too big of a risk.

"Some investors take the view that the political problems in Thailand are just noise," says Lim. "They've had political issues for a very long time, and some investors have made decent returns from Thailand throughout those times. But other investors will ask if it's really worth dealing with those risks at this point. It's easier to say no when you have a lot of noise, political or otherwise, that may distract from making optimal allocation decisions."

Some funds pursue a sub-regional strategy, a compromise between a risky single-country approach and an expensive pan-regional one. Southern Capital is one such GP; its third fund, which closed in 2012, is focused on investments in just three countries: Indonesia, Singapore and Malaysia. The proximity of the three countries means the travel time between them is minimal, and they also present opportunities for investment in cross-border trade.

Southern is not the only firm pursuing this strategy; Andrew Thompson, head of Asia Pacific private equity at KPMG, argues that focusing on a smaller grouping of countries within the region is a natural choice.

"It's a logical grouping, because obviously, Bahasa is between Malaysia and Indonesia, and Singapore has very strong linkages with both of those countries," he says. "A key rule is that if you put all your eggs in one basket in this region, one day that basket will spill. Hence, even highly successful investors such as Northstar are talking about regionalization rather than continuing what has worked so well in the past."

Maintaining a sub-regional focus might help firms to reduce costs somewhat. But it reinforces the barrier to entry for less established funds. Starting small in a single country seems to be unfeasible without an unquestionable pedigree, but all funds have to start somewhere.

Spin-offs of existing funds can overcome the first-time challenge to a degree: trading on an established name and reputation means they don't have to introduce themselves fresh to a skeptical market. But even in these cases, investors tend to prefer to stay with a known brand where they can.

"There's a real world of haves and have nots. First-time funds have a real tough time, they struggle to reach a first close. You compare that to others on Fund III, IV and V, they having to scale back investors because there is so much interest," says Clifford Chance's Schneider. "Even spin-offs, where they have good pedigrees, struggle to get to a first close. Even with the same strategy, same geography, when one fund is a new launch and one is a successor fund, the outcome is usually starkly different."

Deal size dilemmas

One reason that experience counts so highly is the perceived difficulty of securing deals in the region. Large transactions in the $200 million-plus range are hard to come by, and the majority of deals are in the mid-market range. This is a depressing factor for investors, though Navis' Bloy says focusing on deal size may not give a fair picture of the opportunities available.

"I think that the really interesting opportunities come more from a couple of sources. One is divestments by corporates of non-core businesses - these are subsidiaries that have been overlooked, and there is a pent-up value creation opportunity," he says. "The other is family-run businesses, where there's a transition from the founders to the next generation, and the next generation may want a partner to help them run it going forward, particularly in this challenging environment of going cross-border."

There are so many carve-outs and restrictions that have been imposed or negotiated by various countries. Yes, it's a move in the right direction, but will it fundamentally change the landscape? Our view is that it won't - Wen Tan

Cross-border trade is indeed an area with a chance for growth, fuelled by economic integration among ASEAN countries. Many hope that breaking down barriers to trade and travel will stimulate economic activity among the ASEAN member nations that will, in turn, create investment opportunities for private equity.

However, Wen Tan, a partner at FLAG Squadron Asia, says that the hopes for integration are overblown. "There are so many carve-outs and restrictions that have been imposed or negotiated by various countries," he explains. "Yes, it's a move in the right direction, but will it fundamentally change the landscape? Our view is that it won't."

While the current environment makes it difficult for newcomers, there are signs that this state of affairs may not last. OCBC, which operates in Southeast Asia as a mezzanine capital provider and as a fund-of-funds, is willing to back country-focused funds, if there were any available. Daniel Kwan, a vice president with the mezzanine unit, notes that LPs have become experienced enough to be comfortable taking a risk on smaller funds with a country-specific or sector-specific focus; it is only a matter of time until they become available.

In addition, as LPs gain sophistication and experience in the region, some have begun to exercise more control over their investments. While this may create more work for fund managers, some GPs, such as Southern Capital's Lai, say such worries are shortsighted. More active LPs can help guide a manager to try more effective approaches to handling their funds.

"A lot of GPs will just try to raise more money, because that's the default position of most GPs," says Lai. "But LPs are concerned about the size of the addressable market for your strategy. They say, ‘If you want to invest in a particular country, and you're pursuing a particular investment strategy, what is the size of your addressable market?' And then they will conclude, that means your fund should only be X million dollars."

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• Topics
• Southeast Asia
• Fundraising
• Southeast Asia
• Fundraising
• Navis Management
• FLAG Capital
• OCBC