Korean PE goes full circle

There was a time when Korean private equity, the modest size of the country's market notwithstanding, was the leading edge of regional activity, the place where the giant global buyout players first gained a real foothold in Asia.

That was back just after the 1997-1998 Asian currency crisis. The shock waves created by that pan-regional downturn blew away much of the region's protective coating that had, until that point, kept the big global private equity mega-funds at bay. And within three or four years of their advent, the incumbent cottage industry-style private equity business - which had existed for years at the periphery of Asia's epic growth story - had transformed into the increasingly global-linked private equity and M&A activity that has grown exponentially since then.

But in those early days, Korea and Japan were by far the region's most developed industrial economies - and those hardest hit by the Asian crisis.

In Japan's case, while a few notable international-backed deals, such as the buyout of the Long Term Credit Bank, now called Shinshei Bank, did occur, that market remained largely introverted, though the private equity business has certainly taken root there.

By contrast in Korea, where the crisis impact was sharpest - and the subsequent IMF engagement was strongest - epochal opportunities, especially in financial services, were generated; and the international players lost no time in taking advantage of this. Some examples would include Newbridge Capital's takeover of Korea First Bank, Carlyle Group's investment into KorAm Bank and, of course, Lone Star acquisition of a 51% control stake in Korean Exchange Bank. This last, however, morphed into a nightmare exit saga which continues today.

Still, the pattern that was established by the international players in Korea has been repeated region-wide, most notably in China and India. And ironically, that is now reversing into a building counter-wave of Asian investors of all types, including pension funds, taking a page from this MO, and making ever-bigger investments overseas.

A second metamorphosis

After this ‘foreign intervention' phase wound down, Korea and Japan were also where substantial domestic private equity competitors to the internationals arose, more or less overnight. In the former case, the more prominent firms were often led by Korean nationals who were former executives of the global giants. Partly this was simple economics at work. But it was also a spinoff of the nationalistic outrage that broke out with the broad perception that these global ‘vulture' funds were picking up prize local assets at bargain basement prices, and then flipping them for mega-profits while eluding local taxes.

Thus Korean private equity morphed again, into a domestic GP-dominated game, as Jason Shin, a managing partner with leading Korean firm VOGO Fund, explains:

"By 2002 or so, most of the low-hanging fruit had been taken [from the international players' standpoint]. After that, getting deals done at a cheap price was much tougher. So a lot of them simply moved on. After all, they had the rest of Asia to do deals in; they weren't just limited to Korea. Also, the growing Lone Star fiasco just confirmed their emerging view that Korea was once again becoming closed and difficult," he explains.

"Coinciding with that, starting about 2005, a new wave of domestic GPs sprang up. And the larger entities within this, including MBK, VOGO Fund, H&Q Korea etc, proved that this changed view of our market was wrong in assuming there were no more deals of size to be done here. Collectively domestic GPs have managed to crank out deals that have been high profile, large size, control stage, $1 billion plus transactions."

Status Quo

That said, however, the current AVCJ Korean market data snapshot exhibits a certain orderliness and even uniformity that is in a way reflective of the country's culture.

From a fund raising perspective, the big year by far was 2006, in which some $7.7 billion was raised. That slipped to less than half the following year, when the equivalent number was pegged at $3.3 billion. And while this rose slightly in 2008 to $3.8 billion, it has stayed consistently at this level since, dropping 2.4% year-on-year between 2009-2010.

Total capital under management has seen rock steady growth, however, excepting 2007, rising in lock step from $14.9 billion in 2006 to $24 billion presently, at a y-o-y growth pace of 19.9%. The comparable growth metric for Asia overall is 14.4%.

Overall private equity investment from 2006-2010 is, on the face of it, a bit of an oddity: the number of deals done from year-to-year has been up and down, and so unsurprising. But aggregate investment y-o-y was consistently upgrading, from $2 billion at the beginning to $4.6 billion in 2007, $4.6 billion in 2007, $4.4 billion in 2008 to $6.4 billion in 2009 - regardless of the global economic contagion.

But it plummeted to $1.6 billion in 2010, a downturn of 75.3%. The obvious question is ‘why'?

Shin's simple answer is that last year, and thus far in 2011, most Korean PE firms are focused on exits rather than acquisitions.

"That coincides with the fact that most of the domestic firms were set up 3-5 years ago," he told AVCJ. "So given that they only got funded 2-5 years ago, from a timing perspective, it's only natural that the majority are in exit mode."

Another indicator of this, as Shin points out, is the resolute uptrend in PE-backed IPOs, from $319 million in 2008 to $720 million in 2009 and $957 million last year, an overall y-o-y rise of 33%. This is modest compared to the broader trend in Asia, however, with its y-o-y expansion rate of a whopping 178.5%.

The number of deals, on the other hand, has fluctuated between 28 and 32, with 2010 showing 29.

More western in flavor

At the same time, the importance of PE-backed IPOs as a portion of the overall exits mix in Korea is radically different than China, where these comprise more than 90% of the total.

"I think we're much more in line with where western countries are at," Shin says. "The trade sale is still the preferred exit method here because it provides a control premium and a very clean exit. With an IPO, it's only a partial exit and there is obviously no control premium."

Thus at the top end of the market, the focus is decidedly on trade sales, including amongst a number of pan-Asian global funds such as Affinity Equity Partners' sale of Face Shop in late 2009, and CCMP/Unitas sale of convenience store chain ByTheWay. The trend is also evident in VOGO's thrust at the moment, marketing two trade sales with an IPO exit slated for the second half of the year.

Market players snapshot

There are, not surprisingly, a limited number of noteworthy GPs in Korea currently, perhaps 20-30 in Shin's reckoning; and only a handful that could be characterized as sizeable, including MBK, VOGO and H&Q Korea, plus a new one being formed by ex-Morgan Stanley Private Equity Asia CIO Scott Hahn. Beyond these is a tier of institutionally sponsored PE Funds such as Shinhan Financial Group PE Fund, Korean Development Bank (KDB) and Korea Technology Bank.

As for the rest, they drop off very quickly in terms of size and market visibility. They're much smaller and are mostly minority stake, passive investment and growth capital-driven. And all are sponsored by a bank, a securities firm, or one of the conglomerates.

It's a similar situation with Korean LPs, which are also limited in number:

"A lot of them have been through two funding cycles starting five years ago. So I'd say they were taking a breather in 2010 and seeing how their returns pan out before going through another allocation cycle, probably next year."

Perhaps, though according to Pensions & Investments, two of Asia's largest national pension schemes, Korea's National Pension Fund and China's National Social Security Fund, are investing more assets in overseas equities and alternatives. They contend that there will be "tens of billions of dollars up for grabs" over the next five years, spurred by demographic change pressures - read, an aging population - to boost returns while diversifying risks. In other words, largely the same pressures that drove western, and in particular US, players to Asia in force a decade ago.

Looking ahead

Nevertheless, Shin sees a brightening future for Korean private equity:

"2005-2008 were very hard years for local funds, because Korea was full of cash. There was just so much money chasing after deals. These funds came from strategic players, i.e. the domestic conglomerates; they were chasing hard after assets, which meant the deals got expensive and ultra-competitive.

"After 2008, however, the chaebol became much more disciplined in getting deals done, while the banks got much tighter with their credit. But over the next three years or so, I see the reverse of that: there are now a lot fewer potential buyers, and those that remain are determined to cut better deals. And because of the tight liquidity, some of these middle-tier conglomerates - those that foreigners may not know of because their brands are not household names - are going to have to start selling some of their assets. These will amount to good opportunities for PE funds, plus the financial services sector will always add more. So it seems to me, looking ahead, that the picture can only improve."

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• Topics
• North Asia
• Investments
• Buyouts
• Exits
• Affinity Equity Partners
• Unitas Capital
• MBK Partners
• Vogo Investment
• Jason Shin