P R I VAT E e qu ity

Private tuition:
Insights into how private equity houses
nurture their investments in Asia
A DV I S O RY

Private tuition: Insights into how private equity houses nurture their investments in Asia

Forward
After falling to relatively low levels

alone cannot secure a deal: an investor

following the tech wreck of 2001,

needs to bring something more to the

private equity fund-raising has

table to secure an investment that will

undergone a resurgence right across

meet the challenging hurdle rates of

Asia. In fact, funds actually available

return that are required.

for investment in the region now far

exceed the pool of funds being raised
David Nott
Regional Leader
KPMG Private
Equity Group

Eric Hall
Editor North Asia
Reuters

here as the global buy-out houses have

become increasingly active. Private
equity funds are attracted to the region
to acquire under-performing companies
and provide expansion capital to those
companies benefiting from years of
strong economic growth in China and
India and the pull-through effects right
across the region.

In this world, the dynamics that

are challenging emerging Asian
companies to globalise, or pushing
already globalised firms to deconstruct
previous uncompetitive, high-cost
practices, will continue to reveal new
and profitable opportunities to private
investors who understand best how
to intervene and do it first. This means
that active management of portfolio
companies is essential to achieve their

This is a time of great change in the

growth ambitions and profitability

economic power of Asia as the global

targets.

balance of corporate capitalisation,

commerce, profits and investment
continues to grow in the region at a
far greater pace than elsewhere in
the world. Investment in this rapidly
expanding region has never been more
attractive.

While deploying private equity

successfully in Asia is not getting any
easier, it may also just be the beginning
for those with the best intelligence
and insight into the market. For these
reasons, we are pleased to present
this professional study by KPMG and

There were never days of easy pickings

Reuters giving us the intelligence and

for private equity in Asia and the

insight into how private equity firms

situation isn't changing. In the late

are responding to the challenge to

1990s, economic volatility, combined

realise value from their portfolio of

with regulatory uncertainties, made

investments.

life difficult for an investor. Today, cash

Private tuition: Insights into how private equity houses nurture their investments in Asia

Introduction
KPMG commissioned Reuters to
canvass the opinions of more than 30
PE houses, as well as a number of
other stakeholders and professionals,
to gain their insight into portfolio
management. KPMG wanted to
know more about how PE houses set
themselves apart and how portfolio
management strategies differ around
the region. The interviews took place
in Tokyo, Seoul, Hong Kong, Singapore
and Sydney during August and
September 2006.
This report also compares and
contrasts the views expressed
against a very different backdrop for
PE houses, presented in KPMGs
2003 European Insights into Portfolio
Management1 report. This report
comparison may help global firms
understand what makes Asia special at
this stage in the investment cycle.
The days of risky but potentially very

Much is at stake. Global buyout funds

profitable relationships between

such as Kohlberg Kravis Roberts & Co,

private equity and cash-strapped

The Blackstone Group, Texas Pacific

companies are fading fast for private

Group and Permira have arrived in

equity. In the wake of the Asian

Asia in recent years to take part in the

financial crisis in the late 1990s,

regions growth. They are also seeking

companies could be bought for knock-

diversification from their maturer

down prices and many private equity

domestic markets in Europe and the

(PE) houses obtained a somewhat

United States.

predatory reputation. Today, funds

are being forced to pay more for the
challenge of partnering with Asian
companies while at the same time
they find that market increasingly
complex and demanding. PE houses
cannot simply sit back and ride out the

To be successful, global firms have had

to alter their style, and in some cases
adapt the business models that have
been so successful elsewhere, in order
to participate in the new growth phase
being experienced across Asia.

economic cycle. The need for proactive

In 2005, PE houses raised a record

and effective portfolio management is

US$20.6 billion to invest in Asia Pacific

now a foremost consideration for the

companies. With so much activity,

industry.
1 Insights into Portfolio Management, KPMG, 2003

Private tuition: Insights into how private equity houses nurture their investments in Asia

both general partners (GPs) and limited

A few high-profile black holes or blow-

partners (LPs) seem to share a healthy

ups, as bad investments are known

degree of

optimism2.

A community

in the industry, could bruise investors

of leverage financiers, M&A advisors,

confidence as well as prompt a rethink

consultants, accountants and lawyers

by lender banks, in turn impacting

has sprung up, dedicated to servicing

heavily on the profits of numerous

the funds. Investment banking

suppliers. Many survey respondents

revenues from financial sponsors in

expressed fears that the severity of

the Asia Pacific region alone have hit

competition might create a bubble

all-time highs in recent years, totaling

in the buyout industry. They will be

US$403 million in

20053.

anxiously watching this vintage year of

However, the consensus is that returns

on investment are dropping. Large
PE houses are now targeting returns
between the Asian regions share
indices and typical historical returns of
around 25 percent. This has seen some
investments with expected PE returns
of around 15-17 percent.

Funds raised in Asian private equity

200

25,000

180
Funds raised (US$m)

140
120

15,000

100
10,000

80
60

Fund size (US$m)

160

20,000

40

5,000

20
-

2000

2001

2002

Total funds raised

2003

2004

2005

1H2006

Average fund size

Source: AVCJ database, September 2006

2 Asia Venture Capital Journal (AVCJ) database, September 2006

3 Dealogic database, September 2006

investment by the funds, hoping they

will all succeed in adding value to their
portfolio companies.

Private tuition: Insights into how private equity houses nurture their investments in Asia

Key findings
Private tuition: the
mentoring phase
Interactions between the PE house
and its portfolio companies:
. 64 percent of respondents believe
proactive on-site monitoring via
discussion with senior management
is the most important method of
monitoring performance of portfolio
companies, while 27 percent of
respondents said board room
guidance was the best way to add
value
. A majority of PE houses considered
that fund management needed
to be based in the country of the
investment

Use of external management

support/introduction of new
members to the management
team is increasing:

Entry issues
. As entry prices climb, PE houses
indicated that they are increasingly
focusing on post-deal management
assistance in order to improve
performance and valuations
. Increased private equity
participation in the region has
resulted in deals moving more

. Respondents appointed/
recommended a CEO to portfolio
companies in 31 percent of
investments and a CFO 45 percent
of the time
. Increasing deal size is expected to
lead to investment professionals
focusing more narrowly on key
areas where they can add value

towards an auction process, which

. Just over half of the PE houses

respondents indicated restricts the

surveyed had recently hired

ability of the bidder to get the time

consultants

and data to understand clearly all

post-deal issues
. Average percentage returns on
investments are expected to fall to
the low twenties

. PE houses are hiring more partners

with operational backgrounds

Private tuition: Insights into how private equity houses nurture their investments in Asia

Sources of under-performance:

Differentiation:

. The perceived cause of

. Capital is more widely available

underperformance was attributed to

to management so, apart from

pre-deal issues in only 30 percent

the size of the deal they can

of occurrences. Upon more detailed

handle, PE houses are increasingly

consideration, pre-deal issues

differentiating themselves by the

increased to 40 percent indicating a

lack of preconditions set and the

predisposition to assume few holes

sector specialisation that they bring

in the due diligence process

to post-deal performance

. Among pre-deal factors, overly

optimistic market forecasts
and over-estimated levels of
market penetration were seen
as the biggest reasons for
underperformance
. Among post-deal factors,
management failure was the top
source of underperformance
. Other key post-deal factors that
were outside the control of
respondents, but are factors in
the developing markets of Asia,
are regulatory developments and
unanticipated changes in the market
. Retention of key management
and the ability to produce
accurate management information
immediately post-deal were also
cited as creating difficulties

Private tuition: Insights into how private equity houses nurture their investments in Asia

Private tuition and regular

monitoring
Asia, TPG Newbridges Operations
Group has developed along the same
lines as TPGs successful model
applied elsewhere, a demonstration
of how some best practices have
spread from the West. Now there are
six partners in their Operations Group
globally, three in the U.S. and two in
Europe, augmenting the new Asian
position.
The TPG Newbridge Operations Group
focuses on areas such as identifying
key performance indicators and
potential for operational improvements,
recruitment, benchmarking teams
against those in similar situations, and
managing the long-term relationship
between the company and investment
professionals.
Another example of a specialist
team to mentor and monitor portfolio
investments is in place at Gresham,

1 Responsibilities for managing

portfolio companies
A topical debate in the private equity
arena is how to allocate responsibility
for portfolio company management.
The three broad approaches are:
The responsibility rests with the
deal origination team
The responsibility rests with a
dedicated team
A hybrid of these two alternatives.

the Australia and New Zealandfocused PE house, which employs

a Development Director. His brief is
to develop plans on how to improve
performance in close coordination
with the Investment Director and
management. The Development
Director also monitors progress and
coordinates projects.
Several other PE houses said they
expect to build or expand their
dedicated portfolio management team
over the coming years. Indeed, PE

The survey showed that in Asia,

houses in Asia may be at a similar

where the asset class is still relatively

stage to the PE houses surveyed in

young, most PE houses do not yet

KPMGS European 2003 report, which

have dedicated portfolio management

were then embarking on a similar

teams.

journey.

Global funds tend to be the exception.

PE houses operating in Asia are

One example is the team at TPG,

exploring hybrid portfolio management

which is about 25-strong globally. In

models. These can involve allocating

Private tuition: Insights into how private equity houses nurture their investments in Asia

most responsibilities to a local team

Respondents indicated that

while outsourcing limited tasks to

responsibility for implementing this

dedicated professionals in a regional

change must be carefully worked

centre such as Hong Kong.

out with management for the

In one instance of this, a Hong Kongbased operational team participates in

the investment committees meetings
and then ensures the committees
concerns are taken to the portfolio
companies and remedied.

portfolio company to be successful.

First, management must buy into
the objectives (if they dont, new
management may be needed). They
indicated that roles to be played by the
PE house and management should
be clearly defined in a new strategy

Even where such a team exists, many

document and in an implementation

preferred to keep primary responsibility

plan for the first 100 days. This should

for the performance of portfolio

be prepared and agreed prior to the

companies with the senior investment

investment being completed. Given

professional who sourced the deal.

potentially contrasting cultural and

His team may vary over the course of

management styles between the PE

the investment, but on a moderately

house and the management team, it

complex deal it might comprise the

was seen as important that the senior

senior investment manager, one

investment professional takes time

industry expert and two juniors.

to assess the compatibility of the

Everyone wants to avoid the

impression of deal originators "tossing

current management team with the

expectations of the PE house.

the company over the fence" to

Some funds will attempt to ensure

a separate portfolio management

managements interests are aligned

team once the transaction is closed.

with their own by way of share-

This situation could lead to mutual

ownership schemes. This way, both

recrimination if the investment goes

sides have a tangible interest in raising

sour. Instead, an evolutionary process

the companys equity value.

where responsibility for management

and performance improvement
occurs over time helps to maintain
the relationship with company
management built up during due
diligence, an important factor in the
Asian environment.

2 Gaining management buy-in to

the new business plan
It is almost inevitable that the new
shareholder, the PE house, will bring
a new business model and strategy
to the portfolio company and this will
involve change. In many cases that
change will be substantial.

PE houses differ in the way they

allocate such incentives. Some
only allocate shares to board level
executive managers. Others include
managers of key divisions such as
sales and marketing, while a few try to
incentivise the whole workforce. One
Asian firm said that through experience
they wait for one year after investment
before allocating incentives to make
sure they pick the right recipients.

Private tuition: Insights into how private equity houses nurture their investments in Asia

3 Methods of monitoring
The survey showed that even though
portfolio managers have access
to a range of analytical tools, their
principle tactic is simple: to be close
to managers. It found that 64 percent
of respondents believed that proactive
on-site assessment via discussion with
senior management, not only the chief
executive, was the most important
method of monitoring the performance

of portfolio companies. This tallies

with the responses in the KPMG 2003
European report, in which participants
also prioritised discussion with senior
management, underscoring its global
relevance in all market conditions.
Attendance at board meetings was
ranked the second most important
method of monitoring in Europe but
only ranked fourth in Asia, reflecting
the more orchestrated nature of these
gatherings in the East.

Key considerations in pre-close & first 100 days

1 Executive alignment &

3 Staff and client communication

mobilisation

plan

Confirm management team and

Define rationale for the deal and

direct reports
Carry out executive alignment
workshops to develop a
common purpose
Establish future operating
blueprint, including performance
targets
Agree and initiate value
protection plans (customers,
contract and revenue
stabilisation activities)
Initiate key staff retention action
plans
2 Working protocols
Establish short-term business
objectives
Define interim operating rules,
including capex, recruitment
and sales control activities
Agree reporting protocols and
performance base-lines

benefits the PE fund will bring

Modify by staff/customer
segmentation
Communicate early successes
as they happen
Address sales team incentive
plans
Develop mechanism to respond
to employee queries
4 Project office
Assign leaders and select team
members for key improvement
initiatives
Mobilise teams
Proactively identify and escalate
issues for resolution

5 Day one plan

Agree activities for first day
after completion ("This is Day
one plan)
Establish financial control
measures (cash management,
management reporting,
expense & general ledger)
Define HR policies and
procedures
Implement management team
6 100-day plan
Develop plan containing:
- Key management meetings
- Detailed work plans, by area/
initiative
- Roadmap for delivering
benefits
- Revenue projection plans
- Resource scheduling
- Quick wins
- Stakeholder communication
plan

Private tuition: Insights into how private equity houses nurture their investments in Asia

In Korea, if you are

inexperienced you just go
to board meetings which
are formal affairs, but if

as more important in Asia than in

Europe, possibly reflecting PE houses
increased sense of risk.

In China, if it is a big deal,

you are plugged in you

we may even second a guy

meet the managers at least

to the factory. He may even

once a week in a casual

be given responsibility for

setting.

signing cheques.

By establishing a dialogue with

The qualitative responses produced

management, PE houses are gleaning

by communication with management

timely information on the performance

must be balanced against a review of

of divisions and getting frank feedback

the full management accounts, which

about the effectiveness of senior

was the second most popular method

executives.

of monitoring. However, all recognised

Visits to the company are a hands-on

way used to monitor performance,

the shortcomings of historical financial

accounts.

although they typically occur with

Generally, in the first 100 days after

most frequency during the first 100

completion, most PE houses will set

days of ownership. Many PE houses

up their own forward-looking key

reported that they will visit the

performance indicators (KPIs). These

company two or three times a week

are generally industry specific, with

during this period as well as interacting

the frequency of monitoring depending

with management by telephone. This

very much on the nature of the

method of monitoring was regarded

individual portfolio company.

In one reported instance, sales of
an important product line in a retail

Perceptions of importance of various methods of monitoring

portfolio company were monitored

every 20 minutes while the indicators
used for a manufacturing company

Feedback from non-executive directors

were monitored only once a month.

Reporting via pro-forma reporting tool

Another respondent, at one of his

portfolio companies, sets up KPIs to

Review of summarised management accounts

measure each executives individual

monthly performance.

Review of full management accounts

The ideal ratio of portfolio companies

Attendance at board meetings

per investment professional was

Pro-active on site monitoring via

discussion with senior management

generally agreed to be two-to-one.

0

20

40

60

80

100 120 140

Weighted importance
Source: Reuters interviews, 2006

This allows one week per month to

be spent with each portfolio company
and two weeks sourcing deals. It

10

Private tuition: Insights into how private equity houses nurture their investments in Asia

also provides some flexibility in case

found that the knowledge gained

one of the portfolio companies starts

from this monitoringthe issues of

to underperform and requires more

underperformance or of successis

attention.

not necessarily documented

In reality, this ratio is often stretched

to three or four companies per
investment professional, as the fund
size and number of investments
increases. Another source of pressure
on this ratio is that many PE houses

comprehensively but is more generally

retained only as knowledge that is
stored in the people themselves. This
process may not be adequate going
forward especially as PE houses are
finding it difficult to retain staff.

are finding it difficult to recruit suitable

Only a small proportion of PE houses

employees as the industry is growing

have a watch list of investments, that

so rapidly. Also, Asian deals do seem

is a subset of the portfolio earmarked

to be more labour-intensive post-

for closer monitoring and active

investment. In western countries, to

assistance due to underperformance

a large extent, PE houses rely on an

of the investment. GPs explained that

agreed, documented business plan

their portfolio sizes are still relatively

and strategy to compel management

small compared to the West so they

to stick to the game plan. But in

do not need a formal system to flag

Asia this is not as effective. Here

underperforming investments.

respondents indicated they rely more

heavily on time-consuming relationshipbuilding with senior management. This
difference between regions is reflected
in the KPMG European report 2003,
which found one person was often able
to manage seven or eight companies.
In 95 percent of cases, the senior
investment professional responsible
for the portfolio company reports
back to his immediate colleagues
once a week. In nearly all cases there
is a more formal in-house review of
portfolio companies progress once a
month. At this point, global or regional
partners from around the world may be
involved.

Where there is a formal watch list,

companies are often categorised
according to amount of time and
attention they consume as well as their
ability to hit the financial targets laid
out in the original investment plan.
Interestingly, in Southeast Asia, one GP
categorised his investments according
to social issues. For example, portfolio
companies would require more
monitoring if they employed a large
number of low qualified workers where
child labour might become an issue, or
because they acted in environmentally
challenging industries such as basic
resources. This form of categorisation
would be borne from the concerns

PE houses use these meetings

of investors in the funds, reflecting

as a forum to hold the investment

growing global community concern

professional responsible for

about such issues.

monitoring the performance of

portfolio companies. The survey

Private tuition: Insights into how private equity houses nurture their investments in Asia

11

Underperformance
Less than 10 percent of our
portfolio is written off that
is better than 90 percent of
our colleagues.
But when underperformance did occur,
the management team acquired with
the business was first in the firing line.
In more mature markets, high on the
list of causes of underperformance
was management failure to deliver on
cost-cutting and sales growth targets.
Another common complaint was that
existing management was just not up
to it, leading many experienced GPs
to assert: if youre going to change
management do it quickly.

Everything you do after

day one is shaped towards
exiting. This is the first
1 Risky business: Causes of
underperformance

conversation you have with

management.

For the purposes of the survey,

GPs also stressed the need to be

underperformance was defined as

ready to implement change at the

not hitting targets laid out in the

portfolio company from day one. It was

business plan when the investment

noted that one fundamental problem to

was made. The most common cause

overcome post-closure was a sense of

of underperformance for many

deflation after the thrill of the deal had

respondents, especially those investing

passed. This could be accompanied by

in China, was the volatile regulatory

a sobering realisation of the gaps that

environment. One general partner

exist between the investment plan and

quipped:

reality.

I make an investment in

The consensus was that the solution

China every year just to

learn a new way of losing
money.

is to have an agreed strategy and,

importantly, a clearly defined first 100day plan, the overriding objectives
of which are to avoid leakages of
value and commence the process to

But of course underperformance can

enhanced value. At the immediate

happen right across Asia and not all

post-deal stage, the respondents also

funds have bad experiences.

12

Private tuition: Insights into how private equity houses nurture their investments in Asia

when asked to look at specific causes

of underperformance the balance of
responses changed to 40 percent
pre-deal and 60 percent post deal,
indicating a pre-disposition to assume

Causes of underperformance
Post-deal

Pre-deal

Misleading historical
performance data

that there are few holes in the due

diligence process.
GPs advised investing only in countries
where the PE house has a physical

Technical issues

presence to better understand

Failure by management to
adequately control costs

Over-optimistic market
forecasts

the investing environment. They

pointed to the relative weakness of
corporate governance guidelines, the

Over-optimistic understanding
of market penetration

Failure by management to
achieve realistic sales targets

levels of corruption and the greater

preponderance of family-dominated
ownership structures in many cases
across Asia compared to the United

Poor business plan

Unforseeable quantum
change in market
Regulatory changes

States and Europe. Any one of these

factors can lead to an investment not
living up to expectations.
Respondents indicated that they are

Source: Reuters interviews, 2006

increasingly using forensic accountants

to conduct background checks on
portfolio company managers in
emphasised the importance of avoiding

developing markets such as China

unnecessary changes in the PE

and Indonesia, combining this with

houses team responsible for the deal

their own enquiries, such as asking for

and to spend as much time as possible

character references from managers

with the company.

former business partners.

Prior KPMG research4 indicated that,

An investment professional who

on average, it took eight months for PE

specialises in investments in emerging

funds to gain control of the major post

markets around the world said the risks

deal issues.

of volatility were the same everywhere

Dividing the cause of

underperformance between 'before'
and 'after' factors, the average
response was that 30 percent of
the reasons were pre-deal while 70
percent were post-deal. However,

4 The Morning After, KPMG International, 2006

but in Asia it is particularly difficult

to recruit experienced management
and, in certain countries, there is a
high risk that sound governance and
ethical standards will be lower than
elsewhere.

Private tuition: Insights into how private equity houses nurture their investments in Asia

South Africa, for example,

is a fast-growing economy
but it is easier to find

13

Companies often misjudge how their

competitors will respond to the news
that they are being bought out. One
fund manager cited an instance where

good quality management.

a competitor slashed prices, knowing

Standards of corporate

that its peer had to make heavy debt

governance differ quite

dramatically in different
countries around Asia.
Post-deal, the key to minimising risks
associated with management is to
have the right management team in
place and have an agreed strategy/
plan, aligning the interests of portfolio

repayments and might struggle during

its first year under the ownership of a
PE house.
Respondents also pointed to the
difficulties in estimating market growth
in the portfolio companys industrial
sector, especially in emerging markets.

Most times people assume

company managers with those of the

same multiples in same

PE house's through an appropriate

multiples out.

sharing of the value creation, for

example through share option

Another common mistake is

schemes.

overestimating the capacity of

2 What to look out for in due

diligence

No matter how diligent

you are stuff always gets
missed.
Respondents were understandably
reluctant to share their experiences of
specific mistakes or shortcomings in
due diligence, but a few pointers did
emerge.
Understanding the competitive
threat to a portfolio company can be
particularly challenging. If the company
is operating in a lucrative or emerging
market then new entrants are likely
to emerge but respondents found it
almost impossible to anticipate the
quality or strategy of such competitors.

management. This problem is

perceived as especially acute in Asia
where the market for skilled labour is
tight. There is also a tendency to hope
that the incumbent management is up
to the job because of the importance
of maintaining relationships in Asia.
Again, GPs stressed the need to be
decisive in changing management if
needed.

We are paid to pick, back

and help managers a bias
to inaction is bad.

14

Private tuition: Insights into how private equity houses nurture their investments in Asia

GPs agreed that in markets such as

China it is vital to include solid key
man clauses as companies are often
built around an entrepreneur and the

made at a company, the timeframe

taken to make those changes and the
costs associated with those changes.

acute lack of professional management

In an environment where PE houses

in some Asian countries means this

are increasingly being drawn into an

person would be incredibly difficult to

auction process to buy companies,

replace.

given the fierce competition and

They also noted a tendency to

underestimate the costs involved in
restructuring, especially laying off staff.
This was a particular concern in Japan.
A looming threat to performance, one
that keeps investors in PE funds up at
night, is the fear of paying too much
in a competitive auction using debt,
saddling the acquisition with onerous
interest payments it cannot meet. This
may become an increasing concern as
interest rates rise around the world.
The risks of interest rate increases are
overshadowed, however, by making
aggressive assumptions about just
how much operational change can be

increasingly sophisticated sellers, the

ability to do due diligence is curtailed.
Respondents agreed that in this
market, a key tactic to help mitigate
these competitive pressures is to have
the right advisors who can help assess
the market dynamics and the value
proposition of the target within the
market.
There was also consensus that PE
houses need to focus significant effort
and investment on planning in the
pre-deal phase to plan for the postdeal period. This continues to be a key
differentiator for deal success.

Now even if confidentiality

is an issue, we spend
about two months at the
company prior to buying.

Private tuition: Insights into how private equity houses nurture their investments in Asia

15

Ways to add value

growing at around eight percent a year,
with significant pull-through effects
to all other countries in the region.
Interest rates are still relatively low
around the world and banks are keen
to step up commercial lending.
There are also more PE houses in the
region. The number of funds raised in
Asia has risen from 151 in 2003 to 173
by the end of 20055.

1 Where capital does and does

not add value
Since the Asian financial crisis, the
environment for investing has changed.
The economies of China and India are

PE houses capital would seem less

valuable now as it must also vie with
the public markets, resurgent industrial
companies and banks. Therefore they
need to bring something else to the
table. A select group of PE houses can
differentiate themselves by the sheer
size of their funds. In 2005 CVC Asia
Pacific Ltd raised a record US$1.975
billion for Asian investments6, and the
Carlyle Groups Japan buyout fund
weighed in at US$1.9 billion earlier in
20067. For some global funds, the size
of the potential target is no obstacle:
KKR has entered the region with a
US$1.7 billion acquisition in Australia
and is rumoured to have launched a
consortium bid in the region of US$13
billion for a large Australian retail company.

Top PE fund (2000-2006 June)

5 AVCJ database, September 2006

6 Press release from CVC Asia Pacific Ltd
7 Press release from The Carlyle Group

Year

Fund management company Fund name

2000

RHJ Industrial Partners LLC

RHJ Industrial Partners LP

1,195

2001

Walden International

Pacven V

1,000

2002

Baring Private Equity Partners

Asia

Baring Asia Private Equity Fund

II, L.P.

257

2003

The Carlyle Group

Carlyle Japan Partner LP

400

2004

Affinity Equity Partners

Affinity Asia Pacific Fund II

700

2004

HSBC Private Equity (Asia) Ltd HSBC Private Equity Fund 3 Ltd

2005

CVC Asia Pacific Ltd

CVC Capital Partners Asia

Pacific II L.P.

1,975

2006

The Carlyle Group

Carlyle Japan Partners II, L.P.

1,900

Source: Centre for Asia private equity research, September 2006

Fund
Closing
(US$ m)

700

Private tuition: Insights into how private equity houses nurture their investments in Asia

When KPMG conducted its 2003

survey in Europe, the environment
was tougher and capital was still
valuable to portfolio companies. The
difficulty then was raising it from
LPs. In this survey, GPs noted that
the approach of optimising the capital
structure was becoming more and
more commoditised due to the spread
of western-trained investment bankers
in the region passing on practices and

A potential additional pressure on PE

houses' ability to add value could be
lack of time. To date this has been of
little significance as Asia's rising stock
markets have provided an opportunity
to cash out early. Data shows holding
periods have dropped below the typical
five years in many cases (see chart
below); particularly in the more mature
economies.

skills learnt in the United States, the

home of leveraged buyouts. It is now
difficult for PE houses to differentiate
themselves from their peers via these
skills alone.

Average holding period for PE-invested companies

7
6
5
Years

4
Average: 3.03

3
2
1

In
Ho dia
ng
Ko
ng
So
ut
hK
o
Ne
w rea
Ze
ala
n
Au d
str
ali
a
M
ala
ys
ia
Ch
ina
(PR
C)
Ja
pa
n
Si
ng
ap
or
e
Ind
on
es
ia

nd
ila

an

Th
a

Ta
iw

ipp

ine
s

Ph
il

16

Source: AVCJ Database, September 2006

Note: Investment by location of invested company; exits
between 1997 and 2006 YTD

Average holding period (years)

Private tuition: Insights into how private equity houses nurture their investments in Asia

KPMGs European 2003 survey found

that PE houses expected to hold
investments for longer periods because
of the difficulties in finding an exit. In
this survey, PE houses emphasised
the need to hold investments for
longer periods going forward because
entry prices are climbing and they
may need more time to add enough
value to make a profit. Indeed one
PE house said it was in the middle of
changing its business model so that it
would not be pressured by the need
to exit investments to return capital
to LPs but could hold on to portfolio
companies for longer.
So, in this market where the PE
houses increasingly need to bring
more than cash to the table, their own
assessment of where the value-add lay
is summarised in the following chart:

Perceptions of value-add provided by PE houses

Synergies with
other portfolio
companies

Corporate
governance

Boardroom
guidance
Source: Reuters interviews, 2006

Optimising financing
structure

Industry
knowledge

Business process
improvement

17

2 Adding value through industry

knowledge
Western PE houses in Asia often call
on industry experts around the world,
to help them manage a portfolio
company. For example 3i has over
20 industry specialists it can call on.
This feature of accessing world class
operational professionals was also
noted in the KPMG 2003 European
report.
While many investment teams
are organised along industry lines
elsewhere in the world (KKR, for
example has nine in the U.S. and
seven in Europe), developing teams
along these lines in Asia will take time,
as many need to build critical mass in
their target countries first.
Slowly and steadily, many PE houses
are recruiting former senior executives
of industrial companies to their ranks.
This allows them to reduce the risk
involved in making assumptions
about the changes they can make in a
business and, once the business has
been acquired, to have confidence that
the planned changes will be made.
Particularly for a banking portfolio
company, PE houses have brought in
U.S. CEOs. But this is changing as a
more sophisticated workforce develops
and skilled returnees from the U.S.
take on senior roles in countries such
as India and South Korea. The spread
of multinational companies has also
helped in this respect.
PE houses also use a wide network of
industry advisors to help them boost
the value of portfolio companies.
TPG Newbridges Operational Group
keeps an executive database that is
a resource for tracking down senior
executives to work with portfolio
companies.

18

Private tuition: Insights into how private equity houses nurture their investments in Asia

These advisors often serve on the

boards of directors of portfolio
companies. KKRs senior advisors
include a former chairman & a CEO of
the largest retail consumer companies
in the United States.

PE houses have therefore adopted

the tactic of hiring investment
professionals locally, not only for
their language skills and network of
contacts, but also because they soften
the impact of a foreign buyer.

These people are the best

In this part of the world

predictors of trends in an

private equity is such

industry. They often impart

a new concept and in

valuable information

Japan there is also a

such as likely competitors

strong cultural and social

entering the market.

resistance to overcome.

Smaller funds can use industry

expertise to carve out niches for
themselves, such as Asia Investment
Partners, which specialises in
healthcare facilities in Japan.

3 Building a sustainable model

The way portfolio companies
are managed is a key to building
sustainable business models across
much of Asia. Now that there is more
competition from local PE houses and
industrial companies, a foreign PE
firm will not even be invited to bid for
a potential target if it does not have a
reputation in the country in which it is
investing.

That is why your team

needs to be very local and
show them we are offering
more than money.
One firm that many respondents
pointed to as getting the relationship
with management right is Washingtonbased Carlyle in the Japan market.
Carlyle has built a reputation as
extremely management-friendly. Carlyle
managed this by hiring a Japanese
team and consciously raising a large
portion of its funds for acquisitions
from Japanese investors.

In many cases this has curtailed their

ability to hire and fire at will.

The tactic of hiring locally also holds for

appointments to the board of directors
at portfolio companies, but this comes
with its own set of problems.

A foreign PE house would

In the U.S., if you are

not be able to fire bad

looking to fill a slot,

management in Japan if

you have five qualified

they only hold a minority

candidates willing to work

stake but a blue-blood

with a PE firm that is not

local firm would be able to,

the case in Asia.

given the high regard it is

held in.

Private tuition: Insights into how private equity houses nurture their investments in Asia

Pulling somebody out of a

conglomerate in Japan or
Korea is incredibly difficult
given their loyalty to
employers.

developed strong cash management

processes and will to varying degrees
have been dependent on many of the
group's other operational processes.

They are used to getting

bailed out of trouble by

4 Improving the team

the parent company. The

PE houses see their ability to recruit

top quality management to their
portfolio companies as a key value-add.

management has not had

On average, the PE houses surveyed

said they had appointed a CEO to
their portfolio companies 31 percent
of the time, a CFO in 45 percent of
instances, and consultants 53 percent
of the time. They always advised the
appointment of one of the Big Four
audit firms if the portfolio company
was not already using one.
Recruiting a new management team
is seen as particularly important
when a PE house is buying the noncore division of a conglomerate. This
is because the unit has not usually

19

to worry about cash flow or

banking relationships.
However funds emphasised they do
not want to be too heavy-handed so as
not to ruffle local sensibilities.

The track record has been

to make lots of changes.
But in Asia we are the
coach not the players.
5 Scope for operational
improvements
Respondents considered that buyouts
in Japan hold the most potential for
operational improvement following
years of under-spending in such areas
as IT systems and combined in many
cases with ineffective management.

These companies know

they need to change and it
will take them some time
to do so in a way they
feel comfortable with. The
challenge for us is how can
we be a good partner and
help them achieve this.
In Japan, PE houses are factoring into
their investment decision that about 50
percent of the returns will come from

20

Private tuition: Insights into how private equity houses nurture their investments in Asia

6 Global expansion and synergies

with other portfolio companies

Rolling it up
In Europe, the Roll-up Strategy,

With the aging baby boomer

whereby medium-sized organisations

population moving into retirement,

with operating synergies are

it is estimated that over 500,000

packaged together to create a

privately owned companies will

substantial investment vehicle for

change hands in the next 5 to

private equity funds, is a highly

10 years in Australia. This is a

utilised strategic investment approach

prime opportunity to roll-up

with over 400 such transactions

complementary businesses to

having been completed. In Australia

create larger offerings for private

this strategy is in the early stages of

equity investors. As a result, GPs

adoption. However, this may change

believe we will see roll-up strategy

as acquisition multiples increase

investments becoming more

for larger targets and private equity

prevalent in the near future.

focuses on alternate investment

As local PE houses grow and bid

for larger targets, the global funds
are fighting back by emphasising
their ability to help Asian portfolio
companies expand abroad. A key
example is TPG Newbridges US$350
million investment in Lenovo Group
Ltd. Newbridge helped the Chinese
computer maker fund the purchase
of IBMs PC business in May 2005,
establishing it overnight as a leader in
the global PC market.
The global PE houses see similar
opportunities in Japan, where many
companies are seeking growth

strategies that provide better value

opportunities beyond their aging

and opportunities outside the typical

domestic market.

trade sale auction process.

operational improvements. Competitive

bidding for businesses forces some
part of the synergies, or perceived
business improvements, to be paid
away in the purchase price. A recent
global KPMG survey8 reported that 43
percent of synergy benefits were being
paid away. Clearly, in this environment,
investors should consider very carefully
how much operational improvement or
synergy benefit they can really squeeze
from a deal, and this needs to be
assessed in the due diligence phase.
In India and China, it is often assumed
there is less to do in terms of cost
cutting as many companies are owned
by entrepreneurs who run very tight
ships. In such cases, PE houses try
to add value by improving corporate
governance and developing the
revenue side of the business.

In Japan, this is an important motivator

for managers to talk to PE houses.
There is less stigma involved in
asking for help on overseas expansion
than on cost cutting and operational
improvement.

Some of the most

productive conversations
were having in Japan are
about how we help them
acquire overseas.
Some PE houses in Southeast Asia
said they supported their portfolio
companies expansion into fastgrowing economies such as Vietnam
by acquiring a company in the target
country and injecting it into the existing
portfolio firm. This cuts down on the
time involved in making an investment
and means trusted managers will
develop the business.
8 The Morning After, KPMG International, 2006

Private tuition: Insights into how private equity houses nurture their investments in Asia

21

Tax cut
When looking to make an investment

accounting rules for the portfolio

4 Exit taxes

and maximise returns, PE houses

company provide for write-downs in

need to consider a number of key tax

goodwill only if the underlying assets

The key issues regarding the sale of

issues.

are impaired, the amortisation of

1 Debt push-down
One of the key objectives in
structuring an acquisition is to ensure
that tax deductions can be claimed
as an interest expense on both the
acquisition debt and the refinancing of
existing bank debt within the portfolio

the goodwill for tax purposes may

effectively result in a permanent tax
benefit. This is particularly important
if the portfolio company is required to
report profits to pay dividends to the
investor during the investment holding
period.

company. In many jurisdictions, it

3 Withholding taxes

is generally the case that the debt

If an investor wishes to earn a yield

needs to be situated at the operating

entity level in order to claim tax
deductions for interest expense.
When debt is used to fund an
acquisition, the acquisition debt does
not immediately sit with the operating
entities. In the absence of any tax
consolidation provisions operating in
the portfolio company's jurisdiction,
the debt may need to be pushed
down to the operating entities. This
can often be achieved without the
need for bridging finance.
2 Goodwill amortisation
Tax deductions may in certain
circumstances be available to the
extent the acquisition price reflects
amounts paid in excess of the fair
value of the assets acquired. If the

during the holding period, the investor

will typically derive dividend and
interest income from the portfolio
company. Cross-border payments of
dividends and interest generally incur
a withholding tax charge. However,
these may be mitigated, or eliminated
altogether, if such amounts are paid
to a entity situated in a jurisdiction
with the portfolio company has a tax
treaty. The key issue that an investor
will nevertheless need to consider if it
is to avail itself of tax treaty benefits
is whether the commercial activities,
and legal arrangements relating to
the funding of the holding company,
are such that the tax authorities do
not view the arrangement as treaty
shopping.

a portfolio company will be transfer

taxes such as income tax on the profit
earned from the sale, and stamp
duty, which is generally calculated on
the basis of the sale consideration.
To mitigate or reduce transfer taxes,
as for mitigating withholding taxes,
consideration needs to be given to
holding the investment through an
appropriate holding company.
5 Deductibility of transaction
costs
Transaction costs can be significant,
and therefore the ability to obtain
tax deductions for these costs can
be material when evaluating the
investments overall return. Given that
the transaction costs are incurred for
the benefit of the investor, it may not
be possible to push these costs down
to the portfolio company's operating
entities. In such cases, consideration
needs to be given to whether such
costs can be allocated to offset
assessable income earned by entities
elsewhere in the investor group.

22

Private tuition: Insights into how private equity houses nurture their investments in Asia

However, just as in Europe, they were

keen to foster exchanges to at least
draw upon the collective knowledge
and experiences of companies within
the portfolio.

7 A helping hand
PE houses are hiring more consultants
so they can concentrate efforts on
adding value in strategic areas. The
survey found this was particularly
true of the larger buy-out funds in the
more mature Asian economies such as
Australia.

We are spending more on

hiring consultants. When
the deal size is bigger we
can afford to pay more
fees to the professional
services. It is one way
to save on our own
As the Asian PE industry matures
many houses are seeking out niche
areas where there is a high barrier to
entry for rivals. One strand of Chinas
CITIC Capital Partners business is to
invest in Japanese companies wishing
to expand in China, and then help them
navigate the regulations and identify
key local business contacts.
Synergies with other portfolio
companies were considered the least
important source of value-add in this
survey, just as they were in KPMGs
European 2003 report. PE houses said
they were reluctant to foist tie-ups
onto portfolio companies, preferring
that CEOs make their own decisions
regarding who would make the best
partners and suppliers. They were also
aware that portfolio companies might
be sold at different times, curtailing the
value of bringing them together in the
first place.

resources.
Consultants are usually deployed on
tightly defined projects that are time
intensive. Examples might include
optimising a banks branch network or
shortening a particular supply chain.
KKR has taken an unusual approach
in developing its own in-house
consultancy called Capstone. There are
twenty four professionals, seventeen
in the U.S. and seven in Europe and
will be expanding into Asia in the next
few years. Capstone is not involved in
all investments, just where KKR thinks
it can help management implement
change. One difference between
Capstone and many other consultancy
houses is their equity-sharing
arrangement with KKR, which aligns
their economic interests with those
of management, KKR, and its limited
partners.

Private tuition: Insights into how private equity houses nurture their investments in Asia

The increasing deployment of

consultants has resulted in investment
professionals taking on more of
a project management role and
concentrating on key areas such as
strategy, M&A or recruitment for key
management positions.

We are the ring master of

the investment process.
8 The trusted advisor
The buyout model is not widely
applicable in many parts of Asia. This
stretches the model developed by
many PE houses in the United States,
insofar as they are being forced by
social and regulatory restrictions to
accept minority positions in private
and public companies. Their ability
to add value by methods discussed
above is limited by the need to
reach a consensus with other key
shareholders. It may also be restricted
by the founder who may continue to
exert a high degree of control over the
company.

In mid-sized Asian
companies the founder can
often act like a dictator and
is not used to challenges.
In many cases PE houses have taken
on the mantle of trusted advisor. They
help on issues such as corporate
governance, recruitment, business
process improvement and making
important business introductions.
One key value-add the PE houses bring
is their ability to help under-researched
companies get noticed by investment
banking analysts and asset managers.
This is especially the case for captive
funds such as CLSA Capital Partners
and Henderson Global Investors which

23

try to hook-up their Asian portfolio

companies with potential investors via
their parents networks.
Much of the work of a trusted
advisor involves preparing for an IPO.
Respondents indicated that they
assist the company in questioning the
robustness of the business model and
the prospects for survival in a listed
environment. They also often help
with issues such as the debt/equity
structure, buying out a minority stake,
the location for listing, valuation and
choice of investment banks.

There are certain

improvements that we
know investors will be
looking for as many of our
investment professionals
come from an investment
banking background.
Some of the respondents who invest
in listed companies noted they were
restricted in giving strategic guidance
to listed companies in which they have
a minority stake because of stock
market regulations.

Business contacts is where

we can add a lot of value,
and is the least conflicting
in the listed space as you
dont have to be involved
in subsequent discussions.
You are not then exposing
yourself to trading
problems.

24

Private tuition: Insights into how private equity houses nurture their investments in Asia

Conclusions
Besides frequent interaction with
senior management and industry
knowledge, there were however
some common themes that emerge
from this survey that provide
guidelines to more successful portfolio
management:
. Robust pre-deal planning of the
post-deal period, including a critical
assessment of the ability and
capacity of management to deliver
the expected improvements
. A clear division of the roles to be
played by the PE firm and company
management is needed in the
100-day plan and the longer term
strategic plan
. The interests of the PE firm and
managers should be aligned
through such devices as share
ownership schemes

The PE industry is having an increasing

impact on M&A markets in Asia. PE
houses were involved in regional M&A
deals worth a record US$39.9 billion in
2005. This has already been surpassed
in 2006 as the value of deals has
topped US$45.9 billion in the year to
date9.
The ability of PE houses to transact
in Asia has been validated but the
development of portfolio management
has been an evolving process.
The survey clearly shows that PE
houses are very focused on portfolio
management both before the deal is
consummated as well as after. While
the approaches may differ, that reflects
the diversity of investments and the
maturity of the fund.

9 Dealogic database, September 2006

. Formal and informal tracking

and reporting mechanisms on
improvement targets, with a mix
of qualitative and quantitative
measures
. The PE firm needs to clarify the
allocation of responsibility for
portfolio management between the
deal team and the post-deal team
. The PE firm should be prepared
to address key people, cultural
and business issues, and start
operational improvements from day
one of ownership
. The PE firm should stick to
investments where it has a physical
presence in the country and can
monitor closely and intervene quickly
. PE firms should where possible hire
locally, to help smooth relationships
with management of portfolio
companies

For more information on KPMGs Private Equity

Group in Asia Pacific, contact:

Asia Pacific PE Group Leadership

New Zealand

David Nott

Ian Thursfield

+61 (2) 9335 8265

+64 (9) 367 5858

david.nott@kpmg.com.au

ithursfield@kpmg.com.nz

Robert Stoneley

Philippines

+852 3121 9850

robert.stoneley@kpmg.com.hk
Australia
Jonathan Dunlop
+61 (2) 9335 7633
jonathan.dunlop@kpmg.com.au
China and Hong Kong SAR
Gavin Geminder
+852 3121 9808
gavin.geminder@kpmg.com.hk
India
Abizer Diwanji
+91 (22) 2498 0473
adiwanji@in.kpmg.com
Indonesia
David East
+62 (21) 574 0877
deast@siddharta.co.id
Japan
Tom Whitson
+81 (3) 5218 6789
thomas.whitson@jp.kpmg.com
Malaysia
Hock Eng Lim
+60 (3) 2095 3388
hockenglim@kpmg.com.my

Fernando Castro
+63 (2) 894 1779
fcastro@kpmg.com.ph
Republic of Korea
Edward Kim
+82 (2) 2112 0770
edwardkim@kr.kpmg.com
Singapore
Diana Koh
+65 6213 2519
dianakoh@kpmg.com.sg
Taiwan
Jay Cheng
+866 (2) 2715 9716
jaycheng@kpmg.com.tw
Thailand
Tanate Kasemsarn
+66 (2) 677 2750
tanate@kpmg.com.th
Vietnam
Warrick Cleine
+84 (8) 821 9266
warrickcleine@kpmg.com.vn

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Publication date: October 2006