Pressure in Private Equity

Elaine Wong, Founder and Partner of HAO Capital, was quoted in the Wall Street Journal story on the limitations of IPO exits for PE/VC in China. “Statistically speaking, given the limited number of companies that can go public each year, there are more companies backed by private equity and venture capital than there are IPO opportunities.”

Three of China’s biggest private-equity funds have agreed to buy control of a company from another fund, a rare move that underscores a mismatch between deal money and potential targets in the world’s largest growth market, as well as limited ways for funds to exit investments.

CDH Capital, Citic Private Equity and New Horizon Capital have agreed to buy MBK Partners’ more than 50% stake in the parent company of Singapore-listed LuyePharma Group Ltd., said a person familiar with the deal. The parent firm, Luye Pharmaceutical Investment Co., holds 77% of LuyePharma.

Details were unavailable, but the person said the stake sold at a premium to its market value. Shares of LuyePharma closed Thursday at 94 Singapore cents (75 U.S. cents), valuing the 50% stake at US$140 million.

An influx of new money seeking opportunities in China’s heady growth market is heightening competition for deals, spurring cash-flush funds to look for different opportunities. According to data from Zero2IPO Research, a Beijing-based firm that tracks China’s private-equity industry, private-equity and venture-capital funds in China raised almost $67.1 billion last year, 73% more than the $38.8 billion raised in 2010. Only $18.9 billion was raised in 2009. In 2011, funds invested $40.6 billion in deals in China, up from $15.8 billion in 2010.

“There are tons of funds that are struggling to deploy their funds wisely,” said Ludvig Nilsson, managing director of Jade Invest, an advisory firm focused on private equity.

Private-equity and venture-capital funds invested in 2,200 deals last year, almost double the 1,180 struck in 2010, according to Zero2IPO. There were only 594 in 2009.

What makes the LuyePharma deal unusual in China is the transfer of a stake from private equity to private equity, and underscores the difficulty of exiting deals. Private-equity funds in China typically prefer to go through initial public offerings. Such deals have been lucrative, with TPG’s investment in Shenzhen Development Bank Co. and Carlyle Group LP’s stake in China Pacific Insurance (Group) Co. notably earning big returns.

But the IPO market could become clogged with private-equity-backed companies. The first wave of funds to set up in China is nearing the end of its cycle, and the funds need to return capital to their investors.

Unlike in the U.S., where companies can publicly list shares if they fulfill criteria set by the exchanges, in China the securities regulator decides who can launch an IPO and when, resulting in long waits.

Last year, 171 Chinese companies backed by private equity and venture capital issued IPOs globally, compared with 221 in 2010, according to Zero2IPO.

“Statistically speaking, given the limited number of companies that can go public each year, there are more companies backed by private equity and venture capital than there are IPO opportunities,” said Elaine Wong, founder and partner of HAO Capital, a China-focused private-equity firm.

That will result in more funds either looking to sell to another private-equity fund or to a company. “We’re seeing [funds] who want to sell an asset because they haven’t been able to exit how they envisioned,” said Mr. Nilsson. “There will be more of these in the next two years.”

Posted in HAO Capital News.