Three theories on value creation
7/24/2009
Seventy years of PE experience spoke at AVCJ’s Private Equity Forum on July 9, 2009. These are three of the theories presented.
The Core Growth Theory:
Johannes Schoeter, Founding partner, China New Enterprise, arrived in China with Deutsche Bank in 1983 and has been managing funds in China since 1996. China New Enterprise takes a 15%-40% stake in companies 5-10 years old, and considers strong management rights and a choice of auditor as sufficient control. Investment theory is industry agnostic –but they see that value is created most reliably when the macro drivers of urbanization, professionalization, and sustainability underlie an investee’s growth. Licensed to operate as an RMB fund, China New Enterprise makes it exits through local M&A, a consistently active market where strategic buyers are plentiful. Schoeter awaits improvements in China’s social welfare system before he puts any stock in a theory of increased consumer spending, and views the consolidation in China’s industrial sector as a necessary weeding out of “undisciplined money” and “entrepreneurs who can only manage in times of high demand growth.”
The Management Process Theory:
Allan Liu, Managing Partner, Pacific Alliance Equity Partners, was born in China, then sent to England in 1979 to study finance and marketing. In the 1980’s and early 1990’s, as an official with the Ministry of Internal Trade, Liu promoted investments in China and was involved in some of China’s earliest and most significant international investments, including P&G, AIG, and Blackstone. Since 2004 Pacific Alliance has invested $1 bn in 34 companies and managed 13 exits. Originally more inclined towards minority deals, since 2006 the fund has seen valuations reaching realistic levels, where control deals are affordable. A corresponding investment in a post-investment operations team of 14 seasoned, top flight executives allows Pacific Alliance to create value over the course of a longer passage to exit. By building a #3 player into the #2 or #1, the fund positions its portfolio companies for high valuations in the trade sales and M&A markets. With more than 1,000 M&A transactions a year, China is “easily the region’s strongest M&A market.”
The Buy a Bargain and Hold Theory:
Andrew Rice, SVP International Business, The Jordan Company, is a middle market PE firm that has been investing in China for 15 years. Typical deals are in the $30-$40 million range, in 2nd tier and 3rd tier cities, and anchored by strategic fit with a USA-based partner. Though The Jordan Company did not start out looking for control deals, they have come to that point: most of their 24 China deals have been based on foreign majority/control, and 15 operating executives have been placed in portfolio companies. Through daily management over 5-7 years, an international management team, and support from local government, the fund raises valuations in its portfolio comapnies and looks for exits by IPO or sales to MNC buyers. Rice views infrastructure buildout - especially the construction of roads in the interior - as the source of rapid overall economic growth and therefore of value creation over time.