Assessing Private Equity Trends Worldwide
Private equity remains bullish about China in the face of its slowing economy, as firms spot opportunities in the nation’s transition to a consumer-driven market from an export-driven one. But they are picking their investments more carefully, making sure they are aligned with long-term sector trends such as shifting demographics. Moreover, changes in China’s IPO rules are welcomed by PE firms because going public is an increasingly important exit strategy. Southeast Asia is also strong as a PE target even though there has been a rebalancing towards developed economies of late. Michael Rogers, EY’s global deputy private equity leader, and Stephen M. Sammut, a senior fellow and lecturer at Wharton, discussed PE trends globally with Knowledge@Wharton.
An edited transcript of Part 1 of the conversation follows.
Knowledge@Wharton: Steve, could you give a brief overview of the worldwide trends in private equity?
Stephen M. Sammut: That’s a tall order but I’ll try to be brief. The thing to bear in mind most importantly … is that it is very heavily driven by the performance of public equities, in the sense that money managers of the funds have to balance their commitments to alternative assets, including private equity, typically against the overall assets under management that they have. And those tend to be very sensitive to publicly traded securities.
At the moment, the stock markets are looking fairly robust, and there are a lot of questions as to whether that is sustainable given so many other questions [about what’s going on] in the world. I suspect that pension fund managers and their counterparts at other financial institutions are being somewhat cautious about what they are going to commit for fear that if public markets do drop, they are going to be overweighted in private equity.
But having said that, [there are some] interesting transitions in the Chinese economy and [its movement] towards a consumer[-driven market], which is something that will play out in a generation but especially over the next 10 years. That happens to coincide with the life cycle of a private equity fund. [Meanwhile,] India’s reform measure seems to be taking hold. There probably will be an influx of capital there and certainly an increase in the number of transactions.
I also think Southeast Asia is looking fairly strong overall. That is probably the region that is going to be most sensitive as to whether or not the Trans-Pacific Partnership (trade deal signed in February 2016) becomes reality because they may be the principal beneficiaries.
“There’s been a little bit of a rebalancing back to the developed markets in the U.K., Germany and also in the U.S.”–Michael Rogers
I would say with Africa, there is very robust activity, perhaps maybe a little over-commitment in the last two years of new capital into the region. Not that Africa cannot absorb it, it’s just that there may not be enough evidence yet that the number of bankable or fundable transactions are there. But it is materializing.
Knowledge@Wharton: Mike, your sweeping view, please.
Michael Rogers: It’s certainly an interesting time for private equity around the world. Our biggest clients, the folks we visit with around the world, look at the markets very independently. If you go back a couple of years ago, you might have lumped a number of different countries into the emerging markets bucket. Now, I think people are very clear, as Steve just laid out, there are delineations between each market, and it’s quite different these days when people talk about Asia-Pacific or Africa or Eastern Europe and Latin America. They are different markets completely. When you drill in to each market, you get a much different response in terms of what’s attractive.
A couple of years ago, everybody just thought that growth was going to be slow in the developed, larger markets in the United States and Europe, and that we would have to go to emerging markets. I don’t want to say that has scaled back, but there’s certainly been a little pressure taken off the gas in terms of the emerging markets. There’s been a little bit of a rebalancing back to the developed markets in the U.K., Germany and also in the U.S. But we still see an interest because of that long-term growth consumerism [trend] that is out there. Some of those themes are still in place and will be for a long time.
Knowledge@Wharton: Let’s jump right into China, where … the economy seems to be growing faster than in most developed markets, even though it is slowing down in general. China has a population of 1.3 billion, and many of them are entering the middle class. These are the fundamental growth drivers that get talked about a lot. But this slowdown has also caused havoc for many of China’s suppliers outside the country and at times for the currency and equity markets. … How would you characterize the kinds of deals being done and their size over the last year or two?
“The investment activity in China is off considerably so far this year.”–Michael Rogers
Rogers: As you point out, I think the investment activity in China is off considerably so far this year. One of the statistics we look at pretty closely is the analysis done by the EMPEA (Emerging Markets Private Equity Association), and they thought that total investment was just about $1.5 billion in the first quarter. That’s well off last year’s pace of almost $12 billion. Sometimes these numbers can get bucketed based on size and deals and things that occur, but that’s a pretty significant trend down for the first quarter. Valuations, though, continue to be relatively high, particularly for strong assets.
So, I think we’re going to see a little more picking and choosing with folks being a little bit wiser about how they invest and look for situations where they can make operational improvement. That’s a big component here because if you think that the Chinese economy will slow a little bit, then you have to make sure that you’re making the types of investments that make sense from [the viewpoint of] long-term sector trends. One of the things we continue to see from our clients and folks in the marketplace is a focus on the demographics — the growth of the middle class, telecommunications, consumer products, retail, education, travel, things of that nature — as the economy turns itself to more a consumer-driven [market] as opposed to export-driven.
I’ll leave it to Steve to fill in some of the gaps on this locally, because I know he spends a lot of time there, but I think one thing that does concern folks on the macro side is the amount of debt that is being accumulated and the pace at which the government is accumulating debt and putting it into infrastructure products. There’s a lot of money that is being spent trying to keep the economy going, so folks are watching with a careful eye. Those trends still are there, and a lot of folks would like to have access to those consumers. But I think people are very conscious about some of the