Q&A: Auda's Ernest Boles, Jacob Chiu & Lucian Wu

Q: Auda opened an office in Shanghai earlier this year and Jacob and Lucian are two of a number of new hires. What are your plans?

ERNEST BOLES (pictured): The first investments were made, as a family office, in the late 1990s. In 2007 we established a presence in Asia and built a team focused predominately on primary investing. We have some secondaries and co-investment, but it has fundamentally been a fund-of-funds primary strategy on a pan-Asian basis. We see a real opportunity for continued growth in Asia and have decided to expand our team with additional senior resources, including a senior secondary capability. We want to better position ourselves to access opportunities in the region and at the same time be better positioned to support separately managed account mandates.

Q: Do you increasing demand for separately managed accounts?

EB: Directionally, there seems to be a growing demand for separately managed accounts, often looking for a combination of primary, secondary and co-investments. Clients might have been in the region for 10 years through fund of funds and are looking at the separate account as a solution to expand their portfolio, be more selective, and/or be more involved in the portfolio construction process. It is completely client-driven. There isn't a specific minimum threshold and more of a question of what is required to achieve appropriate levels of diversification. To diversify, you would ideally allocate to at least 10 GPs in the portfolio, so a $5 million commitment per GP would require at least $50 million.

Q: What sort of primary-secondary-co-investment blend do you have in the core comingled products?

EB: The portfolio typically is structured with ranges of 60-70% in primary, 20-30% in secondaries, and zero to 10% in co-investment. Those are general guidelines to give our clients a sense as to what the portfolio would look like, but we keep the framework relatively flexible. We closed our latest global secondaries program last year with $330 million, which is currently being invested. We have done four secondary deals in Asia, with two coming from the latest secondaries fund.

Q: Are the Asian secondaries opportunities mainly LP stakes or directs?

LUCIAN WU: We expect to do a bit of both. Over the last few years I have seen more directs than LP stakes in Asia compared to the developed markets, but things are evolving. We are now beginning to see more LP interests being traded here. There seems to be more investor fatigue around India, for example. It has become a very interesting secondary market and we think it may be for a while. In the last 3-4 years we have seen a lot of movement in between franchises, creating spin-out opportunities and direct opportunities. So it has been kind of active.

Q: You previously worked at Paul Capital, a secondaries specialist. How does being part of a multi-strategy firm change your approach?

LW: A multi-strategy one-stop shop - that is what investors seem to be looking for nowadays. We believe that to be credible, one has to be able to provide all those services and then let the investor choose what is best for them. One strong differentiating factor for Auda is that we operate as one team. It is not uncommon in other houses for the secondaries guys not to talk to the primary guys.

EB: We have a global platform with shared resources and local expertise and execution. Our approach has been to make sure that we are a single team with very clear lines of responsibility. We share resources - call it the analyst pool - on a global basis. For example, we recently sent one of our Hong Kong-based professionals to New York for six months for training on our secondaries strategy, which is executed globally. There is a weekly call where we allocate resources and prioritize deals. A particular transaction might be staffed from Bad Homburg, Hong Kong and New York.

Q: So how far-reaching is the expansion strategy?

EB: We are owned by the Harald Quandt family and have launched a global initiative under the brand HQ Capital. This is intended to bring together our different alternative asset management businesses: Auda; Real Estate Capital Partners, which up until now that has been a US-focused property development and asset management business; and Equita, a direct investment business that targets mid-cap companies in German-speaking areas. We have brought in David Pierce under HQ Capital to help us think about how we can expand our global team. The question is, are there different investment opportunities in the region we should be exploring? When we entered private equity in Asia we looked at the various opportunities, made some investments to gain experience, and then began to offer that to our client base. We intend to follow the same kind of strategy for the other asset classes. In addition, we have brought US and European capital to the East and we think we are in a position to develop relationships with capital sources in the East for our US and European investment capabilities.

Q: Will the different functions be brought together under a single name?

EB: We will probably consolidate, but a decision hasn't been taken on that yet. The overall aim is to ensure that we maintain the same level of expertise within each investment area. The current concept would be to consolidate certain shared services - such as corporate office functions, investor relations and business development functions - under HQ Capital so that we are leveraging resources and trying to maximize the impact we make. The investment silos would remain relatively intact, but, for example, someone on the business development side in Germany might have a broader dialogue with his clients rather than just asking, "Are you interested in private equity?" We are not selling products, we are trying to deliver solutions; we are trying to understand what the client is thinking about in terms of how to allocate capital across the alternative asset classes. We will probably do a combination of organic expansion and bolt-ons. We traditionally have grown organically and that is a more likely path, but we are open to considering multiple opportunities.

Q: In terms of investment, what is Auda's geographical exposure within Asia?

JACOB CHIU: We have about 60% allocated to China with the rest is spread around India, Southeast Asia and developed markets in Asia, as well. We still see a lot of opportunities in China, thanks to continued economic growth, urbanization, the rise of the middle class, and because good companies and entrepreneurs still have difficulty accessing capital. Having said that, growth seems to have slowed down and we see opportunities outside of China as well, and these have different characteristics. In India, for example, when we look at it manager by manager, we see some managers that have generated good returns, although not many. Similarly, we have exposure in Southeast Asia through a couple of managers and there is quite a lot of capital entering that region, but exits are still an issue. We are monitoring it. We still have the appetite to work with the good managers that have shown they can deliver, not only in terms of TVPI [total value to paid in] but also DPI [distributed to paid in].

EB: DPI is important. When I have conversations with our German investors, everyone buys into the growth story and sees the long-term potential of Asia. What they are hoping for are stronger realizations. We all know that there have been capital markets issues in China and so on, but DPI is a topic that is often raised in conversations. And that is another reason why secondaries are an interesting addition to the portfolio in that it can mitigate the j-curve effect.

Q: Would you say LPs have been disappointed by Asian PE?

EB: Disappointment might be too strong a word. But a general expectation was for a more rapid return of capital - that the dynamic growth in the region would translate into quicker distributions.

Q: In certain cases, GPs in Asia have seen a rapid scale-up in fund size. Is this a concern?

JC: It really depends on the manager. With some managers, they increase the fund size and it takes time for the quality to come; with others, they deliver quality deals at larger sizes. What we look at is the post-deal revenue and net profit growth. If both continue to grow we can get comfortable that a deal is good. We have to look into whether their track record is relevant. If they have been doing $50 million deals but after they raise the fund size the check size becomes $100 million, then the dynamic would be different.

Q: What is your response to claims that the fund-of-funds model is not sustainable?

EB: I think that the fundamental model of the fund-of-funds as a way to provide access or exposure to the asset class is valid. There is a perception that is not entirely correct - that the costs associated with the underlying model provide such a drag on returns that it is simply not generating attractive returns. However, it is possible to neutralize that effect so that the fund-of-fund economics are more in line with the economics of a separately managed account. This means clients are not driven by the economics question when deciding the vehicles in which they invest. We have some very large, sophisticated German institutions that simply don't want separately managed accounts. They have been running broadly diversified portfolios for years, they don't miss out on vintages, and they have some of the best returns in our entire client base. If you can provide a fund-of-funds that is appropriately structured from an economic perspective and separately managed accounts, you are in a position to address the diverse requirements of your clients. The decision by some service providers to go direct, as opposed to the separately managed account or fund-of-funds model, might be based more on internal economics. There is fee compression in the fund-of-funds industry and that may be a factor driving the business direction, more so than the investment rationale.

Q: Do you have particular requirements in terms discretion within a mandate?

EB: We are relatively flexible. We have mandates that are fully discretionary where we agree on portfolio construction guidelines and execute the mandate; we have mandates where the client has a veto right; we have mandates where decisions have to be approved and the client is more involved in the process; we have mandates where we send clients investment proposals and we execute on their behalf. There is a broad range of options available. When I look at our clientele, some groups are thinly staffed and need support. Others are developing their own internal capabilities but they still want to see our pipeline and hear our advice. In certain cases, clients are looking more for assistance on the reporting and information flow side, where we can provide cash flow estimates and other services. Investing is just one aspect of the process; monitoring and reporting on the underlying asset is another part of the business that is of interest to clients.

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• Topics
• Fund-of-funds
• Secondaries
• Fund-of-funds
• Secondaries
• Asia
• Auda International