AVCJ Awards 2015: Fundraising - Large Cap & PE Professional of the Year: Jean Eric Salata

Q: Why do pan-regional funds appear to be getting bigger in Asia?

A: The asset class in Asia is growing and the investor base is still under-allocated to the region relative to other parts of the developed private equity world. The amount of capital being raised in this part of the world is therefore likely to grow over time, but activity is becoming more concentrated. A handful of large funds are raising larger pools of capital than they did for their predecessor funds, and there is a more mixed fundraising result for everyone else. Those funds are getting larger because there is a desire among LPs to support institutionalized firms that have more depth and a long track record, where they feel they can have a meaningful relationship with the fund manager.

Q: Are we reaching a point where fund sizes top out?

A: I don't think we are anywhere close to seeing where fund sizes top out, but the ability to increase fund size is a function of how well you are managing your current fund and the reasons for raising a larger fund. There are many examples of funds in the US and Europe that are north of $10 billion or $15 billion and they tend to be (by definition since they are attracting a large number of LP commitments) strong performers. I haven't seen any data that suggests top quartile funds are consistently smaller funds. On the contrary, my sense is that the larger funds have delivered more consistent performance across multiple vintages. If your objective is to pick the single top-performing fund in a market, it is more likely to be a small fund not a big fund - that is the law of large numbers. But it is not easy to identify those in advance. If your objective is to have high levels of certainty of achieving an above average outcome on your commitment, the chances of getting it right are higher with larger, more institutional firms than newer funds that tend to be less proven and a bit more driven by investment trends.

Q: To what extent are you seeing opportunities to write larger checks?

Looking at the deal flow today and where we are with our pipeline and commitments, I wish we had raised a little bit more money

A: We are seeing plenty of opportunities to invest in companies with an enterprise value of $500 million to $1 billion where we are deploying $200-500 million in equity. The market has really developed in that deal size category. And while it is competitive, there are maybe five or 10 funds in that space, not 100. We had demand for $6 billion in commitments in our last fund raise but capped the fund at $3.85 billion of outside money plus another $140 million of our own. Looking at the deal flow today and where we are with our pipeline and commitments, I wish we had raised a little bit more money. We could already have been more than 50% invested within 12 months of closing the fund, but that is not a smart thing to do because we need vintage diversification. So we are managing our investment pace, syndicating more equity to co-investors, and turning deals down that we otherwise might have done.

Q: How do you correlate the smaller fund sizes and different strategies on which track records are based with what firms want to do today?

A: In Asia particularly, the industry is a lot more dynamic than developed markets. What worked 10 years ago is not necessarily the strategy that is going to be successful today, nor is it the strategy that is going to be successful 10 years from now. Look at growth versus buyout investing. Buyouts were in their infancy in Asia 10 years ago but they have since become more mainstream. Meanwhile, there was a tremendous need for growth capital in the formative phase of many Chinese companies, but that opportunity is different today because companies are bigger, markets are more mature, and there are more sources of capital. There is a demand for different kinds of solutions related to generational change in businesses or consolidation pressure companies are facing as a result of slowing growth. In the past were operating with one hand tied behind our back because we didn't have control and we didn't have financial leverage, so all the return had to come from growth in the business rather than margin improvement or some sort of operational efficiencies. Now the drivers of the return profile are more diversified.

Q: From Nord Anglia Education in 2008 to Vistra Group this year, Baring Asia's deals are also more global than before...

A: There are firms we compete against that are already global and we want to make sure we have the perspective and capabilities to address that. I think you can still be specialized in Asia and invest in global companies, although at the same time there is a danger of overextending a strategy of cross-border or globalization and doing things that are outside of your core competencies. Vistra is a good example of a company that is very global but based in Hong Kong. These kinds of deals relate to the question of fund size as well because these targets tend to be larger, more established companies. They require a larger equity check underwriting and they are also much more complex in terms of financing, due diligence and post-deal integration. Could we have done Nord Anglia or Vistra in Fund III? Absolutely not. We wouldn't have had the money nor the capabilities.

Q: Vistra is also an example of one of several secondary deals you have done. Why are they becoming more prevalent?

A: That is a very natural progression of the private equity industry. It's the majority of the market in Europe and it's proven to be a very successful strategy generally.

Q: And then two secondary deals in India - Hexaware and CMS Info Systems - were buyouts of businesses in which the existing investors had minority stakes...

A: In India there hasn't been a lot of liquidity for private equity investments and longer-than-expected holding periods. The public markets aren't necessarily providing liquidity and there isn't a huge amount of trade sale activity. In some cases, there is a generational change issue as well as a cyclical issue, and we are starting to see family members or founders being convinced by their PE investors to sell control of their businesses. That is what happened with Hexaware Technologies - we bought 75% from the founder and from two other PE funds that had small stakes, and a bit from the public markets as well.

Q: Is this happening in other markets as well?

A: Yes. It's not news that emerging Asia has been underperforming; public markets have been choppy and sentiment has been pretty negative. Money has been going to the US, where the stock market is close to an all-time high, while Asia is trading at close to a single-digit earnings multiple. The normal paths to liquidity have not been that straightforward. There are some exceptions - there have been some good trade sales and IPOs - but there are a lot more cases of investments that are orphaned or have been held longer than intended. We see opportunities to step in and buy these businesses at reasonable valuations.

Q: Internet businesses are absent from your portfolio at a time when many other PE firms are looking at the space. Why is this?

A: My view is there is a serious bubble in the sector and the vast majority of investments are not going to work out. It's a sector that has attracted a lot of capital, and it is transforming the way business is done, but it's not clear to me that this is creating a lot of value for the investors or companies operating those businesses. The biggest beneficiaries are consumers who get access to goods and services at lower prices because investors are subsidizing uneconomic price levels.

Q: What are you seeing in terms of LP interest in co-investment?

A: Investors are certainly focused on getting more co-investment opportunities. I view that as a positive. It means people have a higher conviction about investing in Asia; they no longer view the region as so risky that they will put money into a diversified fund but never directly into a deal. We had about $500 million in co-investment alongside Fund V and I would expect it to be similar in the current fund if not greater. That is very much in line with our approach. We want to do deals with more predictable outcomes, higher entry barriers, stable cash flow profiles, and control. We want to be active owners and have more control over the outcome - by setting and executing a strategy - rather than relying on external factors like market growth.

Q: What other factors are important to this approach?

A: You need scale to have operational capabilities, to look at different markets with in-country teams, to have dedicated people in certain sectors and for certain types of transactions. And you need some scale at the fund level to build this internal scale - these things feed off each other. If you are a $500 million fund you can't operate the way we do today, with 130 people, including a 10-person operating team. You might only have 10 people on your investment team. There are limitations both ways and I think it's a healthy debate about what the right fund size should be at any given point in a cycle.

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• Topics
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• Baring Private Equity Asia
• Jean Eric Salata
• Fundraising
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