Hitting a China home run takes patience: PE veteran
As an early entrant into the mainland’s private equity market, CSV Capital Partners has seen several boom-bust cycles between foreign investors and China over the past decade.
CSV co-founder and managing director Earl Yen, a US citizen based in Shanghai, spoke to AsianInvestor during a recent visit to Hong Kong to discuss his views on the evolution of China's alternatives industry.
AsianInvestor: The Chinese PE market has undergone dramatic development since CSV was founded in 2004 to do early growth PE deals. What are the biggest changes you have seen?
Earl Yen: Back in 2004, there was only a small group of firms in China doing private equity. By 2005-07, we started to see a few large North American LPs [limited partners] starting to back some fairly sizable China-focused private equity funds. Soon after, the Chinese government started creating renminbi-denominated funds.
There are now so many private equity funds in China that in many segments of the industry, there’s probably a greater supply of capital than there are good deals to invest in.
Has the greater presence of domestic and global PE firms in China impacted CSV’s private equity business?
Not so much in our space, because we’re investing in earlier-stage companies, which tend to attract fewer institutional funds. On the other hand, we understand pre-IPO deals and large growth capital PE funds are having a hard time finding pure private deals – just look at all the going-private deals funded by PE funds.
Is CSV finding it difficult to exit its investments, given the paucity of IPOs of mainland companies?
We primarily target investments in companies that will be well-positioned for strategic exits to multi-national companies. It’s our preferred path, given the skill-set of our team and that we invest in smaller private companies. It’s a somewhat different situation to some PE firms which are more dependent on the public markets.
What was behind the idea to launch the CSV China Opportunities hedge fund in 2010?
Through our work on the private equity fund, we learned how to do due diligence on small and relatively obscure private companies in China. We believed we could apply a similar, China-specific forensic style of doing due diligence on public companies.
The hedge fund sector is less crowded, which means good opportunities. In some ways, the China public equity space for hedge funds is similar to where the China private equity industry was in 2004-05.
How does the competition in China’s PE and hedge fund sectors compare?
Nowadays, if you were asked to list the top 10 names in China private equity, you could easily come up with 20 names and be fighting over who should be in the top 10. Whereas if you asked to list top 10 names in China hedge funds, you might have a hard time coming up with 10.
There are, perhaps, five or six China hedge funds that are $1 billion or more, a few that are a half-billion or more, and then there’s a very steep fall-off. It’s still a relatively young and evolving industry.
What is your long-term view on China as a market for investment, given that other hotspots in Asia have emerged, such as Indonesia?
I started taking Chinese companies public in 1994, and in the last 20 years have seen several love-hate, boom-bust cycles involving foreign investors and China.
During the times when people were really high on China, it probably wasn’t fully justified. Likewise, when they‘ve been negative about China, it wasn’t really that bad, and the latter situation applies right now.
Does this situation provide any investment opportunities?
Anytime there’s something remotely negative about China, it gives a reason for many people not to invest. When you add that up, you get a gigantic discount. I do happen to think that Chinese equities are now at one of the cheapest points in history.
The MSCI China Index’s weighted average price/earnings ratio is at a discount of about 35% to the S&P 500. It’s one of the widest discounts that we’ve seen in the last eight or nine years.
I admire institutional LPs who view the current situation as what Warren Buffet calls the ‘fat pitch’ in baseball, where there are a lot of positives from a macro standpoint, but it’s not fully reflected in the valuations. They’ll invest when valuations are low.
*A full version of this article will appear in the June edition of AsianInvestor magazine.