Indonesia middle market: Slow-burn story

With a commitment of $24 million for a 20% stake in Bank Index Selindo, Creador this week announced its fourth investment in Indonesia. The GP's move follows healthcare specialist Quadria Capital's acquisition of a minority stake in drug manufacturer Soho Global Health, its debut transaction in the country.

This activity continues the middle market's dominance of Southeast Asia. According to EY, the region saw 50 deals last year in the $20-500 million space with an average investment size of $133 million. Consumer products and retail was the most popular sector, while Indonesia remained the leading geographic market.

The country's young and newly affluent consumers are credited with driving demand for services and products. Opportunities now extend beyond fast-moving consumer goods (FMCG) and into healthcare and financial services, as the Creador and Quadria deals suggest. But there is not enough to satisfy all appetites.

"Indonesia could be a very attractive market for global buyout firms, but it's not a big enough market to justify a major presence on the ground," says an Indonesia mid-market focused GP. "There are not many deals in the $50 million range or above $75 million."

Limited supply

AVCJ Research records show PE investment in Indonesia has slowed in recent years. After reaching $1.4 billion in 2010 and $1 billion the following year, it dropped to $608 million in 2012 and $328 million in 2014. This reflects a paucity of large-cap deal flow following CVC Capital Partners' investments in Matahari Department Store and Link Net in 2010 and 2011.

In the middle market, classified as PE transactions of $60 million or below, there were 16 deals worth $295 million in 2013. In 2014, the total fell to $148 million across 13 deals.

Kay Mock, co-founder of Saratoga Capital, attributes the fall in activity to PE investors holding off as they awaited the results of Indonesia's 2014 parliamentary and presidential elections. This followed an outbreak of panic in emerging markets that sent the rupiah tumbling.

"In 2013 the currency was trading below IDR10,000 to the US dollar, today it's at IDR13,200. GDP growth is slightly slower at 5% rather than 6%, inflation is under controlled and the current account deficit has not deteriorated. Thus in US dollar terms, Indonesian assets are trading at much more attractive valuations than two years ago," says Mock.

With assets theoretically 25-30% cheaper than in 2012 and the rupiah not expected to gain on the dollar in the near term, Saratoga is optimistic of doing more deals.

It and other GPs certainly have plenty of dry powder to burn. Over the last six years, fundraising by Indonesia-focused GPs amounted to $2.6 billion. Luke Pais, partner and ASEAN leader at EY, contends that deployment has been slow because entrepreneurs are wary of PE.

"Imagine that a founder started his business 30 years ago and he didn't really think much about proper financial reporting. He focused on the business and how best to grow it," says Cyril Noerhadi, senior managing director at Creador. "It typically requires much explanation and continuous dialogue to get the founder agree to bring in a team of professional accountants."

The market is evolving slowly and more private equity firms are spending time on the ground, building relationships with entrepreneurs. Meanwhile, a series of push and pull factors are expected to contribute a greater openness of private equity among businesses in Indonesia. On the pull side, in many family-owned businesses management control is transferring to a younger generation, comprising individuals who have been educated abroad or worked for multinational corporations.

"Younger entrepreneurs are more receptive to collaborating with financial investors, especially when PE can bring value-add," says Saratoga's Mock. "In the last decade Indonesian entrepreneurs made money riding on the upturn in the commodities cycle, but that theme is no longer viable today. Banks have also become more selective in their lending, so PE financing has become an alternative source of capital."

On the push side, Indonesia is an increasingly attractive market for strategic investors. This means more competition across almost all parts of the domestic economy, often from well-resourced multinationals. Local players need to make improvements in corporate governance to stay in touch and PE can help deliver this.

Valuation vortex

Even if GPs can make a compelling case for how their involvement can help transform a business, they still need to get in at an acceptable price. Private markets valuations remain a concern. For example, valuations of listed financial services companies are now lower than what is expected in the private sector. "That's actually a fact of speculation today," says Creador's Noerhadi.

However, Brian O'Connor, founding partner of domestic GP Falcon House Capital Partners, views the situation differently, arguing that there isn't sufficient data on private deals in Indonesia to engender definitive valuation trends.

"There aren't many deals as compared to markets like China and India, and these deals span across different sectors and growth profiles," he says. "What we find is that the market is still inefficient in terms of valuation and it's not unusual to find similar types of companies with markedly different perspectives on valuation."

Even so, recent public listings on the Jakarta Stock Exchange suggest that high quality companies can command high valuations. Last week, Indonesian hospital owner Mitra Keluarga Karyasehat raised $343 million through its IPO. The offering was 10 times over-subscribed and the business was valued at close to 30x EBITDA.

In addition to the public markets, mid-market GPs see potential in secondary and trade sales.

"Given the significant liquidity that has been raised by regional PE firms and for Asia by the major global buyout shops, secondaries will increase in importance, especially for well-institutionalized and scaled businesses. Secondly, the Indonesia growth story is becoming more attractive to international and domestic strategic investors and we have seen interest accelerate post the recent election," O'Connor says.

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• Topics
• Southeast Asia
• Expansion
• Buyouts
• Healthcare
• Consumer
• Financials
• Indonesia
• healthcare
• Financial Services
• Consumer
• Growth capital
• Southeast Asia
• Saratoga Capital Group
• Creador
• Falcon House