The Asian private equity (PE) landscape is set to undergo a transformation driven by the rise of US-style mega funds and, in 2017, PE funds raised more capital under a buyout thesis than ever before, according to a McKinsey and Co. report.
“Mega funds that previously were close to non-existent in Asia contributed more than $20 billion of the $60 billion private equity funds raised in Asia over 2017. Asian mega funds also made a large contribution to the global total of $174 billion,” McKinsey said in the report.
Previously, private equity investing in Asia has been primarily a growth fund market where private equity firms took minority stake in businesses. This is particularly the case in China, India and South-East Asia, said McKinsey.
“For many funds, the experience of being in overall control of an investee company will be new and bring with it the need for new operating models. Similarly, the investee company will need to adapt to this new form of ownership,” added McKinsey.
According to the report, this shift is also reflected by the rise in deal value, where Asia led the charge with a 96% jump to $110 billion, as compared to the global deal volume that increased by 14% to $1.2 trillion in 2017. Deal count fell in the region, as in the rest of the world.
Both trends reflect greater discretion in investor activities, with more capital being deployed in fewer companies and more buyout deals taking place, the report said.
“Private equity investors in Asia are moving from the passenger’s seat to the driver’s seat. Their role is transforming from one centred around strategic guidance and governance to strategy formulation and management control,” said Vivek Pandit, senior partner and co-lead, private equity and principal investor practice, McKinsey.
While being in greater control of talent and operating decisions, they are quickly learning these aren’t autonomous cars built for speed and retooling is required, added Pandit.
The report also highlights that even though public markets rose worldwide, investors continued to show interest and confidence in private markets. Hence, 2017 was once again, strong for private markets.
Private asset managers raised a record sum of nearly $750 billion globally, while overall private markets activity in Asia witnessed a slight decline—by 2.8%—to $78 billion.
According to the report, one trend that stands out is the surge in mega funds of more than $5 billion, especially in the US, and particularly in buyouts.
“Mega funds have become more common, in part as investors have realized that scale has not imposed a performance penalty. Indeed, the largest funds have on average delivered the highest returns over the past decade, according to Cambridge Associates,” said McKinsey.
Mega funds now account for 15% of total fund-raising, up from 7% in 2016, having surpassed their previous peak of 14% in 2007.
According to the report, while pension funds, who are still the largest group of limited partners (LPs), are pinched for returns, sovereign wealth funds are looking to increase their exposure to private markets.
Endowments are already heavily allocated to private markets and do not appear keen to switch out, the report added.
“Fully 90% of LPs said recently that PE, the largest private asset class, will continue to outperform public markets—despite academic research that suggests such out-performance has declined at the median,” said McKinsey.
According to the report, though the deal volume of $1.3 trillion was comparable to 2016’s activity, deal count dropped for the second year in a row, this time by 8%.
The average deal size grew from $126 million in 2016 to $157 million in 2017, a 25% increase.
Dry powder available with the fund managers is now estimated to be a record $1.8 trillion.
Private markets assets under management, which include committed capital, dry powder, and asset appreciation, surpassed $5 trillion in 2017, up 8% year on year, the report added.