LP interview: LGT Capital Partners

From certain perspectives, Asia’s private equity industry may seem to be a victim of its own success. In the space of less than two decades, a number of GPs have established themselves as skilled investors. But the limited number of veteran fund managers means LPs that are new to the region may only have access to less proven stewards of capital. The situation reminds LGT Capital Partners (LGT CP) of the difficulty entering new funds from veteran Silicon Valley investors with a track record of backing successful tech firms like Facebook and Google.

“You have GPs now in Asia where if you’re not already an LP you never will be,” says Doug Coulter, a partner at LGT CP. “They’re not necessarily raising their fund sizes, or if they are they’re not raising them by very much, and the existing LP base all wants the same or more than they had last time, so certain funds you can’t get into, and that raises access concerns.”

This doesn’t mean that the investment window has closed for LPs hoping to enter Asia: on the contrary, Coulter believes that the opportunity is bigger than ever. But with relatively inexperienced managers offering the biggest openings for investment, local knowledge and connections are set to become vitally important to prospective investors. LPs unwilling to put in the time to develop strong networks on the ground will face a growing disadvantage against those that do their homework.

With its strong growth tailwinds and deepening pool of experienced investment talent, Asian private equity, and China in particular, form a major part of LGT CP’s future development plans. The Switzerland-based alternatives asset manager sees its longevity and the expertise it has built up over more than 20 years as key to its future success.

Slice of the pie

While Asia has made big strides as part of LGT CP’s portfolio since the firm arrived 15 years ago, the region still represents a relatively modest part of its assets under management (AUM). From an overall AUM of $55 billion across all asset classes, private equity accounts for around $30 billion, and Asia comprises about 10% of the latter figure.

China dominates LGT CP’s Asia portfolio, making up about half of its capital invested in the region historically with the rest spread across both developed and emerging markets in the region. LGT CP expects to maintain this balance going forward, even as it projects Asia overall to grow to 20% of its PE portfolio in coming years, with the US and Europe each accounting for approximately 40%.

Asia’s attraction for LGT CP is as varied as the markets that comprise it, with countries like Australia and Japan offering Western-style returns and lower risks, and emerging markets providing more exciting, dynamic performance that would be difficult to find in developed regions.

“Despite all the headlines about slowing growth in China, the fact of the matter is that China still has relatively healthy growth rates,” Coulter says. “More importantly, the places where Chinese managers focus their time and attention are pretty much all in sectors that are growing well in excess of China’s GDP. It’s not uncommon to see companies growing at 15-20% annually, which you don’t typically see in the West. The critical and difficult thing is figuring out which managers and companies are going to do well and which will not.”

The growth prospects in emerging Asia contribute to another source of attraction for LGT CP: the relative lack of leverage across Asian managers' portfolios as opposed to those in markets like the US and Europe. LGT CP sees this as offering advantages to Asian GPs that Western counterparts, which need to devote resources to deleveraging, will find hard to match.

“Even if it is a leveraged buyout – and we’re seeing more of them in China – you may see only a couple of turns of leverage as opposed to four to six in other markets,” says Coulter. “That provides more capacity for GPs to do dividend recaps down the road. It also gives managers more flexibility: if economies turn and businesses don’t grow as strongly as expected, obviously having less bank debt is better than more.”

The combination of these factors means that Asia’s emerging markets are not inherently more risky than other markets in LGT CP’s eyes, despite prejudice against the region among some investors. Coulter sees these concerns as originating in a misunderstanding of the market among people who, for the most part, have little direct knowledge of it.

“I think the risk-reward balance is probably overestimated by a lot of investors in the West who don’t travel to Asia much, don’t have people on the ground, and read headlines in the Wall Street Journal and the Financial Times about all the nasty things lurking in the darkness,” says Coulter. “The fact is that we’ve had no real issues with corporate governance or ESG [environment, social and governance] in our portfolios across Asian emerging markets over the past 15 years, though that is to some extent due to the fact that we take a real bottom-up approach to investing and have direct investment professionals on our PE team in Asia.”

This is not to say that Asia presents no risks or that investors can follow the same game plan that they would in the West. Rather, Coulter sees the risks presented in this region as fundamentally different from those in other markets and says prospective LPs must put in the time to familiarize themselves with the characteristics of the market.

The greatest source of risk for investors in Asia comes not from portfolio companies but from fund managers, especially newer GPs with less of a track record. While LPs might reach out to these firms after being shut out of funds raised by established GPs, they need to be aware of the dynamics that might affect performance.

In Asian venture capital, for example, the resounding success of some early investors in internet and e-commerce start-ups has spawned a growing field of GPs aiming to hit similar jackpots. Many of these new firms, often founded by veterans of successful GPs with several notable investments to their names, look impressive on paper. But by emphasizing the individuals involved, LPs can overlook important organizational factors.

“We focus a lot, as we should, on how good people are as investors, their previous track record and so on,” says Coulter. “But sometimes we don’t focus nearly enough on the ability of some of these general partners, who essentially are entrepreneurs, to build a long-term, sustainable franchise.”

LPs can inoculate themselves against this type of fund risk by beefing up their regional teams and committing to understanding the markets they hope to enter. LGT CP has a staff of 20 investment professionals in Hong Kong, along with offices in Beijing, Tokyo and Sydney. Coulter estimates the local staff attends over 1,500 meetings, including annual general meetings, advisory boards and due diligence sessions, across the region every year.

Broad coverage

Even with this level of engagement, LGT CP finds it challenging to put the region and industry in the proper context. The firm reviews 500 investment opportunities per year across primary and secondary fund commitments, along with co-investments, deciding on a handful of each. Coulter says without the deep collective market knowledge of the team it would be very difficult to sort the deals with high potential from losers with nothing behind them but hype.

In the case of co-investments, having reliable fund managers as partners is particularly important. While LGT CP keeps abreast of important developments in the regions where it operates, it relies on GPs to identify opportunities for co-investments and to provide it with market intelligence from a different perspective. These relationships are so vital to the firm’s strategy that it has no intention of risking them by seeking direct investment opportunities for itself.

“We’re a partner; it’s not part of our strategy to compete with GPs,” Coulter says. “They’re the ones who provide us with hopefully interesting co-investment opportunities, and they’re the ones who’ll be helpful to us as we’re doing diligence on secondary opportunities.”

Keeping these lines of communication open will be important as LGT CP transitions its portfolio to include more co-investment and secondary deals. The firm sees its pool of primary capital as a tool to position itself in the market and cement productive relationships, while shifting focus to new opportunities.

“We can’t just be a primaries-only house. By doing secondaries you can bring back cash quicker and cut the j-curve, and by co-investing you cut out the fees and carry,” says Coulter. “So you need to get the right blend of primary, secondary, and co-invest.”

As LGT CP’s investment strategy continues to evolve and its focus on Asia grows, the firm expects its local staff to assume even more importance in keeping it on track for the best opportunities. While fads come and go, LGT CP’s team will continue to be its greatest asset.

“I think the key really is to stay away from the losers. The new thing isn’t always that interesting, and the new spin-out isn’t necessarily going to make money,” Coulter says. “People do tend to chase fads, but fundamentally, private equity in Asia is no different than it is in the US and Europe. It’s difficult to generate first-quartile returns consistently over long periods of time.”

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• Topics
• Greater China
• Southeast Asia
• LPs
• Secondaries
• Fundraising
• China
• India
• LGT Capital Partners
• Co-investment