ASIA-PACIFIC PRIVATE EQUITY REPORT 2017 About Bain & Company’s Private Equity business

Bain & Company is the leading consulting partner to the private equity (PE) industry and its stakeholders. PE consulting at Bain has grown sixfold over the past 15 years and now represents about one-quarter of the firm’s global business. We maintain a global network of more than 1,000 experienced professionals serving PE clients. Our practice is more than triple the size of the next-largest consulting company serving PE firms.

Bain’s work with PE firms spans fund types, including buyout, infrastructure, real estate and debt. We also work with hedge funds, as well as many of the most prominent institutional investors, including sovereign wealth funds, pension funds, endowments and family investment offices. We support our clients across a broad range of objectives:

Deal generation. We help develop differentiated investment theses and enhance deal flow by profiling industries, screening companies and devising a plan to approach targets.

Due diligence. We help support better deal decisions by performing due diligence, assessing performance improvement opportunities and providing a post-acquisition agenda.

Immediate post-acquisition. We support the pursuit of rapid returns by developing a strategic blueprint for the acquired company, leading workshops that align management with strategic priorities and directing focused initiatives.

Ongoing value addition. We help increase company value by supporting revenue enhancement and cost reduction and by refreshing strategy.

Exit. We help ensure funds maximize returns by identifying the optimal exit strategy, preparing the selling documents and prequalifying buyers.

Firm strategy and operations. We help PE firms develop distinctive ways to achieve continued excellence by devising differentiated strategies, maximizing investment capabilities, developing sector specialization and intelligence, enhancing fund-raising, improving organizational design and decision making, and enlisting top talent.

Institutional investor strategy. We help institutional investors develop best-in-class investment programs across asset classes, including private equity, infrastructure and real estate. Topics we address cover asset class allocation, portfolio construction and manager selection, governance and risk management, and organizational design and decision making. We also help institutional investors expand their participation in private equity, including through coinvestment and direct investing opportunities. Asia-Pacific Private Equity Report 2017 | Bain & Company, Inc.

Contents

1. Asia-Pacific private equity: Strong results, new challenges ...... pg . 1

2. What happened in 2016? ...... pg . 4

Investments: The momentum continues...... pg . 4

Exits: Still healthy, if less robust ...... pg . 8

Fund-raising: A slow year ...... pg . 10

Returns: The gap widens ...... pg . 11

3. The changing shape of Asia-Pacific private equity...... pg . 14

The search for new sources of value ...... pg . 14

Shadow capital: Increased complexity...... pg . 16

Diverse markets, different outlooks...... pg . 20

4. Creating value in a fiercely competitive market ...... pg . 21

Smart sourcing...... pg . 21 –– Narrowing the firm’s aperture –– Building strong networks

Thesis-based due diligence...... pg . 23 –– Developing proprietary views on assets –– Combining cost and growth –– Making the most of advanced analytics

Proactive value creation...... pg . 27 –– Finding a path to control –– Defining the right model

5. Conclusion...... pg . 30

Page i Asia-Pacific Private Equity Report 2017 | Bain & Company, Inc.

1. Asia-Pacific private equity: Strong results, new challenges

For two years running, the investment environment in Asia and around the world has been as unsettled and shock-prone as it’s ever been. A turbulent 2015 gave way to an even more tempestuous 2016, as a regular cadence of macro tremors rattled markets globally. Starting with mounting concerns about Chinese debt levels, the year delivered the Brexit vote in June, political scandal in South Korea, demonetization in India and an election that minted a US president openly hostile to free trade, especially with Asia.

But if private equity (PE) investors have been bothered by the uncertainty, it hasn’t showed. Despite the building turmoil, 2016 marked the third year in a row that the Asia-Pacific PE industry has performed at historic or near- historic levels—a sign that PE performance in the region is increasingly dependent on the industry’s unique set of fundamentals. Private equity deal value in the Asia-Pacific region reached $92 billion in 2016, a pullback from 2015’s all-time high of $124 billion, but the second-best year on record (see Figure 1.1). Exit activity of $74 billion was respectable, and average returns continued to outperform other asset classes, especially among a set of top-tier firms that produced world-class results.

Fund-raising of $43 billion slightly trailed the five-year average, but that’s unsurprising given the amount of money poured into these markets over the last several years. General partners (GPs) are working with near- record levels of unspent capital, and investors appear to be waiting for funds to work off some of that dry powder before renewing commitments. What’s important in terms of gauging investment confidence is that the maturing Asia-Pacific industry has locked in on the virtuous capital cycle: Limited partners (LPs) have been cash-positive in the region over the past few years, meaning GPs continue to find ways to return more capital to investors than they are drawing down for new investments. All signs indicate that LPs remain bullish on the market.

Figure 1.1: Private equity’s vital signs remained remarkably resilient in 2016

Deal value slowed, but remained solid Exits reverted to historical levels Fund-raising lagged its five-year average

Asia-Pacific PE investment market Asia-Pacific PE exit market Asia-Pacific-focused closed funds (by close year)

$140B 1,000 $140B 1,000 $140B 124 120 120 115 120 800 800

100 100 93 100 90 92 87 600 600 80 80 75 74 80 68 66 Five-year 53 64 60 60 60 60 average 52 400 400 49 48 51 43 40 40 40 200 200 20 20 20

0 0 0 0 0 2011 12 13 14 15 16 2011 12 13 14 15 16 2011 12 13 14 15 16

Deal value Deal count Exit value Exit count

Note: Real estate and infrastructure funds are excluded in the three graphs Sources: AVCJ; Preqin

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As encouraging as these results are, GPs focused on the Asia-Pacific region will also face some stiff challenges in the years ahead. In an age of superabundant capital, competition is coming from a wide variety of players, including sovereign wealth funds (SWFs), pension funds and large corporations, such as China’s BAT companies (Baidu, Alibaba and Tencent). An abundance of buyers makes it increasingly difficult to find attractive proprietary trans- actions in the Asia-Pacific region. That has helped drive already steep Asia-Pacific multiples to unprecedented levels, even as GDP growth slows across the region and interest rates begin to rise, blunting two powerful sources of value.

At the same time, the relationship between GPs and LPs is becoming increasingly complicated as large institutions and sovereign wealth funds devote more and more of their PE allocations to direct investments and coinvest- ments. This is nothing new. Large sovereign funds such as Temasek and GIC in Singapore and Khazanah in Malaysia have been major factors in the market for years. And big foreign funds like the Canada Pension Plan Investment Board (CPPIB) are becoming more so. But the growth of this so-called shadow capital is testing relationships between GPs and their investors by putting them in direct competition with each other in some cases and reducing GP economics in others.

There’s no doubt that coinvestments with SWFs and other large investors create opportunities for GPs to burnish relationships with these massive sources of capital while participating in deals that might otherwise not be available to them. But as shadow capital grows in the market, it becomes increasingly critical for GPs to under- stand how to turn it to their advantage.

While capital continues to flow steadily into the region, it is landing with those PE funds that can demonstrate sustained, market-beating returns. These same funds are also the ones most likely to appeal to big LPs as coinvestment partners.

The combination of heightened competition, inflated multiples and a slowing macro environment hasn’t removed the ample opportunity to earn superior returns in the Asia-Pacific region. But it does mean the sources of profit are changing. While funds operating in these markets have long been able to count on economic growth and multiple expansion to power returns, those days may be over. Growth in the region remains strong by global standards, but multiples are exceptional, too. This means that GPs will have to work harder than ever to find good companies, create new value and exit them with market-beating returns.

As we’ve discussed in previous years, the stakes couldn’t be higher. While capital continues to flow steadily into the region, it is landing with those PE funds that can demonstrate sustained, market-beating returns. These same funds are also the ones most likely to appeal to big LPs as coinvestment partners. At a time when the industry’s sources of profit are changing, we find that the best GPs are focused on shoring up three key areas of the PE value chain:

• Smarter sourcing, including enhanced local networks, to find more proprietary deals and develop the differentiated insights necessary to gauge risk, assess potential and gain the confidence to outbid rivals at auction.

• Enhanced due diligence that views the target holistically, incorporating advanced analytics and a thesis-based approach to develop the kinds of insights that give a fund the ability to weigh risk and measure value effectively.

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• Creative post-acquisition value enhancement to overcome two major challenges to effective portfolio management in the Asia-Pacific region: a preponderance of deals featuring minority stakes and a marketwide talent shortage.

In Section 2 of this report, we will break down in greater detail how the PE industry’s performance unfolded in 2016. In Section 3, we will open the discussion to the key trends that will shape the PE landscape in the coming year and beyond, including a look at each local market in the region. In Section 4, we will provide some of our best thinking and observations on how the most successful funds are preparing themselves to thrive not just on growth and multiple expansion, but by executing more effectively at every stage of value creation—measuring potential at entry, adding value during the holding period and ensuring a growth story at exit. These are heady days for Asia-Pacific private equity. The best firms are already preparing for challenges ahead.

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2. What happened in 2016?

Given the extraordinary 39% surge in Asia-Pacific deal value in 2015, it’s hardly surprising that activity in 2016 backed off somewhat. What is impressive, though, is that the market continued to show strong momentum in most phases of the business. Deal making over the past three years has risen to a new level and shows few signs of retreat. LPs continue to view the Asia-Pacific region as an emerging market with big potential. Here’s how the year unfolded.

Investments: The momentum continues

Besides the inevitably difficult comparison with a stellar 2015, there were plenty of reasons to expect that deal making might be disappointing in 2016. We listed some of the most obvious market shocks in Section 1, but headwinds were already evident as the year began—most notably slower GDP growth in China, continued volatility in its equity markets and broad uncertainty about how the world’s second-largest economy was being managed. The PE industry, however, chose to focus on those areas where growth is clearly evident. Invest- ment value totaled $92 billion, and the number of deals hit 892, both measures representing the second- highest totals ever (see Figure 2.1).

A combination of factors fueled the strong activity, including an abundance of capital, a hot Internet sector and the continued buying power of large institutions and SWFs. Funds in the region began the year with $137 billion in unspent capital and ended it with $136 billion, or almost two years’ supply at the current pace of investments (see Figure 2.2). While this created a strong incentive to put money to work, GPs for the most part showed great restraint in the face of inflated asset valuations. The exception was their continued appe-

Figure 2.1: Investment momentum eased, but Asia-Pacific deal value still hit its second-best year ever

Asia gold rush Downtrend Internet/China lift

$150B Global financial 124 crisis 100 90 92 Asia-Pacific 77 68 PE investment 61 60 50 55 52 deal value 50 34 39 17 19 11 10 9 0 2000 01 02 03 04 05 06 07 08 09 10 11 12 13 14 15 16

1,250

1,000

Asia-Pacific 750 PE investment deal count 500

250

0 2000 01 02 03 04 05 06 07 08 09 10 11 12 13 14 15 16

Note: Real estate and infrastructure funds are excluded Source: AVCJ

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Figure 2.2: Asia-Pacific funds are sitting on an ample supply of dry powder, which has remained largely flat

Unspent capital focused on Asia-Pacific

149 $150B 137 136 120 124 114

100 90 83 83

64 49 50 35

0 2005 06 07 08 09 10 11 12 13 14 15 16

Years of future 0.8 1.1 1.5 1.9 1.7 1.5 1.8 1.92.3 1.82.0 1.9 investments (estimated)

Buyout Growth Venture Other

Notes: Other includes distressed and mezzanine funds; excludes real estate and infrastructure funds; amounts are at year-end Source: Preqin

tite for high-growth technology companies. Internet, technology, media and telecommunications companies at- tracted $42 billion, or 45% of total investment value last year. Internet deals alone accounted for more than a third of the total, continuing a five-year trend(see Figure 2.3).

This focus on innovation provided a strong foundation for investment activity. Indeed, in April, Alibaba Group’s Ant Financial Services unit attracted the largest private fund-raising round for an Internet company ever, when sovereign wealth fund China Investment Corp. (CIC) and others invested $4.5 billion in the digital payments and financing platform. Megadeals, however, had less of an influence on investment totals than in previous years. Except in Japan, where Kohlberg Kravis Roberts’ $4.5 billion buyout of auto parts maker Cal- sonic Kansei Corp. was the largest PE investment ever in that country, megadeals fell off sharply from 2015—es- pecially in China (see Figure 2.4).

Early-stage deals, on the other hand, surged largely due to Internet fever. As GPs seek out growth and the region becomes increasingly comfortable with the PE value proposition, the number of small-company deals has risen steadily in recent years. The value of early-stage deals rose to $16 billion, or 18% of the total market, with particularly strong activity in Greater China, where early-stage deal value rose 24% from 2015 and was three times higher than the past five years’ average (see Figure 2.5). Activity ran the gamut from a $600 million second-round financing of electric car company Singulato Motors by Beijing’s Lancapital Holdings to GGV Capital’s $60 million Series B financing round of Zuoyebang, an online education company spun off from China’s Baidu Inc.

The wave of capital chasing deals of all sizes has kept competition at a fever pitch, which in turn has pushed valuations into nosebleed territory (see Figure 2.6). The average multiple of EBITDA-to-enterprise value

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Figure 2.3: The appetite for Internet-related assets drove more than a third of 2016 deal activity

Internet sector’s share of deal volume 2011–15 average deal count 2016 deal count

Oil & gas Telco Oil & gas Telco Mining Other

40% 39 Other Media Agri- ConstructionLeisure

Media culture hold Mining Constr- House- Services uction 34 Appar- Services Agriculture el Technology Apparel

Utilities 30 Technology House- hold 26 Utilities Leisure Financial services Financial Food services & Logistics 20 bever- 18 age Food &

Logistics beverage

13 12 Internet Internet 10 Health Indus- Health Retail Industrial trial Retail

0 2011 12 13 14 15 16

Note: Real estate and infrastructure deals are excluded in all graphs Source: AVCJ

Figure 2.4: Despite a drop in the Asia-Pacific region’s overall level of investment value, most markets in 2016 beat their five-year average

Deal value by market Sample of 2016 deals

Asia-Pacific PE investment value by country 2016 vs. 2016 vs. Country Asset and value Acquirer 2015 2011–15 average

There were 12 deals of −26% 16% Calsonic $1B or more in 2016, Australia and 5 Japan Kansei KKR 10 vs. 19 in 2015 −50% −36% Buyout, $4.5B New Zealand 8 7 GIC; Southeast Asia 5 42% 14% Cainiao Network 6 Temasek; China Technology 6 Primavera; Growth, $1.5B South Korea 15 −59% −29% Khazanah 9 10 Japan 3 215% 53% Nirvana Asia 6 Malaysia CVC Buyout, $1.0B 15 India 19 −21% 24% 12 49 Mphasis Greater China 72 −32% 30% India Blackstone 38 Buyout, $1.0B 0204060 $80B

2011−15 average 2015 2016

Notes: Real estate and infrastructure deals are excluded in left-hand graph; numbers are rounded Source: AVCJ

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Figure 2.5: Smaller venture-capital and early-stage deals are gaining steam, especially in China

New focus on start-up and early-stage deals Sample of 2016 start-up and early-stage deals in China

Asia-Pacific start-up and early-stage PE investments Asset and value Acquirer

$20B China Taiping Insurance; JD Finance Harvest Fund Management; 16 $1B Sequoia Capital 15 14 China Jianyin Investment; Ping An Health Cloud China Mobile; $500M 10 IDG Capital Partners Fenqile.com CoBuilder Partners; 6 (Juzilicai.com) Huasheng Capital; 5 3 $235M undisclosed investor 2 1 GSR Ventures; Xueleyun.com Huaxin Century; 0 $200M 2011 12 13 14 15 16 New Horizon Ningbo Angel Capital JBH.com Share of 3% 2% 6% 7% 12% 18% Guiding Fund; RRJ Capital; $200M total market Xinrong Investment

Greater China Other

Note: Real estate and infrastructure deals are excluded in left-hand graph Source: AVCJ

Figure 2.6: Deal multiples climbed to new highs in 2016, far outpacing levels in the US

Asia-Pacific US

Average EV/EBITDA multiple on Asia-Pacific PE-backed M&A transactions Average EV/EBITDA multiple for US LBO transactions

18X 17.0 18X 16.6

15 15 14.0 13.8 13.4 12.2 12.6 10.3 9.7 10.1 10 10 8.5 8.8 8.7 8.8 Increases in 2015 and 2016 5 largely reflected 5 transactions with high multiples in China 0 0 2010 11 12 13 14 15 16 2010 11 12 13 14 15 H1 16

Median purchase price multiple

Notes: EV is enterprise value; equity contribution includes contributed equity and rollover equity; based on pro-forma trailing EBITDA; Asia-Pacific excludes extreme multiples (<1 or >100) Sources: S&P Capital IQ LCD for the US; S&P Capital IQ for Asia-Pacific

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for PE transactions in the Asia-Pacific region climbed to 17 in 2016 from a record 16.6 in 2015, dwarfing the average of about 10 for US transactions. High-priced deals in China, where overall M&A multiples rose to almost 30 from 26 in 2015, created the most upward pressure. But heavy competition and a limited supply of high-quality targets have inflated prices throughout the region for years.

Although transactions involving large institutions and SWFs were less prevalent in 2016, these massive investors are catalyzing the deals that grab the most and biggest headlines in the Asia-Pacific region. Over the last five years, transactions involving some form of direct LP investment made up 29% of all Asia-Pacific deals and a stunning 57% of deals with $1 billion or more in value (see Figure 2.7). That compares with just 18% globally over the same period. As we’ll discuss more fully in Section 3, this poses both opportunities and threats for GPs operating in the region. But given industry dynamics, it’s clear that shadow capital is here to stay.

Exits: Still healthy, if less robust

With multiples soaring in the Asia-Pacific region, it was clearly a good year to sell companies. But Asia-Pacific exit value dropped to $74 billion in 2016 on only 418 exit transactions, as both measures fell below the five-year averages (see Figure 2.8). Despite the massive $7.4 billion initial public offering (IPO) of Postal Savings Bank of China, exit value in Greater China dropped 34% from the 2015 total, primarily because of a soft public equity market and subdued M&A activity. A few large exits helped to push the numbers higher in India, Southeast Asia and South Korea, but on a narrow base. Total volume in these markets benefited from an unusual number of very large transactions, such as Affinity Equity Partners’ and SK Planet’s $1.6 billion trade sale of Korea’s Loen Entertainment and KKR’s $1.2 billion exit of India’s Alliance Tire Group.

Figure 2.7: Deals involving LPs remain an important part of the PE landscape

There were fewer large deals involving LPs in 2016 But those deals remain an important source of investment

Asia-Pacific PE investments (by type of acquirer) Percentage of value of PE deals involving LPs (2012−16)

$68B $60B $52B $90B $124B $92B 100% 60% 57

80 40 60

All Asia-Pacific 40 deals: 29% 20 Global buyouts 20 valued at >$1B: 18%

0 0 2011 12 13 14 15 16 Asia-Pacific deals valued at >$1B

Average size of 286 373 150 251 423 188 deals involving 2016 examples: LPs ($M) • Ant Financial Services $4.5B acquisition led by CIC and a consortium of other investors LP directed Coinvestment GP driven • Alibaba Group Holding $1B PIPE financing by GIC and Temasek

Note: Both graphs exclude real estate and infrastructure Sources: AVCJ; Dealogic

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Figure 2.8: Exits tailed off in 2016, partly because China’s weak equity market hobbled IPO activity

Exits were soft across all channels, especially IPOs Sample of 2016 exits

Asia-Pacific PE exit value (by type) Country Asset and value Vendors

$125B 2016 vs. 115 Postal Savings CPPIB; Temasek; IFC; 2011–15 average China Bank of China National Council for IPO, $7.4B Social Security Fund 100 93 –12% 87 Loen Affinity Equity 75 74 South Korea Entertainment 75 Partners; SK Planet –26% Trade, $1.6B 53 50 GNPower 3% Mariveles Sithe Global Power; Philippines Coal Plant Blackstone Group 25 Trade, $1.2B –24% WH Group 0 China CDH Investments Trade, $1.2B 2011 12 13 14 15 16 Alliance Tire KKR; Number 490 412 428 552 548 418 India Group Mahansaria family of deals Trade, $1.2B

IPO Trade Secondary

Note: Real estate and infrastructure deals are excluded in left-hand graph Source: AVCJ

Figure 2.9: Though 2016 was a good year to sell, funds have fewer ripe assets to harvest

GPs have been trimming older vintages Older assets are not a major problem for most Asia-Pacific PE funds

Estimated unrealized fair value of Asia-Pacific PE portfolio (by vintage) Challenges posed by unexited portfolio companies getting close to fund lifespan

100% 100% 2015 Worsened 14

80 13 80 No real challenge

12 60 60 About the same 11

40 40 Moderate challenge 10 09 20 20 08 Getting Significant Getting better significantly 07 Some challenges challenges better 0 Pre-06 0 December 2014 December 2015 December 2016 Challenges faced Challenges compared with older assets with 2015 Share with 33% 36% 29% vintage of >7 years

Note: Left-hand graph excludes partial exits, infrastructure and real estate Sources: Preqin; Bain Asia-Pacific Private Equity Survey, January 2017 (n=118)

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A deeper look at the exit numbers suggests that the region was due for a break. After a few years of exits well above average, GPs have trimmed back an overhang of older companies in their portfolios, leaving themselves fewer ripe assets to sell. From 2008 to 2014, a lack of steady exit activity in the Asia-Pacific region allowed unrealized value to grow 27% compounded annually, setting a new record each year. Stronger exits in recent years, however, have slowed that growth by two-thirds. Overall, more than 80% of the 118 GPs in Bain’s 2017 Asia-Pacific Private Equity Survey said they aren’t particularly concerned with the number of aging, unexited companies in their portfolios (see Figure 2.9).

Fund-raising: A slow year

After allocating $115 billion to funds focused on the Asia-Pacific region over the previous two years, it’s unsurprising that investors looked elsewhere in 2016. Total funds raised in the region dropped almost 16% from a year earlier to $43 billion and slipped to 9% of the global total from 11% in 2015 (see Figure 2.10).

Results from the Bain Private Equity Survey indicate that GPs sitting on a mountain of dry powder may not have been giving fund-raising their full attention during the year. Their priority has been buying companies and working on their existing portfolios—not beating the bushes for fresh capital. That may change in the coming year, however. Deals and portfolio management will continue to be priorities, but many GPs indicated they will be refocusing on fund-raising as well. Close to 70% said they will launch a new fund in the next 12 to 24 months.

What they are likely to find is that investors are becoming pickier about whom they want to work with. As in previous years, LPs favored the largest, most successful funds in 2016, and that’s not likely to change. Data shows that about 21% of Asia-Pacific PE funds that closed last year raised their capital in 12 months or less, and the most experienced funds met their goals the fastest (see Figure 2.11). For other funds, the

Figure 2.10: Fund-raising activity lagged as investors paused after a few strong years

Asia-Pacific fund-raising Sample of Asia-Pacific funds closed in 2016

Asia-Pacific-focused PE capital raised (by year of final close) Fund Type of fund and Focus value raised

$60B 57 Buyout 51 MBK Partners Regional $4.1B 43 40 Buyout Hony Capital Greater China $2.7B

20 FountainVest Growth China Partners $2.1B

0 Balanced 2011–15 average 15 16 Warburg Pincus China $2.0B

Number of 244 226 147 funds closed Buyout Primavera China Share of 15% 11% 9% $1.9B global total

Note: Both graphs exclude real estate and infrastructure Source: Preqin

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Figure 2.11: A clear flight to quality among investors continues to benefit large funds with proven track records

Only one-fifth of funds on the road reached their goals quickly The most successful were large, experienced funds

Percentage of Asia-Pacific-focused PE funds closed (year of final close) Fund Time to close in 2016 Percentage of (months) funds that met their 2016 targets 100%

80 Large, experienced 11 67 funds 65 67 60 72 71

40 Smaller, experienced 19 52 9 9 20 24 14 funds 24 21 10 14 0 2013 14 15 16 First-time Less than target and/or greater than 2 years 25 36 funds On/more than target in 1–2 years On/more than target in less than 1 year

Notes: Real estate and infrastructure funds are excluded in both graphs; large, experienced funds exclude first-time funds and include funds with more than $1 billion in assets; numbers are rounded Source: Preqin

sales process was considerably more arduous—especially first-time funds, which were on the road for more than two years, on average.

Returns: The gap widens

Performance, of course, is what drives investor interest, and for the past several years the Asia-Pacific market has delivered. Funds focused on the region have posted median internal rates of return in the 12% range for two years running, and top-quartile funds have been producing returns of closer to 20%. Most importantly, GPs in the region have made a regular habit of distributing capital. As we noted earlier, LPs in the region have been cash-positive for the past few years. For the first half of 2016, LPs got about $1.4 back for every $1 called (see Figure 2.12).

On a relative basis, the industry clearly outperforms other asset classes. The gap is substantial for every period from 1 to 20 years, which isn’t lost on investors. Surveys show that portfolio performance in the Asia- Pacific region over the past three years has largely met or exceeded the expectations of LPs and, as a result, almost 80% of those surveyed said they plan to allocate at least the same amount of new capital to the market in 2017 as they did in 2016. And 38% said they would increase their allocations (see Figure 2.13).

More than any other PE market globally, however, performance in the still-maturing Asia-Pacific region varies widely. The gap between top and bottom performers is wider in this region than it is anywhere else in the world. The differential has been widening for years—a vestige of the gold rush period before 2008, when capital flowed into the region liberally, propping up thousands of funds that are now slowly failing (see Figure 2.14).

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Figure 2.12: LPs remained cash-positive in the Asia-Pacific region, and the industry generated impres- sive returns

LPs were cash-positive during the first half of 2016 Investment returns remain solid

Capital contributions and distributions by Asia-Pacific buyout and Evolution of net IRR of Asia-Pacific-focused funds growth funds

$25B 25% 20 20

10 15 Most LPs' expectations for emerging Asia: 16% 12.0 11.5 0 11.0 9.9 9.8 10 8.5

−10 5

−20 0 2006 07 08 09 10 11 12 13 14 15 H1 16 2011 12 13 14 15 Most up to date

Net cash flows Contributions Distributions 3rd-quartile funds Median funds 1st-quartile funds

Notes: Real estate and infrastructure funds are excluded in graph on right side; results in right-side graph are at year-end Sources: Cambridge Associates; Preqin (latest available data on performance, mostly June or September 2016)

Figure 2.13: Asia-Pacific private equity outshines other investment options, and LPs like what they see

Asia-Pacific private equity vs. other asset classes LPs’ satisfaction level and plans to allocate more capital

End-to-end pooled IRR (as of June 2016) Assessment of PE portfolio Plans for 2017 PE allocation, performance over the past 3 years compared with 2016

15% 14 100% 100% 12 11 Fallen Less 10 9 short capital 80 80 5 2 2 2 3 3 Met expec- 60 60 Same 0 tations amount

−5 40 40

−10 Exceeded −9 expec- More 1 3510 20 20 20 tations capital Investment horizon (in years) 0 0 MSCI AC Asia Pacific mPME Global Asia-Pacific Global Asia-Pacific Asia-Pacific buyout and growth funds based based

Notes: Includes combined buyout and growth funds in emerging markets, vintage years 1986–2015; Cambridge Associates’ modified Public Market Equivalent (mPME) replicates private investment performance under public market conditions; the public index’s shares are purchased and sold according to the private fund cash-flow schedule, with distributions calculated in the same proportion as the private fund; mPME NAV is a function of mPME cash flows and public index returns Sources: Cambridge Associates; Preqin Investor Outlook: Alternative Assets

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Figure 2.14: The wide gap between high- and low-performing funds in the Asia-Pacific region is growing again

Top-quartile funds continue to outperform expectations Polarization of returns is greatest in the Asia-Pacific region

Net IRR of funds focused on Asia-Pacific Gap between PE funds' top- and bottom-quartile net IRR (by regional focus, in percentage points)

35% Stabilized IRR Projected IRR 30

30 Asia-

Pacific 25 Top Expectations for 20 quartile 20 emerging Asia: >16% Global North 15 America Median 10 Europe 10

5 Third Stabilized IRR Projected IRR 0 quartile 0 2003 04 05 06 07 08 09 10 11 12 13 2003 04 05 06 07 08 09 10 11 12 13 Vintage year Vintage year

Notes: Includes Asia-Pacific-focused funds for which IRR data exists; vintage year refers to year of initial investment; excludes real estate and infrastructure funds and funds with no value Source: Preqin (latest available data on performance, mostly June or September 2016)

That trend will likely continue as generating alpha in the Asia-Pacific region becomes ever more challenging. More competition, sky-high multiples and moderating economic growth mean only the most accomplished funds will find ways to create new value and generate the kinds of returns that attract fresh capital. In Section 3, we will examine these challenges in more detail and discuss how changes in the PE market will require new approaches to sourcing, due diligence and value creation.

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3. The changing shape of Asia-Pacific private equity

For much of its history in the Asia-Pacific region, the PE industry has leaned toward a relatively simple value-creation formula: Look for a hot sector or market that is likely to benefit from strong macro conditions or multiple expansion, buy a minority stake in a representative company, wait for top-line growth to kick in and exit at a premium. Funds have put less emphasis on active portfolio management largely because minority stakes make it difficult to get directly involved in management and value creation. The limits of this approach became clear during the global financial crisis, when growth slowed, and aging, subpar companies piled up in regional portfolios, creating a massive exit overhang. But GPs have whittled away at the overhang in recent years and continue to benefit from the top-line growth that the good companies in emerging markets tend to generate.

The search for new sources of value

As powerful as the growth story is in the Asia-Pacific region, however, there are many reasons to believe that generating returns at current price multiples will only get tougher. Competition for deals is likely to burn hotter in the years ahead. More than 80% of the GPs in our 2017 industry survey said that they feel the current level of competition has increased. They are most worried about pressure from other regional and local PE funds, as well as strategic corporate buyers looking for opportunities to expand their footprint in the region (see Figure 3.1). As we noted earlier, this has helped push valuations into the stratosphere, increasing the pain for GPs who are looking to put dry powder to work (see Figure 3.2).

The flip side of multiple expansion, of course, is that it can help create value at exit. But it’s not clear that dynamic will hold in coming years. While competition for deals may sustain upward pressure on multiples,

Figure 3.1: Competition will remain intense and could continue to exert upward pressure on valuations

Competition is intensifying GPs view other PE firms and corporate investors as the top threats

Asia-Pacific PE funds' perspectives on the level of competition Biggest competitive threat in 2017 vs. past 12 months

100% Decrease Regional and local PE firms

80 Stay broadly Strategic/corporate investors the same

60 Global PE firms

Inbound corporate investment 40 Increase moderately from overseas

Direct investment by LPs and SWFs 20

Increase significantly Cross-border PE investment 0 January 2016 January 2017 01020304050 60%

Source: Bain Asia-Pacific Private Equity Survey, January 2016 (n=125) and January 2017 (n=118)

Page 14 Asia-Pacific Private Equity Report 2017 | Bain & Company, Inc.

Figure 3.2: GPs are feeling the pain of sky-high valuations in the Asia-Pacific region

Price mismatch is the biggest issue that keeps GPs awake at night… …and the discomfort is increasing

Top causes for concern Asia-Pacific PE funds' perspectives on current valuations

Mismatch in valuation expectations 100% Very high Lack of attractive deal opportunities Sustaining high level of returns Local economic/political challenges 80 Global macro uncertainty Challenged exit conditions High New types of players 60 Competition from traditional players Talent recruitment and retention 40 Unwillingness of CEO to sell Rising interest rates Tax regime/regulatory changes Fair Tightening fund-raising environment 20 Aging portfolio Tough lending environment Attractive 0 02550 75% January 2016 January 2017

Source: Bain Asia-Pacific Private Equity Survey, January 2016 (n=125) and January 2017 (n=118)

other factors may act as a cap on further growth. That means sellers may not be able to rely on pure multiple expansion as a source of exit value in the future.

The interest rate environment is the first problem. Since the global financial crisis in 2008, rock-bottom rates and a flood of cheap capital have contributed significantly to the Asia-Pacific region’s extraordinary multiple growth. But after a decade of global easing, interest rates in the years ahead have nowhere to go but up. More than half of the respondents in Bain’s 2017 survey believe rising rates will exert downward pressure on multiples. And that will likely create headwinds at exit for companies bought at current prices.

The other factor in flux is economic growth. While the region’s diverse set of economies remain vibrant by global standards, economists expect average GDP growth to moderate in the coming years. That, too, could act as a brake on multiples.

This means that the sources of value that Asia-Pacific investors have long counted on are shifting. Revenue growth has always been the No. 1 source of value in the region, and GPs in our survey believe it will remain so in coming years (see Figure 3.3). But while almost a third of respondents cited multiple expansion as a top source of returns five years ago, few expect that to contribute much value five years from now. Instead, 37% expect cost control and margin expansion will drive the most value, while 21% are counting on M&A activity to help improve returns.

What we know, however, is that most PE funds around the world are not particularly good at margin expansion. While deal strategies often include aggressive margin-expansion goals, GPs are less often successful in reaching those goals. Bain recently looked at a subset of post-financial-crisis deals in its proprietary database and compared deal model forecasts with actual results over the holding period. Though most had relatively

Page 15 Asia-Pacific Private Equity Report 2017 | Bain & Company, Inc.

Figure 3.3: Sources of value are shifting in the Asia-Pacific region, forcing funds to flex new muscles

External Internal

Multiple expansion Leverage Top-line growth Cost/margin M&A

Factor considered the most important source of returns for exited deals by Asia-Pacific GPs

71 68 61

37 31 31 20 22 21 12 11 7 5 6 6

5 years ago In 2016 In 5 years

Note: Respondents may have chosen more than one factor as the most important source of returns for a particular time frame Source: Bain Asia-Pacific Private Equity Survey, January 2017 (n=118)

accurate projections of revenue growth, 69% of them failed to attain the projected higher profit margins (see Figure 3.4). In most cases, margins actually declined during ownership. This wasn’t an Asia-specific grouping, but more than half of the emerging Asia GPs in our survey indicated that they also have struggled to meet margin-expansion goals.

The implication from this analysis is clear. As the sources of value in the industry shift, GPs will need to add new capabilities and exercise new muscles to remain competitive. While buying high and selling higher has been a reliable strategy in the past, funds will have to work harder in the future to create new value from the inside out. As we’ll see in Section 4, the best firms are focused on a few key strategies to better identify and capitalize on those opportunities.

Shadow capital: Increased complexity

As GPs think about how to adjust to new sources of value in the Asia-Pacific PE market, the most proactive firms are also devising strategies to manage the growing complexity posed by shadow capital. These firms are working from the conviction that direct investment and various forms of coinvestment by large institutions and SWFs are not passing trends, but represent a new normal in the marketplace. Limited partners are asking for—and receiving—these sorts of arrangements with ever greater frequency and, for GPs, that has critical implications for fund economics, availability of capital and access to deals.

What’s clear is that most large LPs are intent on changing how they engage with PE firms. They are reevaluating the number of GPs in their PE portfolios and seeking to generate more value from those they retain (see Figure 3.5). The California Public Employees’ Retirement System (CalPERS) is a prime example. In 2005, according to the Asian Venture Capital Journal, CalPERS had a PE portfolio of $9 billion placed with

Page 16 Asia-Pacific Private Equity Report 2017 | Bain & Company, Inc.

Figure 3.4: Increasing margins is harder than it looks

Based on a global sample, most companies miss their margin targets GPs in emerging Asia report similar results

Actual EBITDA margin at the end of holding period vs. original deal Perceived ability to achieve targeted margin expansion for companies model projection exited in the past 2–3 years

100% 100%

Higher Not that often 80 80 (5%–25%) Flat

60 60 In some situations (25%–50%)

40 40 Lower In many situations (50%–80%) 20 20 In most situations (>80%) 0 0 Sample of global deals, Emerging Asia GPs Developed Asia GPs 2010–13 vintage

Sources: Bain proprietary global deal database; Bain Asia-Pacific Private Equity Survey, January 2017 (n=118)

275 managers. By 2020, it expects to have $20 billion in PE exposure, but wants to have only 30 GP relation- ships. As more LPs make similar decisions, relationships with a smaller set of favored GPs will become both closer and significantly more complex. Many GPs are viewing these changes with trepidation. But the best are making the choice to get out ahead of the trend rather than let it roll over them.

GPs in the Asia-Pacific region were split down the middle when we asked them if shadow capital poses an opportunity or a threat. But almost 80% of them already offer some sort of coinvestment to LPs, and most are planning to expand or maintain those opportunities in the future (see Figure 3.6). There are obvious reasons why LPs are asking for these relationships. Not only do they give investors more visibility into their investments and more control over outcomes, but coinvestment arrangements can offer the LP sharply reduced costs in the form of lower fees and carry.

This, of course, is the downside for GPs, as it can significantly reduce their economics and slow down the investment process. The upside: These relationships can strengthen ties with LPs, which gives PE firms better access to deep pools of capital when it’s time to raise a new fund, as well as access to large deals that might not otherwise come their way.

More troubling is a parallel trend in which LPs are investing directly, bypassing GPs altogether and competing head to head for deals. At the moment, solo direct investing is limited to a small number of institutions with the requisite heft and ability to mount such programs—notably, the largest funds in Asia, the Middle East and Canada. But when they do show up, in the absence of fees and carry, they can afford to pay a higher price and still achieve target returns.

As we’ve noted, top firms are proactively setting themselves up to make the most of the shadow capital trend. There is no one-size-fits-all approach, but some GPs are creating funds that mimic the style of larger,

Page 17 Asia-Pacific Private Equity Report 2017 | Bain & Company, Inc.

Figure 3.5: As shadow capital grows, many LPs are looking for fewer and more-meaningful fund relationships

Global LPs are carefully evaluating new relationships Many are shifting to more active investing to increase their profits

2017 priorities for manager relationships Proportion of LPs who don't coinvest or directly invest in companies

40% 39 100% Other

Actively pursuing 80 new managers 30 30 26 Evaluating re-ups 60 with current GPs 21 20 19

40 Evaluating re-ups with current GPs, with limited

new relationships 10 8 20 Evaluating re-ups with current GPs, with fewer relationships 0 0 Global LPs Large LPs All respondents

2013 2014 2017 Note: Large LPs are survey respondents who plan to commit $500 million or more to private equity in 2017 Source: Probitas Partners surveys, Q4 2012, 2013 and 2016

Figure 3.6: Many Asia-Pacific GPs are lukewarm on shadow capital, but most are expanding coinvestment rights

PE funds have polarized views on …but most GPs already have …and plan to offer even shadow capital… coinvestment rights… more opportunities

Asia-Pacific GPs' perception of shadow capital Current participation models that Asia-Pacific Plans for 2017 on managed accounts GPs offer to LPs and coinvestments

100% Deals originated or 100% A major 4 opportunity underwritten by LPs More 80 80 Somewhat an opportunities to offer opportunity Separate managed 19 accounts 60 60

Counderwriting or Same number 40 28 40 Somewhat active sponsorship a risk Fewer 20 20 opportunities Passive coinvestment 78 Don't know rights yet A real risk 0 0 0204060 80%

Source: Bain Asia-Pacific Private Equity Survey, January 2017 (n=118)

Page 18 Asia-Pacific Private Equity Report 2017 | Bain & Company, Inc.

more conservative LPs by seeking out lower-risk, lower-return assets that they believe will hold for up to twice as long as the typical 10-year life of a conventional fund. Such funds enable GPs to compete on equal footing with institutional investors at auction, but a key challenge is deciding on the economics for these vehicles and how to adjust investing accordingly.

Shadow capital is here to stay and presents both threats and opportunities as GPs forge new, more complex relationships with their investors. But the most effective way for funds to turn the coinvestment trend to their advantage is by using sustained, market-beating returns to attract the best partners and gain the most negotiating leverage.

The most effective way for GPs to gain leverage in these situations is to improve their performance. That means sourcing more effectively, analyzing opportunities with more precision and delivering on a proprietary strategy to create value. In the next section, we’ll look at strategies that can help funds raise their game in these areas.

Page 19 Asia-Pacific Private Equity Report 2017 | Bain & Company, Inc.

DIVERSE MARKETS, DIFFERENT OUTLOOKS

2016 DEALS 2016 EXITS KEY 2016 MARKET (VS. 2011–15 (VS. 2011–15 HIGHLIGHTS OUTLOOK AVERAGE) AVERAGE)

+ Continuing shift to $49B $33B • Solid deal momentum (30%) (−20%) • Continued strength in “path to control” Internet deals + Large pool of companies 439 deals 182 exits • Slow IPO activity in first − Slower growth in macro (16%) (−12%) half of year environment − Record-high corporate GREATER CHINA leverage ratios − Steep valuations

$15B $14B • Softer Internet activity + More balanced sector focus (24%) (114%) • More buyouts and + Strong growth prospects mezzanine/pre-IPO + Rising interest from global 244 deals 107 exits • Robust exit momentum investors (14%) (29%) across the board, notably − Continued LP focus on in IPOs returns INDIA − High valuations and broader competition

$7B $8B • Larger-scale deals + Larger pool of targets (14%) (6%) • Rebound in Malaysia + Maturing GP networks • Strength in secondary − High valuation and 51 deals 18 exits deals competition (−3%) (−38%) • Weak IPO market − Some local macro challenges ASEAN

$6B $6B • Lack of megadeals + Solid flow from distressed (−29%) (5%) • Strength in consumer/ deals, cash-outs and retail and industrial noncore divestitures 64 deals 45 exits sectors − Steep valuations (−9%) (−13%) • Timid IPO momentum − Intensified competition SOUTH KOREA

$10B $5B • Biggest market since + Noncore carve-outs (53%) (−62%) 2007, supported by fueling deal flow largest-ever Japan − Few large transactions 64 deals 34 exits PE deal − Increased competition (58%) (−54%) • Strong interest in consumer and Internet JAPAN sectors • Slow exits across all channels

$5B $6B • Subdued buyout activity, + Plenty of PE capital (−36%) (−38%) despite continuous focus available on deal making + Some secondary 30 deals 31 exits • Slow exits across all opportunities (−36%) (−25%) channels − Scarcity of large, quality targets AUSTRALIA − High pricing − Competition from Chinese funds or corporations

Page 20 Asia-Pacific Private Equity Report 2017 | Bain & Company, Inc.

4. Creating value in a fiercely competitive market

Despite the gradual slowing of economic expansion in the Asia-Pacific region, top-line growth will continue to be a central focus of most value-creation strategies. But, as we saw in the previous section, other sources of value are becoming increasingly important in markets where asset prices have never been higher. In today’s fiercely competitive deal environment, the most effective general partners aren’t willing to rely on growth alone to produce returns. Instead, they aim to develop a differentiated angle on markets and companies by building new muscle in three critical areas:

• Smart sourcing

• Thesis-based due diligence

• Proactive value creation

Excellence in these critical capabilities gives PE firms the ability to find more proprietary deals and the confidence to set a price in bidding situations that will lead to real value.

Smart sourcing

When we asked GPs about sourcing in this year’s Asia-Pacific PE survey, a few things stood out. First the good news: Almost half of their deals are still proprietary, which means GPs in the region are avoiding expensive auctions in many cases. Finding attractive deals, however, is getting harder and harder—almost three-quarters of the respondents said it was one of their most pressing challenges (see Figure 4.1). Part of this difficulty owes to sky-high multiples in these markets, which are making it hard to justify many trans-

Figure 4.1: Amid fierce competition, Asia-Pacific GPs are having more difficulty sourcing attractive deals

Almost half of Asia-Pacific deals …but it’s getting harder to …and the lack of attractive deal are proprietary…. find good investment prospects… opportunities is a major challenge

Proportion of proprietary deals in the region Sourcing attractive deals vs. 12 months ago What keeps Asia-Pacific GPs awake at night

49 50% 100% Significantly 80% 73 easier Easier 40 80 60

30 60 Same

40

20 40

20 10 20 More difficult Significantly more difficult 0 0 0 Estimated 2016 percentage Asia-Pacific GPs Lack of attractive deal opportunities

Sources: Bain Asia-Pacific Private Equity Survey, January 2017 (n=118); Preqin Private Equity Spotlight

Page 21 Asia-Pacific Private Equity Report 2017 | Bain & Company, Inc.

Figure 4.2: Few Asia-Pacific firms believe they are operating at full potential on sourcing

Asia-Pacific funds' self-assessment on sourcing

100%

80

60

40

20

0 Clarity on sweet spot, with Adequate time spent on Networking plus adequate Established network very clear criteria for what's quality networking at compensation system at of experts and in or out all levels senior levels industry advisers

Operating at full potential Maturing model being refined Experimental stage Early stages, with a long way to go

Source: Bain Asia-Pacific Private Equity Survey, January 2017 (n=118)

actions. But it may also be that many PE firms aren’t putting their best foot forward. In our survey, few GPs said they are operating at full potential when it comes to the various aspects of sourcing (see Figure 4.2).

The firms that do excel in this essential phase of the PE value chain stand out in two key areas: They have defined a sharp point of view on where to hunt, based on their unique experience and capabilities. And they have spent years nurturing a deep and rich network of experts and market contacts, people who can help the firm proactively identify opportunities that others may miss.

Narrowing the firm’s aperture. Creating a differentiated point of view on assets starts with concentrating on what the firm does best. Firms need to clearly articulate an investing sweet spot by analyzing past successes and taking a hard look at what capabilities the team brings to the market. This sweet spot provides clear criteria that deal teams can use to filter prospects across sector, geography and deal size or type. It also suggests what sort of network the firm needs to build and which capabilities demand the most attention. That puts the firm on solid ground, ready to proactively seek out opportunities in the areas where it is most likely to succeed.

The most clearly developed sweet spots become brands that improve deal origination by announcing the firm to company owners and intermediaries who are looking for equity financing. A good example is Catterton, which developed deep expertise in the consumer sector before partnering last year with LVMH and Groupe Arnault to form L Catterton. The partnership bills itself as “The World’s Leading Consumer Growth Investor” and is building a proprietary investment process to define key consumer trends and invest- ment themes before matching them against a set of defined industry verticals from luxury apparel to house- hold durables. The objective is to narrow the funnel down to subcategories before the firm identifies and prioritizes a set of attractive, midmarket growth targets. L Catterton can then offer those targets a valuable set of entice-

Page 22 Asia-Pacific Private Equity Report 2017 | Bain & Company, Inc.

ments, including sector-specific operational expertise, access to a network of strategic thought leaders and the ability to tap a deep pool of consumer industry talent.

This kind of sharply defined focus on a sweet spot enhances a firm’s ability to double down on areas where it can bring the most value. Deal teams can build a live list of companies evaluated on a predetermined set of criteria and approach owners to develop relationships long before they are ready to sell. A clearly stated direction motivates action, giving teams incentive to mine the firm’s key areas of interest for leads and relationships.

Focusing on a sharply defined sweet spot enhances a firm’s ability to double down on areas where it can bring the most value. Deal teams can build a live list of companies evaluated on a predetermined set of criteria and approach owners to develop relationships long before they are ready to sell.

Building strong networks. GPs in the Asia-Pacific region say intermediaries and internal networks built by managing directors provide their biggest sources of deal flow. Networking, by definition, is an individualized, high-touch process that should align with the firm’s personality. For Bain Capital, that means carefully defining where it wants to play, based on macro analysis and its ability to take advantage of global expertise in various sectors. It then screens and proactively contacts key players in the short-listed areas of interest. In 2014, that led the firm to Asia Pacific Medical Group (APMG), a private hospital company in China. After the initial introduction, the Bain Capital deal team slowly built trust and rapport with APMG management and share- holders, using its network to secure access to key decision makers. In March of last year, the persistence paid off. Bain Capital turned an original deal to supply minority growth capital into a $150 million buyout of APMG, giving the firm’s new Asia fund a solid position in China’s fast-growing healthcare sector.

The best firms also build relationships strategically and proactively, based on what sorts of expertise will complement their own. They involve the whole team, including junior staff, in securing connections within key industries and geographies. They hire senior industry leaders to help source deals and nurture relation- ships with the investment banks and other deal intermediaries that orbit their sweet spot.

Because reputation and familiarity matter deeply when building in-market connections, many firms also tap highly respected individuals with local star power to help establish a brand and enhance networks locally. In 2011, for instance, KKR appointed Lim Hwee Hua, Singapore’s former minister of finance and transport, as a senior adviser. Last year, Wendel Group sought to enhance its network in Southeast Asia by hiring former HSBC Indonesia Managing Director Ted Margono as an adviser. These experts can create credibility in local markets and open doors by facilitating introductions with important contacts in otherwise closed business circles. They can also help qualify opportunities and help their employers avoid the land mines scattered around local markets.

Thesis-based due diligence

With multiples at record levels in the Asia-Pacific region and competition for deals as fierce as ever, the threat of paying too much for assets is plain. But there’s also the risk of offering too little and watching a rival run away with an attractive deal. With quality targets in short supply, making the most of each opportunity is critical to

Page 23 Asia-Pacific Private Equity Report 2017 | Bain & Company, Inc.

Figure 4.3: Thesis-based due diligence produces insights that enable GPs to win deals and profit from them

• Taking advantage of new data sources and digital-based analyses to provide Us new insights e o f a s d t va se n s c a e d • Developing a differentiated and n a o s n unique angle on the target a w l e y company through various i t v i c investment approaches s y r

a t

e

i

r

p

o

r

P

Co th mb row ining cost and g • Taking a holistic view of target companies, with a focus on both the top line and the bottom line

Source: Bain & Company

keeping the flywheel spinning profitably. The most successful buyers in this environment find an edge against the competition by ferreting out value others haven’t seen. That lets them bid aggressively but confi- dently, comfortable that they will be able to create ample value over the asset’s holding period.

Given that the traditional sources of value in the Asia-Pacific market—GDP growth, cheap capital and multiple expansion—won’t provide the same level of support to returns as in years past, due diligence has to focus on other ways to lift a company’s performance. The best funds treat this period of scrutiny as an opportunity to build a clear investment thesis, supported by executable, proprietary insights that will eventually serve as a roadmap for post-acquisition value creation. Most rely on a blend of approaches. We will highlight three of them (see Figure 4.3).

Developing proprietary views on assets. Top-tier firms approach their sweet spot with a proven and familiar investment style that has generated value in the past. This helps sharpen their focus as they look for certain types of companies with familiar characteristics. Every firm is different, but in our experience, the most effective approaches combine elements of several styles:

• Contrarian investing. Finding out-of-favor companies that are due for a cyclical turn or show hidden potential because they have valuable capabilities or assets that have been undermanaged.

• Differentiated value-creation investing. Unlocking value that other firms can’t by tailoring a proven, differ- entiated value-creation philosophy to companies in familiar industries.

• Macro trend investing. Developing a point of view on the direction of major secular trends and using it to predict secondary or tertiary effects on markets and companies that aren’t yet reflected in prices.

Page 24 Asia-Pacific Private Equity Report 2017 | Bain & Company, Inc.

• Cross pollination. Taking themes and investment theses that have worked in one geography or market and applying them systematically to others.

These are not simply generic investment styles. They have been adapted and internalized to become part of the firm’s culture and provide deal teams with a clear set of criteria for analyzing companies before the acquisition. CVC Capital Partners, for instance, uses its value-creation philosophy to assess targets in the several industries it knows most intimately. In 2010, this approach led to a 78% stake in Indonesia’s Matahari Department Store through a $714 million buyout. Many thought CVC had paid too much, but drawing on its deep experience in retail, CVC saw something else: an opportunity to significantly improve performance by expanding the store footprint, adding talent, strengthening a private label program and dialing up promotions. Market share jumped 12 percentage points, and annual revenue growth increased to 13%. As it exited in phases from 2013 to 2016, CVC earned a 7x–8x return on investment.

Combining cost and growth. As the traditional growth-oriented sources of value come under pressure in the Asia-Pacific region, margin expansion is getting a lot more attention. No matter which style of investing a firm chooses, managing costs more aggressively to improve the bottom line is becoming a more critical component of adding value. As we saw in Section 3, however, many firms fall flat when it comes to expanding margins during the hold period. We believe that’s because they fail to take a holistic view of the challenge, starting with the due diligence phase.

Efforts to expand margins often fall flat because firms look at cost and revenue opportunities separately, rather than taking a holistic view of the challenge.

What do we mean by holistic? Many PE firms stumble over the challenge of expanding margins because they break their analysis of a company’s potential into two separate areas: opportunities to cut costs and opportunities to increase revenue. The problem is that focusing on either the top line or cost initia- tives in isolation can lead to faulty assumptions about how new initiatives will actually affect margins. Looking for cost reductions alone, for instance, might lead to a conclusion that the EBITDA margin could improve by 5% over five years. Yet during the hold period, the investor may discover that capturing a particular revenue opportunity requires significant marketing investment. Or it may turn out that that prices are declining slowly over time. Add it up, and the 5% margin improvement over five years might have been well off target—which, in turn, erodes the firm’s value-creation estimate and threatens the return on investment.

Taking a holistic view of the asset’s potential means looking at cost and growth initiatives together to derive the optimal mix of tactics that will produce the highest level of profitable growth. The most successful firms break it down into a rigorous review of where the company is now and where it needs to be. This involves making sure the firm truly understands the baseline and what current management is trying to accomplish. It can then bring in the right experts to review both top-line and margin-improvement potential. This analysis forms the basis of a high-level transformation plan that prioritizes the few critical initiatives that will make a big difference during ownership. That way, the firm gives itself a head start on value creation from Day 1 after the acquisition.

This kind of analysis helped one firm bid confidently for an Australian specialty retailer that was being sold by another PE firm. Because it was a secondary deal, the buyer’s major concern was that the potential value

Page 25 Asia-Pacific Private Equity Report 2017 | Bain & Company, Inc.

creation had already been captured by the seller. But by working with advisers and tapping their expertise, the firm was able to quantify significant margin-expansion opportunities that justified the deal. Looking at cost alone might have led to a different conclusion.

Making the most of advanced analytics. The digital age has ushered in new sources of data and sophisticated analytics capabilities that give PE firms unprecedented power to quickly derive insights about target companies’ potential. Customer reviews, geographic information, compensation data, employee and organizational data, social media sentiment and other web data all can be mined for information that sharpens due diligence.

Analytics are no replacement for business judgment or traditional valuation methods. But they can enhance the firm’s understanding of almost any business function. Scraping and analyzing customer reviews from social media websites such as China’s WeChat or Korea’s KakaoTalk can provide valuable insight into product perception and consumer sentiment. Analyzing assortment data can shine a light on relative pricing, product mix and discounting strategies. Mapping a company’s physical locations relative to competitors or target customers can identify white spaces. Tapping career sites such as LinkedIn and Glassdoor can build a better picture of organizational structure and estimated personnel costs. A tangle of spans and layers, for instance, may signal an opportunity to create a more rational, responsive organization.

Analytics are no replacement for business judgment, but digital tools can significantly deepen a firm’s understanding of a company and its potential, which can mean the difference between winning a deal at the right price or not.

Reams of raw data could bog down a due diligence effort, but PE firms also have access to valuable tools and can speed analysis. One example is Tableau Software, which allows users to create maps, dashboards and charts to better visualize trends and patterns that would otherwise be invisible. Clarabridge uses text analysis and language processing to analyze customer sentiment, categorize comments and evaluate survey responses. These tools accelerate insight discovery and automate manual due diligence processes. Analysis that used to take months can now be had in hours or days.

Top-tier firms are already deploying analytics to sharpen insights that lead to more confident valuations. When one global fund began its due diligence of an online retailer in India, for instance, it scraped data directly from the web to develop a better understanding of how it might optimize pricing. The data high- lighted several opportunities. First, the firm saw that the target company could reshuffle its brands and SKUs to create a more profitable mix. The analysis also revealed several product overlaps and allowed the firm to compare the target’s discounting strategies with those of successful competitors. All of this might have been possible in the past, but it would have required a less precise manual sampling process that would have drained the firm’s time and resources. Analytics delivered insights on a tight timeline and allowed the buyer to confidently assess the opportunity to coax more revenue from the product mix.

Making the most of analytics is hard. It requires significant investment of time and resources. Most of the tools require advanced technical capabilities, which means either hiring staff in-house or working with out- side consultants to access and analyze the data. It’s also true that analytics offer no panacea; the insights provided are only as good as the underlying data, and data quality varies widely. What’s clear, however, is that digital tools can significantly deepen a firm’s understanding of a company and its potential. And that can mean the difference between winning a deal at the right price or not.

Page 26 Asia-Pacific Private Equity Report 2017 | Bain & Company, Inc.

Proactive value creation

For a number of reasons, the Asia-Pacific region has always presented a particular challenge to PE firms that want to take an active role in value creation. Over the past five years, only about 15% of deals qualified as buyouts, meaning most of the other 85% involved minority stakes. Acceptance of the PE value proposition has grown over the years in the region, but Asia-Pacific business owners still prefer to maintain a tight rein on their companies. This means investors have fewer opportunities to influence real change, and winning buy-in is difficult—some- thing PE firms see as a significant problem. Because the supply of management talent in the region is thin, GPs say that existing company leaders often lack the requisite skills to drive improvement (see Figure 4.4). For years, the region’s headlong growth and margin expansion obscured some of these issues. But as sources of value shift, the ability to engage management in a clear, rigorous value-creation strategy will become an ever- expanding part of creating value and producing returns.

Finding a path to control. None of this is to say that there aren’t plenty of minority deals that succeed in the Asia-Pacific region. After completing a two-stage exit in 2015, Carlyle Group earned a 5x return on a 9% stake in China’s Haier Electronics Group that it had held since 2011. KKR more than doubled its money on an 18% stake in Vietnam-based Masan Consumer that it exited in stages in 2015 and 2016. During the ownership period, KKR was highly involved with management, helping the company unlock its next wave of growth by expanding into new categories and launching an active M&A program.

Taking such an active role in value creation, however, involves some measure of influence over decision making. And increasingly, that means negotiating “path to control” provisions in minority situations. More than three-quarters of the GPs in our survey said they want more control, and most expect a steady increase in such provisions over time (see Figure 4.5).

There are several ways GPs can gain more influence over their investments. Many firms negotiate board seats and the right to veto most major decisions affecting the company. They try to identify change-minded owners early and work with them to formulate a value-creation strategy. Generating buy-in means producing quick wins that demonstrate to the company that the PE value proposition is real. And top-tier firms often bring in globally recognized experts to influence change and produce a “wow” effect.

Because it is hard to replace management teams in the Asia-Pacific region, the most successful firms have developed value-creation models that clearly define how the firm will work with existing management and what support it will provide.

Defining the right model. For most GPs focused on the Asia-Pacific region, value creation is still a work in progress. Only half say they have a clearly defined model for creating post-acquisition value, and most are still building out their teams and capabilities (see Figure 4.6). GPs also say they are generally successful in putting a robust value-creation plan in place within the first six months of ownership. But they are sig- nificantly less effective in seeing it through. A large majority say their plans fall short of intended goals at least 20% of the time.

Page 27 Asia-Pacific Private Equity Report 2017 | Bain & Company, Inc.

Figure 4.4: Why do value-creation plans fail? Weak management teams and an inability to influence them

Main reasons for failure

Management team lacks requisite skills

Inability to influence the portfolio company

Management team not fully bought into the plan

Macroeconomic headwinds

Unfavorable shift after the close

Plan was overly ambitious

Plan lacked sufficient resources

Focus was not on the right issues

Inadequate monitoring at the board level

0204060 80%

Source: Bain Asia-Pacific Private Equity Survey, January 2017 (n=118)

Figure 4.5: In minority situations, locking in a path to control is critical for creating value

GPs want more control in minority situations They expect to have some control in nearly half of minority deals

Asia-Pacific funds interested in a path to control in minority situations Share of Asia-Pacific companies bought with a minority stake and a path-to-control provision

100% 50% Not interested at all 13 percentage points

Not really interested 80 40

Yes, moderately interested 60 30

40 20

Yes, very interested 20 10

0 0 Path to control In the past 2–3 years In the next 2–3 years

Source: Bain Asia-Pacific Private Equity Survey, January 2017 (n=118)

Page 28 Asia-Pacific Private Equity Report 2017 | Bain & Company, Inc.

Figure 4.6: Most Asia-Pacific PE firms are still building value-creation models and capabilities

Do you have a clearly defined model to create Do you have the right portfolio value after an acquisition? team and capabilities?

Self-assessment on post-acquisition value-creation model Self-assessment of portfolio team and capabilities

100% Early stage of 100% No dedicated value- Model testing; more work to do model definition creation professionals Early stage, with 80 80 ad hoc portfolio support Good progress made; 60 refining phase 60 Team and capabilities being built out

40 40

Clearly defined model 20 to create value 20 Fully staffed team with the right priorities

0 0 Value-creation model Portfolio capabilities

Source: Bain Asia-Pacific Private Equity Survey, January 2017 (n=118)

Because it is hard to replace management teams in the Asia-Pacific region, the most successful firms have developed value-creation models that clearly define how the firm will work with existing management and what support it will provide. Four broad approaches are gaining currency in the region:

• Active value-creation model. Firms like Bain Capital and KKR take an active approach to value creation by building a dedicated team of full-time employees that provides newly acquired portfolio companies with deep strategic analysis, operational support and help in developing a strong value-creation plan. The team is a firmwide resource that works directly with CEOs to engage them in creating a priority list of high-impact initiatives to boost top-line growth and promote margin expansion.

• Maestro model. This model, favored by Carlyle and Temasek Holdings, also focuses on early intervention and continual interaction with top management. But instead of fielding a large, dedicated portfolio group, the firm designates a “maestro”— a senior managing director who works with a small staff and the firm’s deal teams, which interact directly with the CEOs. This group coordinates the efforts of outside experts engaged to help company management teams formulate value-creation plans.

• Adviser-led model. Firms such as EQT prefer a less interventionist approach. Instead of working with every portfolio company, they focus on the companies that need the most attention, helping management teams shape goals and providing the resources to see them through. Often this means drawing on a large network of outside experts who can jump in with specific know-how.

• Playbook model. A playbook lays out a set of strategies, tactics and operational procedures that a firm applies to deal after deal in a given sweet spot. Platinum Equity, for instance, applies a trademarked M&A&O (mergers, acquisitions, operations) turnaround strategy that aims to create value through back-to-basics business strategies combined with operational guidance and resources.

Page 29 Asia-Pacific Private Equity Report 2017 | Bain & Company, Inc.

5. Conclusion

What we saw in the Asia-Pacific region over the past year was a PE industry that is maturing rapidly. Instead of getting blown around by global crosswinds, it performed—and performed surprisingly well—according to its own fundamental strengths and weaknesses. GPs paid up for growth in the Internet and technology sectors, but avoided the temptation of putting their ample stock of dry powder to work in expensive sectors with lesser prospects. Returns kept growing and LPs remained cash-positive, indicating that the PE investment cycle is solidly self-sustaining.

But it’s also true that the sources of value in the Asia-Pacific region are shifting. While top-line growth remains the strongest catalyst for value creation, a reliance on GDP and multiple expansion is giving way to a focus on performance improvement and improved margins. Amid fierce competition and record-setting multi- ples, GPs in the region will need to raise their game to produce market-beating returns. They will have to source more effectively, bring a new level of rigor to due diligence, and develop a value-creation model that can win management buy-in for meaningful performance improvement—even in minority situations.

A key set of questions can help assess where your firm stands on its full-potential journey:

• Has your firm defined a sweet spot with crystal clear criteria for identifying which deals you like and which you don’t?

• Are you confident your firm knows of all the potential opportunities in your chosen markets and sectors?

• Can your firm develop sharp, proprietary insights about the companies it targets?

• Do your sourcing and due diligence capabilities give you a competitive advantage?

• Do you have an established panel of industry advisers and an expert network that you can tap into for sourcing deals and adding value post-acquisition?

• Has your firm developed a repeatable model for creating value in its portfolio companies, with a high degree of buy-in from the deal partners?

Overarching these questions is another one: Has your firm found a way to consistently differentiate itself from a growing horde of competitors through sustained outperformance? While the vibrant economies of the Asia-Pacific region will continue to present private equity investors with real opportunity in the years to come, the capital will flow to those firms that can answer in the affirmative.

Page 30 Asia-Pacific Private Equity Report 2017 | Bain & Company, Inc.

Market definition

The Asia-Pacific private equity market as defined for this report

Includes

• Investments and exits with announced values of more than $10 million

• Investments and exits completed in the Asia-Pacific region: Greater China (China, Taiwan and Hong Kong), India, Japan, South Korea, Australia, New Zealand, Southeast Asia (Singapore, Indonesia, Malaysia, Thailand, Vietnam, the Philippines, Laos, Cambodia, Brunei and Myanmar) and other countries in the region .

• Investments that have closed and those at the agreement-in-principle or definitive agreement stage

Excludes

• Franchise funding, seed and R&D deals

• Any non-PE, non-VC deals (e .g . M&A, consolidations)

• Real estate and infrastructure (e .g . airport, railroad, highway and street construction; heavy construction; ports and containers; and other transport infrastructure)

Page 31 Key contacts in Bain’s Global Private Equity practice

Global Hugh MacArthur ([email protected]) Asia-Pacific Suvir Varma ([email protected]) Australia Simon Henderson ([email protected]) Greater China Kiki Yang ([email protected]) India Arpan Sheth ([email protected]) Japan Jim Verbeeten ([email protected]) South Korea Wonpyo Choi ([email protected]) Southeast Asia Sebastien Lamy ([email protected]) Europe, Middle East and Africa Graham Elton ([email protected]) Americas Daniel Haas ([email protected])

Reporters and news media Please direct requests to Nicholas Worley [email protected] Tel: +852 2978 8830

Acknowledgments

This report was prepared by Suvir Varma, a Bain & Company partner based in Singapore who leads the firm’s Asia-Pacific Private Equity practice; Kiki Yang, a partner based in Hong Kong who leads Bain’s Greater China Private Equity practice; and a team led by Johanne Dessard, practice area director of Bain’s Private Equity practice.

The authors wish to thank Vinit Bhatia, Michael Thorneman, Weiwen Han, Derek Deng, Sebastien Lamy, Usman Akhtar, Arpan Sheth, Madhur Singhal, Srivatsan Rajan, Wonpyo Choi, Jim Verbeeten and Simon Henderson for their contributions; Rahul Singh for his analytic support and research assistance; and Michael Oneal for his editorial support.

We are grateful to Preqin and the Asian Venture Capital Journal (AVCJ) for the valuable data they provided and for their responsiveness.

This work is based on secondary market research, analysis of financial information available or provided to Bain & Company and a range of interviews with industry participants. Bain & Company has not independently verified any such information provided or available to Bain and makes no representation or warranty, express or implied, that such information is accurate or complete. Projected market and financial information, analyses and conclusions contained herein are based on the information described above and on Bain & Company’s judgment, and should not be construed as definitive forecasts or guarantees of future performance or results. The information and analysis herein does not constitute advice of any kind, is not intended to be used for investment purposes, and neither Bain & Company nor any of its subsidiaries or their respective officers, directors, shareholders, employees or agents accept any responsibility or liability with respect to the use of or reliance on any information or analysis contained in this document. This work is copyright Bain & Company and may not be published, transmitted, broadcast, copied, reproduced or reprinted in whole or in part without the explicit written permission of Bain & Company.

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