Q&A: The Longreach Group’s Mark Chiba

Q: What’s deal flow like right now?

A: We’ve never been busier, and it really sprung out of the COVID period. Everyone is now back, and there’s a lot of pent-up deal flow, certainly in the middle market. Every deal we did in Fund III was fully exclusive or we moved on an auction early, and we are looking at two more that are also exclusive. This tells me there are plenty of opportunities to go around. I think we will also more exit activity as well, because a lot of mid-market GPs are backed up with businesses they couldn’t sell during the pandemic. Some of those businesses might not be where they’re supposed to be, but GPs will have to move on exits anyway.

Q: Trade sale activity has been generally weak across Asia. Are these GPs more likely to sell to other private equity firms than to strategic investors?

A: The strategics should come back, but yes, I do think there will be more sponsor-to-sponsor sales. We sold two businesses in 2021: Primo Japan went to Integral Corporation and Hitachi Via Mechanics went to Advantage Partners. We agonised about selling because it was a difficult time to exit – borders were closed, no one could get into Japan to conduct due diligence and none of the Japanese groups could get into markets like China. In the end, we had reasonable offers and decided it made sense to take some risk off the table. Those assets went to Japanese sponsors in part because they relied on what we told them about the non-Japan parts. Now it’s easier to travel and more foreign players are coming in.

Q: What kind of exit do management teams usually prefer?

A: In most cases, they would prefer an IPO or a sale to another sponsor. A strategic buyer is likely to replace them or make them small parts of a larger organisation. From our perspective, having exit flexibility is important. We don’t want to be trapped by a management team wanting to go a certain way.

Q: Are carve-outs still the dominant source of deal flow for Longreach?

A: Corporate carve-outs remain strong, but we are seeing more founder-succession opportunities as well. A lot of our deals are now bolt-on acquisitions that combine different deal types. For example, we carved out Kohikan, our coffee shop chain, from UCC Foodservice Systems in 2018 and then we bolted on Caffe Veloce, which was a founder deal, and Café de Cri, which was from Sapporo Group Foods. It’s the same in business services: Japan Systems was a carve-out and Blueship was a founder-succession deal.

Q: Why are there more platform deals?

A: There are nine investments in Fund III and six of them are platforms. We’ve always wanted to do platform building, but it’s become more accessible in the last few years. When we bought Japan Systems, we were already looking at about 50 bolt-on opportunities. Why is there so much liquidity in the bolt-on space? More founders want to sell and it’s no longer controversial for corporates to sell to private equity.

Q: Japan Systems is one of a growing number of business services deals. What’s behind this?

A: It’s because Japan is far behind on digitalisation – this is the country where the fax machine refuses to die – and digitalisation catch-up is a huge secular trend. Blueship has the Japan franchise for ServiceNow, a US-based SaaS [software-as-a-service] systems integration provider. A lot of foreign companies are coming in and finding opportunities they couldn’t find before, and this will lead to market consolidation. On the other side, the labour shortage is getting worse and worse, so anything to do with outsourcing or strategies that reduce labour reliance vulnerabilities are seeing a lot of activity.

Q: There are also more – or expectations of more – public-to-private deals…

A: It goes back to the legitimacy of private equity as a buyer being fully established. At the same time, a lot of Japanese conglomerates spun out minority positions via IPO years ago and it’s no longer feasible for them to retain those positions and then there are founders who hold stakes in companies that are illiquid, so they cannot exit through the public markets. There are also efforts to clean up the Tokyo Stock Exchange by removing zombie-like companies that trade at book value and are illiquid. They want to re-establish Tokyo as a more vibrant and attractive IPO destination, but it’s difficult. Going public used to be the ultimate reputational halo in Japan. That’s no longer the case.

Q: Can you source deals simply by working through a list of companies that trade at book value?

A: Yes, but do you have the right connections to influence founders and decision makers? Finding a target is relatively easy; turning it into a deal is the hard part. You still have recalcitrant parties that require direct persuasion. Say the founder has died, the family has sold down part of its holding, and management is doing its own thing – there are lots of different dynamics. I think we will see more situations where small activist funds band together with foreign institutional investors and pursue take-privates. The activist might have 10%-20% of a company and they’ve spent a year or two talking to management without getting anywhere. They could sell and take a discount, or they could approach a private equity firm or another institutional investor and invite them to launch a tender offer.

Q: Longreach’s deals have a Japan angle, but the companies aren’t necessarily based in Japan. What difference does this make?

We are unusual in being a mid-market firm with genuine cross-border, cross-cultural deal execution, value creation and exit capabilities. Japan Systems was a take-private transactions, but we had to deal with DXC Technology, the company’s US parent. It was a USD 77m cheque. Had it been USD 770m, there would have been a lot of takers, but DXC couldn’t find anyone to do it. Domestic GPs struggle to handle these situations. Of the nine Fund III investments, two are based in Hong Kong and we originated them based on our Japan capabilities. The founders rolled over their equity with us because they saw the potential of expansion in Japan and going global.

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• Topics
• North Asia
• GPs
• Buyouts
• Japan
• The Longreach Group Limited