Asian GPs prioritize portfolio resilience - Bain & Co

The finding, part of a survey that accompanies Bain & Company’s latest Asia Pacific private equity report, underlines the extent of the portfolio-level damage caused by COVID-19 and the expectation of protracted economic uncertainty. More than 80% of respondents said the pandemic had increased operational disruptions and 75% claimed to be experiencing greater financial pressure.

Asked how their portfolios were holding up to stress, over half said companies had proved “somewhat resilient” or “not really resilient.” One-third added that companies either don’t have tools to assess resilience or are in the early stages of applying those tools. A similar proportion claim that portfolio companies are still at an experimental stage when it comes to building up capabilities in this area.

“More than 60% of GPs are willing to sacrifice at least 5% of [a portfolio company’s] short-term profit to improve resilience. To us, that is surprising and significant. It is a clear indication that managers recognize resilience is a critical issue for their portfolios,” said Elsa Sit, a vice president in Bain’s Asia Pacific private equity practice.

Concerns over the protracted impact of COVID-19 cast a shadow on a 12-month period in which Asia private equity investment rebounded from a weak first half of 2020 to finish the year with a flourish. This was led by China, which was the first major economy to emerge from the pandemic and the only one in Asia to avoid a drop in GDP.

Investment was skewed towards IT and healthcare, and when GPs jumped back into the market, the focus was on digitally-enabled businesses that benefited from lockdowns and social distancing. Managers are most bullish on e-learning, e-commerce, and digital health, but 70% said it is hard to evaluate digital businesses experiencing a sudden spike in demand.

Fundraising and exits were both down on 2019, reflecting how travel restrictions complicated due diligence, especially for those – including many LPs and strategic investors – without a substantial local presence. There was also a general reluctance to sign off on deals amid a climate of uncertainty.

With some investors holding back on deployment, dry powder held by Asia-focused funds reached a record high of $477 billion at the end of 2020. Average enterprise valuation-to-EBITDA multiples, having fallen sharply to 11.1 in 2019, recovered to 11.7. More than 60% of GPs cited rising valuations as a major concern and nearly 75% expect prices to stay the same or rise over the next two years.

Fund performance was relatively strong with a median net IRR of 12.4%, versus 12.3% in 2019, outperforming both the global benchmark and public markets over five-year, 10-year and 20-year horizons. However, contributions from LPs exceeded distributions in the first nine months of 2020, suggesting a third consecutive year of negative cash flows.

COVID-19 remains the third-biggest concern among GPs, after high valuations and rising competition. Bain argues that the pandemic has forced the industry to reexamine its approach to portfolio resilience. While financial pressure remains a key factor, managers also cited increases in strategic and organizational pressure and operational and technological disruption.

“The general view has been that resilience means shoring up the balance sheet, and companies spent a lot of time on the risks associated with leverage and liquidity in the past,” said Sit. “Now they have come to realize that resilience comprises several different dimensions – and portfolio companies need help deciding what to prioritize. Historically, this isn’t what GPs have focused on. COVID-19 has been a wake-up call.”

The report highlights several issues GPs should focus on, including: the nature of the risk a company faces and how much stress it can absorb; their acceptable level of risk exposure during the investment period; identifying the most critical areas of resilience; and to what extent they are willing to trade off short-term profitability for long-term resilience.

“The easiest way to generate returns was multiple expansion, but now investors have to think more about improving revenue and profit," Sit added. "To do that, a portfolio company must be resilient because there is so much uncertainty ahead. If a company has already been disrupted and steps are not taken to make it more resilient, it might be able to get through the next disruption.”

• Tweet  
• Facebook  
• LinkedIn  
• Google plus  
• Save this article  
• Send to  

• Topics
• GPs
• Investments
• Portfolio management
• Performance
• Asia
• covid-19
• coronavirus