Korea’s LP problem

Korea Post announced last October that it wanted to invest $30 million in a global secondary fund. The institutional investor called for applicants with at least $500 million in assets, a maturity of 10-12 years and a target IRR above 8%. It was willing to pay management fees of 2% during the five-year investment period, falling below this threshold thereafter. Carried interest shouldn't exceed 20% unless the IRR bettered 8%.

This invitation to tender and dictation of terms would be familiar to most Korean GPs. But local private equity funds face a much tougher time than their foreign counterparts when trying to secure allocations from the likes of Korea Post.

The auction-based process takes into account investment track records, but with precious little data to go on, price is a key factor. Management fees and carried interest are below international standards. Some industry participants question whether the LPs are really getting value.

"It's a very transparent process but is a lowest-price-wins approach the best way?" asks one fund manager. "It may be consistent but I don't see it as a sustainable way of managing money."

LP shortage

One problem is the limited scope of Korea's LP space. Strip out the contributions of financial institutions that have captive private equity units - which account for the majority of managers - and you are left with five major institutional investors plus a clutch of banks and insurers.

The National Pension Service (NPS) accounts for about 70% of this capital pool. Korea Finance Corporation, a policy institution spun out from Korea Development Bank, is the second most prolific PE investor, with Korea Teachers Pension Fund, the Military Mutual Aid Association and Korea Post little more than bit-part players.

There are 162 private equity funds registered with the regulators and it is estimated there about 40-50 GPs, some of which only really do one-off project finance vehicles. The typical domestic GP receives half its capital from its financial institution parent and the other half from one or two LPs, with the NPS an almost ubiquitous presence.

"The Korean LP base is small, shallow and not sustainable," says Jason Shin, managing partner at Vogo Investment. "GPs have to get money from overseas - that is what we are doing and that is what our Korean peer group will start to do."

Vogo raised around $540 million for its first fund, which closed in 2005, and a further $480 million in 2011 for a vehicle dedicated to the purchase of a controlling stake in Tong Yang Life Insurance. About 20% of the first fund's corpus came from overseas LPs and the private equity firm wants this proportion to increase for its third vehicle, which has a target of $650 million.

While most Korean GPs would like to raise capital from foreign sources - not least because it is seen as a sign of prestige - few have succeeded. Only MBK Partners and Hahn & Co. can claim to have received substantial backing from overseas LPs, and this is in a large part due to the reputations of their respective founders. MBK's Michael Kim was formerly co-head of Asian buyouts at The Carlyle Group while Scott Hahn spun out from Morgan Stanley Private Equity Asia, where he was CIO.

Of the rest, Vogo and H&Q have attracted relatively small contributions from overseas. STIC Investments also enjoyed some success in the venture space. Captive or sponsored GPs, meanwhile, will always struggle to win support from foreign LPs.

No back story

In order to win over overseas LPs and to give the likes of NPS a better means of assessing fund managers, track records are crucial. Unfortunately, they don't go back a long way.

Prior to 2005, there were no domestic GPs. Partly driven by the success of foreign private equity firms in Korea from the late 1990s, a huge number of local players entered the market. According to AVCJ Research, fundraising ballooned to $7.7 billion in 2006, a level that was never going to be sustained. Private equity vehicles attracted just $3.3 billion in 2007, and although this climbed to $5.2 billion three years later, 2011 saw just $2.9 billion in capital raised.

According to Vogo's Shin, the large domestic institutional investors are already using what data they have on GPs' past performance. Once there is more of it, those who can point to evidence of success will be able to get sustained commitments from LPs.

It is also worth noting that the NPS itself is a relatively young private equity investor. Hahn & Co's Hahn recalls that when Morgan Stanley invested in Landmark Investment Trust in 2002, the pension fund had only just begun to issue mandates for public equities - and expectations of its future commitments to the space were significant factor in pursuing that particular deal. "Since then the NPS' assets under management have quadrupled," he says.

As the market develops, there will inevitably be some consolidation - the general consensus is that 40 GPs is too many. There are currently only about 8-10 independent players with more than $300 million in assets under management who might have sufficient momentum to prevail.

"A lot of domestic GPs aren't going to be successful in raising their second funds," says Shin. "And then in 3-5 years only a small group of them will be able to tap foreign capital."

• Tweet  
• Facebook  
• LinkedIn  
• Google plus  
• Save this article  
• Send to  

• Topics
• North Asia
• LPs
• Fundraising
• Korea Post
• South Korea
• GPs
• LPs
• Fundraising
• National Pension Service (Korea)