The crystal ball: Predictions for 2019

VICTOR AI, MANAGING DIRECTOR AT CHINA EVERBRIGHT, ON CHINA: 

I think the gap between the renminbi and US dollar fundraising spaces will narrow next year. Renminbi fundraising will become easier in 2019 after this year’s cooling off, which in part happened because China’s deleveraging push made it harder for GPs to raise money from institutions like banks. This situation should improve next year. Meanwhile, due to the continuing China-US trade tensions and the poorly performing stock markets in the US, fundraising for US dollar vehicles targeting China will face more pressure.

In terms of sectors, artificial intelligence is definitely still worth a lot of attention. However, as capital flowing into this sector has already reached historic highs this year, a bubble is forming, and some GPs could get their fingers burnt. Whether or not they can make money depends on AI companies actually putting their services to commercial use – for example, some are being used to upgrade traditional manufacturing industries. There should be signs of a correction in the second half of next year when a lot of AI companies will be in their third or fourth year after first receiving funding and investors will be wanting them to deliver. Those that are unprofitable or have failed to list could disappear.

Buyouts is another trend that needs watching. Opportunities in this space in 2019 should be greater than in recent years, and we are likely to see some more mega deals occur. If the market becomes more active, the volume of buyout deals in China in which funds participate, could, for the first time, surpass those in which corporates participate.

The exit environment should become better in China next year with the expected arrival of the Ke Chuang Ban, the new technology board on the Shanghai Stock Exchange which is supposed to offer more relaxed rules on listings, However, companies that are not good quality could find it still difficult to list because the thresholds they must meet are, in general, still high even for a new board.

SRIKRISHNA DWARAM, PARTNER AT TRUE NORTH, ON INDIA:

In terms of money deployed, 2017 and 2018 were an all-time high. So, despite some of the hiccups we’ve seen and the slowing down of capital markets, there has been no impact on the momentum of new investments. We expect that to continue. Investments in India are largely driven by four key sectors: healthcare, financial services, consumer, and technology. These have probably contributed more than 60% of deal volume in the last three or four years, and most PE firms will focus on these spaces in the future as well.

There are challenges linked to the real estate, infrastructure, and wholesale financial services – and while there have been many steps taken to resolve them, I think it’s still a work in progress. But that hasn’t really affected the deal volume, and we expect to continue to see a lot of action going forward. The elections are also worth following next year, but they don’t seem to have much impact. If there are companies that hold off on public markets capital raising, they might decide to come to the private domain instead, so we could see more deals emerging there.

In terms of exits, last year was the best ever – I think we returned around $12 billion as an industry, and this year the total dollar value returned could be as high as $28-30 billion, though a large part of that is the Flipkart exit. Setting that deal aside, we will probably match or beat last year’s numbers, so exits have been broadly the same. What’s more interesting is that public market-related exits, both sales of listed shares held by PE investors as well as IPO-linked exits, have come down significantly – but M&A and private equity secondaries have made up the shortfall. 

That’s a sign of the industry’s maturity. You have a good set of investors who are funding strong businesses; those businesses then do well enough to be bought by other high-quality PE investors. It shows that there is depth in the market and so exit momentum will increasingly be insulated from the vagaries of the public markets.

GREG HARA, CEO AND MANAGING PARTNER AT J-STAR, ON JAPAN: 

I see two issues for 2019. One is tensions between the US and China. That will have a negative impact but should be insignificant from a numbers standpoint as the OECD and IMF forecast. It will result in weaker sentiment. Secondly, there is a planned consumer tax hike from 8% to 10% in October 2019, which will lead to softer demand in consumer areas. However, it will not have a much real economic impact, especially since the government is planning an economic stimulus and spending related to the Olympic Games in 2020 will continue at a high level.

These concerns will impact sellers’ mindsets and create some deal opportunities for private equity. Companies with a founder close to retirement will use them as an excuse to sell the company, and valuations should be slightly lower. 

There will also be more deals with the smaller companies doing succession transactions, including companies in rural areas. The positive noises made by the listed M&A houses and the big banks have created a significant change in people’s mentality about private equity. Five years ago, we were barbarians at the gate, but now we’re treated as economic reformers. 

The labor shortage continues to be one of the biggest issues in Japan. It will lead to increased household incomes and create demand for time-savings in certain areas. Meanwhile, the more attractive sectors will continue to be healthcare and services, including business outsourcing, staffing services, restaurants and entertainment, and anything to do with labor and time-saving.

BRAHMAL VASUDEVAN, CEO AT CREADOR, ON SOUTHEAST ASIA:

Valuations have been very high in Southeast Asia. We’ve seen some normalcy return with the recent market corrections, but growth appears to be slowing and it’s much harder to find high-quality companies at this point in time.  For 2019, I would expect more of the same. In terms of growth, we’re probably in a flat to downcycle. 

Indonesia has been extremely disappointing for most investors for the past 5-6 years. Vietnam is an emerging area with lots of excitement but very few deals. Public markets across the region have been very subdued, and I think that will continue, so exits are clearly going to be much harder. It’s going to be a tougher market, especially compared to China or India. 

Having said that, there are always going to be new champions emerging because it’s no doubt we have a great region with 600 million people and lots of emerging entrepreneurs. I think we will see some new opportunities in the next couple of years from companies that are bringing something new to the market in terms of lower prices or better value to consumers.

The best opportunities will not necessarily be in tech, where people have been making these big bets from 30,000 feet. For example, we’re going to see lots of growth in areas like value retailing such as dollar-stores, especially in Malaysia and Indonesia. 

Investors will have to take a very proactive approach approaching these companies and going after them early in their growth cycle before they need capital. They will also need to be very active in post-deal engagement. That means convincing companies that we not only provide capital but also support for development and cost reductions. 

Clearly, countries like Vietnam, Malaysia, and Singapore are going to be beneficiaries of trade tensions, but we’re already seeing signs that the trade war is going to get resolved. I do think it’s going to push some China-plus-one strategies where China is still the main hub, but you might see some migration of manufacturing to other countries.

However, the sectors affected by this are not really where private equity invests. So, it may be good for overall macro growth, but I question how it will translate into investment opportunities next year. In general, PE activity will continue to focus mainly on Indonesia, Malaysia and Vietnam.

PAMELA FUNG, EXECUTIVE DIRECTOR AT MORGAN STANLEY ALTERNATIVE INVESTMENT PARTNERS, ON BUYOUTS:

We have observed that there’s quite a bit of dry powder in some of the more established buyout markets in Asia, including Japan and Australia, with leverage readily available, so we remain cautious on valuations in those markets. We believe deal flow will likely remain elevated in 2019, as a function of the capital raised, but the relative depth of those markets should be noted, both at the large-cap and smaller end of the market. 

Among less developed markets in Asia, in our view, India has good traction in terms of buyout activity. The initial impetus was the difficult economic situation 5-10 years ago, but momentum for buyouts has been sustained due to successful deals in which founders have made money after PE investors have gotten involved. We expect buyout deal flow to continue to grow. While India should continue to be one of the faster growing economies in the region, there will likely be some near-term challenges arising from the upcoming elections, tightening of liquidity due to the recent difficulties in the NBFC [non-banking finance company] segment, and external factors. 

Southeast Asia continues to be overlooked but we think it is still one of the more interesting markets – relatively fast growth, and a large number of small multi-generational family-run businesses that could present good targets for buyouts. Even though deal flow can be harder to come by you can come across some very interesting deals at attractive valuations. More and more local buyout investors are emerging at the smaller end of the market.

The big question is China, which is facing uncertainty around the trade war. We think we’ll see more buyouts, but it will be gradual, not a flood. Some potential drivers include businesses reaching a scale and complexity where the original founders can no longer manage and realize they need help, as well as succession issues. Buyouts in China have been generally overlooked, with most investors focusing on the fast-growing tech sector. Also, Chinese GPs have been relatively less focused on deep operational involvement, so the number of investors who can make the leap to becoming buyout investors is limited.

JASON SAMBANJU, PARTNER AT FOUNDATION PRIVATE EQUITY, ON SECONDARIES IN ASIA:

This was a very strong year across the board in terms of deal volume, value, and types of transactions, particularly fund restructurings. Some of that activity will continue into next year just because a number of large transactions are still in process and should close in 2019. Whether or not the trend line will continue will depend a lot on GP motivations to stimulate fundraising interest and bridge into new commitments. 

LPs in Asia are increasingly committing to the larger funds and more established global names. That suggests that fundraising for the smaller, country-focused and regional funds is not necessarily going to get any easier, and GPs may have to continue to consider more creative means of stimulating demand for future funds by putting to market secondary opportunities and secondary portfolios. 

The exit environment will also be an important factor, but for now, it doesn’t seem to have a very strong correlation to secondaries. Globally, we’ve seen very good markets for private equity exits in the last few years both in trade sales and IPOs. However, at the same time, the secondary market has gone from strength to strength. The rising tide has lifted all boats, it seems, but I think a correlation with exits might more obviously surface in a down-market. 

It will be interesting to see what happens when the economy turns. If there are fewer exits, there could be an uptick in secondaries, but that remains to be seen. Part of the difficulty in the Asian exit equation is thinking about China, which has tightly controlled capital markets with different dynamics to the rest of the world. Right now, geopolitics seem to be holding sway, so you can see how exits could be relatively muted next year. 

Asian secondary fundraising will be interesting in 2019 because quite a few of the major players are looking to raise larger funds. Large global firms will continue to pursue Asian deals, but I don’t foresee them making moves into the region in terms of opening offices as those who want to be here probably already are. However, some mid-sized non-Asian secondary firms may expand their presence here as a way of offsetting competition pressure back in their core markets.

PATRICK LOOFBOURROW, PARTNER AT COOLEY, ON LATE-STAGE TECH:

Later-stage valuations – Series C and D rounds – continue to go up across the board globally. In September and October, we saw people hold off on deploying in Asia but now a lot of term sheets are going out and a lot of deals are getting done. While valuations have settled, you have to look at it in the context of the market becoming a bit overheated earlier this year. Correction is too strong a word, it’s more like valuations are getting back on track.

That’s why people are putting out more term sheets now. There are a lot of rumors about late-stage tech companies going public in 2019. However, the market has been choppy and it’s unclear whether it will settle down. A couple of months ago, there was the hope that after the US mid-term elections and with more clarity around the trade war, the Asian markets would be less volatile. That hasn’t played out. If anything, there seems to be more volatility, especially in the cross-border context, and this creates uncertainty as we look towards 2019.

Even if the capital markets end up not being particularly cooperative, a lot of these tech companies will be able to get out or otherwise keep growing because they are strong and stable, or they have staying power and access to capital. They will continue to create value and raise private capital. We see more participants in these later-stage deals, including the larger private equity funds and strategic investors.

It is very interesting to see tech companies making investments. Some of these companies have been through very successful fundraises themselves, so there will be more capital available for deployment in 2019. They are disrupters in their core business areas and now, instead of buying smaller companies because everything is so expensive, they are cooperating and making investments with a strategic rationale.

KYLE SHAW, FOUNDER AND MANAGING PARTNER AT SHAW KWEI & PARTNERS, ON INDUSTRIALS:

China will not be attracting a lot of foreign investment. More foreign investment will be thinking about going to Southeast Asia, but they will find it difficult because of the unavailability of opportunities. The area I think will get a lot of attention is advanced manufacturing. Asia is good at manufacturing low to medium complexity products but Dyson, for example, is putting GBP2 billion ($2.5 billion) into an electric vehicle (EV) plant in Singapore. 

This is huge because auto manufacturing is a magnet for other ancillary manufacturers, and knowhow and engineering skills. To have a new EV plant in Singapore – which has tariff-free relationships with the world – is going to create a lot more advanced manufacturing in the country. And that will spill over into Malaysia. 

To do microelectronics, the internet of things, electric vehicles and autonomous vehicles, companies must upgrade their manufacturing kits, which means there is a need for capital. It’s not growth capital or restructuring, it’s basically the next chapter. If you have been making components for iPhones then you understand electronics, but you might not be suited for EVs. You need to invest in plastic injection, metal stamping, aluminum die-casting and machining, and all kinds of inspection equipment because the quality must be high. 

China needs this investment too. A lot of manufacturers have enjoyed 30 years of growth but now they are hitting a point where they either die or they reinvest to go forward. China is going to be more about investing for China as opposed to investing for export. To feed a consumer nation you must have a product. The internet of people has played out, we are all connected, there’s not a lot more upside you can get from that. But connecting things to each other – which is essential for autonomous vehicles, as well as for ovens you program on the way home and refrigerators that tell you when you’ve run out of milk – is becoming more and more important. The opportunity will be in taking the best-in-class operators of today to the next level.

MANISH JAIN, PARTNER AT KPMG INDIA, ON FINTECH:

Fintech investment will increase in 2019, with payments remaining the number-one category but with digital identification and lending growing fast. I expect start-up valuations to rise. 

I’ve seen a lot of interest across Asia, including Australia and the ASEAN countries, from corporations that are looking at how they can use facial recognition, voice and biometrics as form factors. Insurance and banking associations will be looking to put these technologies together into a platform based on rising security concerns and the evolving customer journey, especially in developing countries. 

As digital lending matures in the coming year, we’re going to see an ‘Uberization’ of the process of collecting loans and depositing them in the accounts of their respective lenders. This will be driven across Asia by the growing availability of data. Across payments, digital identity and lending, China will see the most growth in investment followed by India. This is just a function of the size of the markets. 

We’ve seen a lot of new fintech accelerators and that trend will continue. That’s because the quality in output of individual fintech start-ups is not really what is needed to scale up. We will be seeing growth in accelerators as an evolution in innovation-as-a-service, where industries present specific business use-cases or problems and multiple fintechs will be aligned to create an end-to-end flow for solving the problem. That service is where the most investment is going to be required. 

Finally, I see two things that will take a leap in the coming year in blockchain: provenance and consortia. Increased prominence means that there will be more tracking of information across entire supply chains. This will lead to the creation of consortia in areas like banking and insurance, where trade transactions will be organized on a blockchain. In trading industry consortia, for example, they will bring together data in customs brokerage and commodity exchange. 

The physical movements of goods and financial documents will be linked and available for all parties to view based on their permissions. This will happen in Asia where banks are already coming together and showing willingness. Once blockchain consortia are formed and transactions are starting to happen, there will be more tokenization and more ICOs, but that will not happen in the immediate future due to crypto regulations. Bringing governments together on blockchain is going to be a big challenge. 

DOUG COULTER, PARTNER AT LGT CAPITAL PARTNERS, ON THE LP PERSPECTIVE:

In some respects, it feels like top of cycle right now, and we’re seeing a lot of top-of-cycle behavior from GPs. Valuations are at pretty high levels in general, relatively high levels of debt are being used in buyouts, and a lot of late-stage venture financing rounds for unicorns are being done. 

All of those things could make one a bit nervous going forward. But if you take a five-year view, I don’t think there’s any particular reason to be alarmed. There’s been a steady climb in exits and divestments from private equity-backed companies in Asia in recent years – 2017 was a record, and the numbers for 2018 are likely to be in the same ballpark or possibly even higher. And this is despite the fact that emerging markets in general had a pretty bad year in 2018 in terms of public markets. 

I think that, for a lot of investors, the reason they remain interested in allocating to Asian private equity is because they are taking that longer-term view. There has also been so much instability in the public markets, maybe the private market is a better place to allocate capital.          

Even if we’re heading into a downturn, it may not be the worst thing in the world, because GPs will be able to pick up companies at lower valuations, and that probably means better vintage years overall and better returns in the future. The secondaries market would also become more interesting. 

One last point is that the way the numbers are going, China could by this year or next become the world’s largest venture capital market, surpassing Silicon Valley for the first time. It’s amazing how far we’ve come in the past decade, and I think we’ll continue to see an evolution of the private equity market in China. We’re already seeing more buyouts, and we’ll see more next year. If you look further ahead I wouldn’t be surprised if China became the world’s largest buyout market a decade from now as well as the world’s largest private equity market overall.

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• Topics
• Greater China
• South Asia
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