LP interview: Arizona PSPRS

When Arizona Public Safety Personnel Retirement System (Arizona PSPRS) first put capital at work in Asian private equity, it backed Baring Private Equity Asia's $2.46 billion fifth fund, which closed in 2010. Last week, the GP raised $3.98 billion for Fund VI and Arizona PSPRS participated once again, contributing $20 million. 

"From a risk control point of view, the stability of the team and its downside protection give us a lot of comfort, because the problem with many Asian managers is that the partners are moving around very often," says Shan Chen, portfolio manager at Arizona PSPRS. "We don't really expect that they [Baring] will deliver outsize returns in the latest fund. But for a US-based LP investing in Asia, this is a pretty good choice. That's the same scenario for us to invest in KKR."

With $8.1 billion in asset under management, Arizona PSPRS has increased its target allocation for private equity from 11% to around 13% and currently has $1.1 billion invested in the asset class globally. There is no specific target for Asian exposure but the pension fund wants to have 15% deployed in emerging markets.

Arizona PSPRS has committed about $150 million in Asian PE funds since it first made the jump with Baring Asia, with China the primary focus.

"At that time, we really debated a lot on whether we should go for regional funds or country-focused funds first," Chen says. "We could invest in country funds by leveraging our consultants' expertise in each Asian country. However, we chose to go for regional funds to begin with because we don't want to make any mistakes."

Chen, who joined Arizona PSPRS in 2007, plays a solo role in overseeing private equity asset allocation. There are another five fund managers responsible for credit and real asset investments. While he recognizes the potential of country funds, governments wield substantial influence in each Asian market, without a local presence, it is difficult to foresee change.

Arizona PSPRS followed up its commitment to Baring Asia in 2010 with a $25 million investment in KKR Asian Fund II in 2012, which closed at $6 billion.

Hybrid approach

The pension system also tries to find GPs in the US that have China or Asian exposure. Healthcare-focused Vivo Capital is a classic example. Four of the firms six partners are based in the US but it also has local teams in Shanghai, Chengdu and Beijing. The GP is currently investing its $375 million seventh fund in the US and China, and the latter market is responsible for a sizable portion of returns.

"They have a kind of hybrid approach and we want to take advantage of it. Since they have offices in the US, once we want to make the call, we don't have to worry about the time difference. There aren't many cross-border funds like this in the market. They get more used to US-based LPs and it just makes things a bit easier for us," Chen says.

Having cut its teeth with regional funds, Arizona PSPRS started building relationships with country managers, including China-based Trustbridge Partners, which it got to know through Stepstone and Opal Financial Group.

Trustbridge, which was set up in 2006, specializes in growth capital and expansion stage investments. It has backed the likes of shopping-focused mobile network Mogujie and online peer-to-peer lending platform Renrendai.

Compared to Baring Asia and KKR, Trustbridge represents a high-risk investment and Arizona PSPRS has spent more time conducting due diligence on the team and its track record. "When we look at their strategy, they're very opportunistic and they're consistently evaluating their approach," says Chen. "The team is very sensitive to market conditions and changes strategy accordingly."

Temasek Holdings and Goldman Sachs' commitments to Trustbridge's previous funds also provide a sufficient reference for Arizona PSPRS. The pension system committed $30 million to Trustbridge Fund IV in 2011 and re-upped in Fund V with the same amount last year.

Chen is looking to deploy 70% of the Asia allocation in China, with the rest spread across India and Southeast Asia, committing $20-$40 million per fund. Overall, the pension system expects to generate a 2-2.5x money multiple and a 20-25% of IRR from its private equity portfolios. "We are careful in terms of the investment size in each fund. We only have about five years of experience investing in private equity, which is still quite short. We want to be patient," Shan says.

Taking it slow

Arizona PSPRS made its first foray into Asian real assets around the same time it started investing private equity, contributing $30 million to both J.P. Morgan's Asian Infrastructure & Related Resources Opportunity (AIRRO) Fund and CLSA Capital Partner's Fudo Capital. Over 50% of the corpus in AIRRO Fund was invested in India and there have been opportunities for co-investment. On the credit side, the pension system also went for a pan-Asian player - PAG's Pacific Alliance Asia Special Situation Fund - in 2011.

There are currently no plans to co-invest alongside Asian private equity GPs, mainly due to the pension system's lack of a presence in Asia.

Nevertheless, more buyout opportunities are expected to emerge across the region, particularly from China where cross-border deals have become an area of focus for many GPs. But Arizona PSPRS will, once again, remain patient.

"In China, the buyout opportunities are there, such as the privatization of state-owned enterprises (SOEs) or succession planning issues among private enterprises. It's logical to expect that there will be more buyouts. I think those opportunities will play out in at least five years," Chen says. "We will watch them closely. But I won't feel bad if I miss first of few deals."

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