Despite 2020 being an unprecedented year for many businesses and countries, with shutdown measures to contain COVID-19, the private equity (PE) industry in Southeast Asia actually grew by 4% in the first half of 20201.
PE deal activity increased by 107% in the second half of 2020 versus the first half2. Moreover, Singapore saw growth in the number and value of PE deals last year, a bright spot amongst the decrease in overall investment activity across Southeast Asia3.
While an increasing number of PE investments have for the past decade or so been focused on China and India because of their relatively large market size and strong economic development, the focus on Southeast Asia is gaining momentum as a result of the US-China trade war, and President Biden’s tough stance on China.
Southeast Asia has long been an integral part of global trade due to its strategic location and is situated in the confluence of major trade routes. The region’s steady growth is driven by an increasingly affluent middle class, fast-growing domestic consumption as a result of increased wealth, rapid industrialisation and urbanisation, export growth, an increasingly well-educated workforce, and growing infrastructure spending. Despite a resurgence in COVID-19 cases and reintroduced restrictions across the region, Southeast Asia is still set for a 4.8% rebound in growth in 20214. Thus, we are confident the region’s strong fundamentals will continue to offer exciting opportunities for PE investments in the coming years.
However, PE investing in Southeast Asia has its challenges and risks, therefore, we share our insights on how we mitigate them in order to improve our probability of success and limit risks in these complex investment markets.
Difficulty in Sourcing Deals
While there are many companies operating in Southeast Asia, the smaller scale of such companies relative to those in Western markets means few meet the criteria of adequate size and attractiveness for foreign investment funds. The prevailing PE business model of Western buyout firms to source and execute the biggest and most complicated transactions, may not be as effective in Southeast Asia. Our PE team in Southeast Asia focuses on the underserved mid-market and specific sectors to increase our chances of success in sourcing and closing the right deals in Southeast Asia.
Many successful family-owned businesses in Southeast Asia fly under the radar. By having strong local networks, knowledge and relationships with entrepreneurs and advisors, our PE team are able to create healthy pipeline deal flows. Additionally, we believe in flexibility when it comes to deal terms, types of investment structures and have completed investments using convertible debt.
Corporate Governance
A key challenge impeding PE’s growth in Southeast Asia, especially for the emerging markets, is complex corporate governance structures, a lack of transparent bookkeeping and inaccurate market information. PE firms must be prepared for thorough and sometimes time-consuming and expensive due diligence. In some Southeast Asian countries, corruption may also restrict entrepreneurship growth. Foreign investors will also need to be wary of governments that do not provide sufficient/strong legal frameworks to protect their investments.
We mitigate corporate governance risks/challenges in emerging markets by using the following tools:
-
Background Checks: Reference checks, criminal, bankruptcy and adverse media checks.
-
Due Diligence: Performing the necessary commercial, legal, financial and tax due diligence in order to identify and address potential red flags and reviewing relevant disclosures or seeking additional information on how these risks are managed by the company.
-
Monitoring: Identifying and ongoing monitoring of environmental, social and governance risks
-
Active Engagement: We view active engagement with our investee companies as a long-term process and our investments typically have board participation or observation rights, whereby we manage risks by constructive engagement
Valuation Challenges
Pricing an investment target is a tricky exercise that is a combination of both art and science. What makes it more challenging in Southeast Asia is having too much capital chasing too few quality deals, which can inflate private valuations. This can deter potential investments and reduce prospects for profitable exits. Pricing can also be influenced by structural benefits like liquidation preferences and preferred returns.
COVID-19 has also caused abnormal disruptions to the operations of many businesses justifying the need for normalisations to a business's financials. Whether businesses rebound to pre-COVID-19 conditions or have experienced structural changes often remains to be seen. Therefore, we ground our valuation perspectives with a deep understanding of local markets, the macro environment, a realistic assessment of the investee company’s growth projections and sound structuring to maximise reward/minimise risk.
Sources
1 Vistra Presentation - 2021 Private Equity Market Outlook and Trends in South East Asia
2 Bain & Company Southeast Asia Private Equity Report 2021
3 https://www.straitstimes.com/business/singapore-only-sea-market-to-see-growth-in-private-equity-deals-deal-value-in-2020-report
4 June 7 Report by Oxford Economics, commissioned by the Institute of Chartered Accountants in England and Wales (ICAEW)
This information is for accredited, qualified, institutional, wholesale or sophisticated investors only and is provided by Aura Group and related entities and is only for information and general news purposes. It does not constitute an offer or invitation of any sort in any jurisdiction. Moreover, the information in this document will not affect Aura Group’s investment strategy for any funds in any way. The information and opinions in this document have been derived from or reached from sources believed in good faith to be reliable but have not been independently verified. Aura Group makes no guarantee, representation or warranty, express or implied, and accepts no responsibility or liability for the accuracy or completeness of this information. No reliance should be placed on any assumptions, forecasts, projections, estimates or prospects contained within this document. You should not construe any such information or any material, as legal, tax, investment, financial, or other advice. This information is intended for distribution only in those jurisdictions and to those persons where and to whom it may be lawfully distributed. All information is of a general nature and does not address the personal circumstances of any particular individual or entity. The views and opinions expressed in this material are those of the author as of the date indicated and any such views are subject to change at any time based upon market or other conditions. The information may contain certain statements deemed to be forward-looking statements, including statements that address results or developments that Aura expects or anticipates may occur in the future. Any such statements are not guarantees of any future performance and actual results or developments may differ materially from those projected in the forward-looking statements. This information is for the use of only those persons to whom it is given. If you are not the intended recipient, you must not disclose, redistribute or use the information in any way.
Aura Group subsidiaries issuing this information include Aura Group (Singapore) Pte Ltd (Registration No. 201537140R) which is regulated by the Monetary Authority of Singapore as a holder of a Capital Markets Services Licence, and Aura Capital Pty Ltd (ACN 143 700 887) Australian Financial Services Licence 366230 holder in Australia.
