China public markets stoke GP investment, exit concerns

"To exit, actually it's the most difficult part," Gabriel Li, managing partner at Orchid Asia Group, told the Hong Kong Venture Capital & Private Equity Association's (HKVCA) China summit. "When the market is very hot and valuations are very high, what happen is that you have to decide when to sell. It's very hard."

Orchid Asia had 15 exits in the pipeline at the start of the year and has completed four in the last two months. The GP sold shares in one company at a 66x price-to-earnings (P/E) ratio. However, over the last four weeks, the P/E ratio has nearly doubled, reaching 120x. "It's very difficult to understand when to sell and there is always an issue that you might get it wrong," Li added.

Exit timing is also impacted by regulation. Lihong Wang, managing director with Bain Capital, noted that a buyout investor must wait three years before applying for an IPO, and after negotiating the application process, there is a three-year lock-up once a company goes public.

"It takes minimum seven years to exit. It's a major hurdle for us. If you're a small shareholder, I think it's easier to take advantage of the market hype," she said.

On the investment front, industry participants say they are seeing sub-sets of buyout opportunities as Chinese entrepreneurs look to sell businesses. The challenge for GPs is that high-quality companies are generally only available at high valuations - although some managers are still willing to write big checks in the expectation of public market exits at even higher multiples.

Positive sentiment on China's capital markets is in part stimulated by changes to the IPO mechanism, in particular the switch to a registration-based approvals process, which should facilitate more listings. However, Bain's Wang argued that one-off reform isn't sufficient.

"As we're more a buyout-based fund, therefore, we do look at the certainties and also post-IPO freedom for companies to raise funds, and for shareholders to sell down," she said. "We still view Hong Kong as the preferred market. However, we also want to figure out whether we can utilize the Chinese markets for either finding buyers of listed companies or having earlier IPOs, meaning that we don't have to hold three years before listing. "

Ricky Lau, a partner of TPG Capital, linked the current wave of capital market reforms, including changes to the IPO approvals process and the introduction of the New Third Board, to reforms in commercial banking over the last 10 years. While there is inevitably volatility, the market is moving in the right direction.

"The law firms are very busy nowadays taking down red-chip structures in light of the clients asking for the listings on the first board, second board, or third board in China, whatever you want to look at," Lau said. "I think it's a short-term phenomenon. Nevertheless, I think it's creating quite a rocket in the industry."

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• Topics
• Buyouts
• Expansion
• Exits
• Greater China
• Regulation
• Exit
• China
• Growth capital
• buyout
• regulation
• Bain Capital Asia
• Orchid Asia Group Management
• TPG Capital