While Southeast Asia is attracting more and more attention from global investors, exits are often a challenge for regional private equity firms.
Malaysia-based private equity firm Creador founder and CEO Brahmal Vasudevan said an exit is a universal problem if people are paying “ridiculous valuations”, citing examples of Uber and WeWork.
“I think there has to be a shift towards an economic model, which delivers profit. When you build good businesses with strong propositions, market leadership, earnings etc, you will always have good exit options… The problem starts when you have businesses that are built on hype and when the substance is not there, and you’re counting on the next person to put in capital,” he said at DealStreetAsia’s Asia PE-VC Summit 2019 held in Singapore.
In a fireside chat, Vasudevan said Southeast Asia is a very complex market due to high fragmentation and lack of good growth-stage businesses. To tackle these challenges, Creador has local teams across the region and takes a proactive approach when it comes to deal sourcing, according to the former managing partner of India-based ChrysCapital.
“We have always had a much more local approach to things here – we have a local team in Indonesia, Malaysia, India, Manila (the Philippines) and Vietnam. I hate to say this because the entrepreneurs will disagree – there are very, very, very few high-quality entrepreneurs to back.”
He went on to add, “You look at the number of high-quality deal flow in the region that can absorb $20 million every year, it’s only a handful [of them]. It is tough, but it’s not impossible. I think one has to be patient, realistic about deal sizes. I think we found the sweet spot which is doing things between $20 million and $50 million and then working with the companies to help build them up.”
We had earlier reported that Creador has hit the final close of its fourth regional fund at $565 million, exceeding its hard cap of $550 million. Launched in early 2018, Fund IV is the largest vehicle raised by the firm since its founding in 2011. An industry source told us that close to half of Fund IV has been deployed.
Creador is also looking to list one of its Malaysian portfolio companies – home improvement retailer Mr. D.I.Y — on Bursa Malaysia to raise as much as 1.5 billion ringgit ($360 million) by the end of this year. It invested over 500 million ringgit ($120 million) in the company for an 18 per cent stake in 2016 and plans to offload about a 2.75 per cent stake in the IPO.
As a regional firm, what are the biggest challenges you have faced since you started Creador? Does being a Malaysian give you any advantage in tackling the region?
Southeast Asia is very complex. When we were investing in India from 1999 to 2011 and when I left, the Indian market was very mature and there were not many deals [in India]. We were fortunate to be early [in India] and then the market took off in 2004. I think to some extent, there was an opportunity to replicate what we built in India into Southeast Asia. We started Creador in 2011 and I would say that it’s been generally much harder than one would’ve expected and I think it’s a combination of issues.
Initially, it was very hard to raise capital, our first fund was $130 million. And then it’s taken us eight years and four funds later to get [to] half-billion dollars. Second, if you look at returns in Southeast Asia, I think, by and large, LPs would say the S&P 500 has delivered 16 per cent a year for the last 10 years – why do we have to go to Southeast Asia? So that’s the benchmark – can you deliver net 16 per cent consistently?
For big investors in the US, do they want to bother writing a cheque to a new private equity fund? That’s the challenge. They can invest a billion dollars with an S&P500 fund – very liquid and easy to get out. The markets [in Southeast Asia] are diverse – there are no similarities between Indonesia, Malaysia, the Philippines, Thailand, and Vietnam.
So we’ve always had a much more local approach to things here – we have a local team in Indonesia, Malaysia, India, Manila (the Philippines) and Vietnam. I hate to say this because the entrepreneurs will disagree – there are very, very, very few high-quality entrepreneurs to back.
It’s a fact, you look at the number of high-quality deal flow in the region that can absorb $20 million every year, it’s only a handful [of them]. And I think when you talk to some of our friends who work for the regional funds, they would concur that. It is tough, but it’s not impossible. I think one has to be patient, realistic about deal sizes. Large deals like over $100 million that can make 25 per cent IRR – there are very few of those. But I think we found the sweet spot which is doing things between $20 million and $50 million and then working with the companies to help build them up.
You have been in India-based ChrysCapital for 11 years – what are some of your learning curves that you’re applying it to Southeast Asia?
In ChrysCapital, we had a very flexible investment strategy. So we did largely minority [deals] because India is a country in which companies are owned by families and entrepreneurs. So generally, they don’t want to sell and when the business is growing 25 per cent a year, you can understand why [they didn’t want to sell]. So I always believe buyouts are relevant in markets that are more mature, less growth and perhaps has more fragmented ownership in the business. Because that’s where private equity comes in to transform the businesses.
So I think the flexibility in the strategy is that 80 per cent of our deals are minority similar to what we did in ChrysCapital. I think one difference on what we’re doing in Creador is we’re more actively involved in the portfolio. In India, you’re fortunate to have a growing economy – so you find a great entrepreneur, give them money and then get out of the way – because it’s already a good business. So you don’t really need to get very involved in the business. But in Southeast Asia, it’s quite different. I think by getting more involved, the company will be able to transform better and grow faster.
You mentioned fundraising is extremely difficult in the region, so how do you keep your momentum going? You’re now at Fund IV, which raised about $560 million. How do you convince your LPs to keep working with you?
So in ChrysCapital, we were trying to raise a billion dollars with $4 billion in demand. So when I was starting [on my own], I thought it was going to be easy – all those who didn’t come in the last round, will be throwing money in this round. We were trying to raise $350 million and we raised $130 million instead. Clearly, it wasn’t easy. I saw 350 investors and we only closed 35. That’s a 90 per cent failure rate. So I know what it was like to walk through that door, and nine out of 10 times, you’re not going to get a cheque. It is clearly a very frustrating part of the job.
But I think to some extent, we were lucky. We started in 2011 and the markets were quite weak. So we were able to buy things at a more attractive valuation really quickly. And we were able to show a strong track record early, which allowed us to raise Fund II and so on. And to be honest, we ourselves are [still] learning what works in this region as well.
One of the conclusions that we’re coming to is that very small private equity deals – the $10 million deals we did, didn’t really turn the needle [for us]. And you’re dealing with weaker management who don’t really have the vision, generally. So out of the five or six small deals, we did – one or two did great and the rest didn’t really work out. We are pushing to do slightly larger deals where we can invest in the management and so forth.
The biggest pots of capital are the the US, if you can’t tap that, you’re never going to hit critical mass. And as mentioned earlier, the US investors have made 16 per cent a year on the S&P500, so why would they bother to come to Asia for 8 per cent? It doesn’t make sense. So if you’re going to raise money [from US investors], we have to deliver 17-20 per cent net returns for our investors – and that’s our goal. Obviously valuations are not cheap but we do it by having our Creador+ team, where we have 16 people who are keeping up with the portfolio companies day in and out to drive value creation.
You recently closed your fourth fund which is also the largest fund you’ve raised so far since you started Creador. What sectors are looking interesting to you and which market you think is going to do well?
I wish I knew what it was! One of the things we’ve seen – maybe others have a different experience – is that there are very few high-quality banker-driven deals [in the region]. So we generally don’t get the opportunity to participate or win deals in that area. Hence we have a very proactive approach by breaking ourselves into five big themes – consumer, retail, financial services, business services and healthcare.
We have teams that are on the ground and their job is to go and meet every player in the space. We then spend a lot of time convincing these companies why we’re the right partner – that’s how we’ve been able to deploy capital at a decent pace. I think we’re also becoming fussier where we’re doing fewer larger deals – Fund II which was a $330 million fund had 14 investments and I think it was too many. Fund III did 10 investments. We probably want to do eight to 10 investments in a fund so we can really dedicate the resources and make our companies more significant.
We realised Creador hasn’t really done any pure tech deals – is that something that you’d like to get into? Do you feel like you’ve been missing out on the tech trend?
Well, I guess we’re not smart enough [for tech deals]. In 2000, we put 40 per cent of a $60 million fund into what was then the dotcom boom that was coming from the US and it was too early because India barely had any internet connection for e-commerce businesses – we lost a lot of that capital. The challenge for us today is that we don’t understand how to value tech investments. I don’t understand the valuations. But I do think investors, especially on the high-end, are putting an excessive amount of capital into some of these [tech] companies which are burning cash at a ridiculous number.
I mean, think about Gojek and Grab who are burning a billion dollars a year – I just don’t understand how investors are ever going to make serious money. If you’re coming in at [the valuation of] a billion-dollar or two is one thing, but the valuations are now on the tens. But that’s my limited experience and that’s why we make no money from tech investments. I’m sure others will do much better jobs than ourselves.
In 2018 you opened your first office in Vietnam and you also made your first investment into the market. How is it going for you?
To be honest, in this [private equity] business, you don’t make 25 per cent gross returns unless you take some risks. We made an investment in Mobile World Group (MWG) and it has done very well. But we need to spend some time to understand the market better so we thought we would have some people there to do that. But I have to say it’s not a great private equity market, personally. I don’t think there’s a tonne of things happening. And that’s not just for us – who has made serious money in Vietnam? How many people have made more than $100 million? But I think it would be a great place to invest over the next 10-20 years. So you have to have a 20-year horizon and we will continue to look at things [in Vietnam] though I don’t see us deploying more capital in the near term.
Southeast Asia is becoming increasingly attractive to larger private equity firms – we have the likes of TPG, KKR who are also doing deals in the region. We then also have these larger players cutting smaller cheques to back businesses in Southeast Asia and somewhat blurring the lines between private equity and venture capital. Do you feel the competition heating up?
Well, I used to invest in India, where there are like 100 firms across and every deal is intermediated and there are a lot of smart people in the market. Obviously in the venture world, lots of people have made good money in the early- and mid-stage. I think that will continue to be the case [for India]. But I don’t think there are a lot of GPs (general partners) that are actually investing in Southeast Asia. There are a reasonable number of them but it is not as buoyant as China, India, and so on.
You said finding deals are also not easy for you. So what’s your approach in deal-sourcing?
About 30 per cent of our capital is deployed in India – and in that market, every deal is intermediated. So the businesses will talk to you but will also then refer you to their bankers. In Southeast Asia, the quality of banker-led deals is still very limited. So there are lots of deals that you could spend an endless amount of time reviewing. 90 per cent of our deals came from us proactively reaching out to the industry leaders and then convincing them to take capital from us. Most of the time, they haven’t really thought of private equity as an asset class. From a capital deployment perspective, about 40 per cent of our funds have gone into Malaysia, another 20 per cent into Indonesia, and the balance came from Vietnam and the Philippines.
Exit opportunities are also being talked about a lot in Southeast Asia. What are your views on that front? Do you find it difficult to exit and are you bullish about IPO exits?
It’s quite an interesting topic. Because in the last few years there’s been a crazy amount of money going into particularly the venture side and to some extent, private equity. And we have this monster called SoftBank which has $100 billion [and] is throwing money around the world. You can see that when the bullish-ness stops – what the impact on valuations can be. How is it that Uber is trading 40 per cent below its IPO price? And how is that WeWork was talking about a $47 billion valuation and then it went down to $15 billion and then now the IPO is not happening.
So I think exit is a universal problem that if people pay ridiculous valuations – as Warren Buffett said: when the tide pulls back, you will see who is naked. And I think that’s what going to happen to a number of these large startups, especially those that are raising billions of dollars. I think there has to be a shift towards an economic model, which delivers profit. Another thing is that we found that when you build good businesses with strong propositions, market leadership, earnings etc., you will always have good exit options. So it does show when you do have earnings – strategic interest, IPO and private equity are very realistic. The problem starts when you have businesses that are built on hype and when the substance is not there, and you’re counting on the next person to put in capital.
So we’ve been recently working on an IPO for one of our companies which is going to go public soon where Malaysia is an excellent IPO market, with strong institutional investors. On the other hand, Singapore is a very difficult market to go public – it’s lacklustre and there’s not enough excitement. Hong Kong obviously is a very good market in general but maybe not good for Southeast Asian companies because you get lost in terms of brand recognition and so on. So at least for our Malaysian assets, we’re very happy to list in Malaysia.
But one could also argue that Bursa Malaysia has been lacklustre too – we have only seen one major listing on the Main Market so far for 2019.
It’s lacklustre because there are no growth companies with substance. So the key is, can you find a company that’s growing at least 15 per cent a year and with scale? I’ll give you an example – we took a company public two years ago in Indonesia at a billion dollar market cap, 25 per cent float, and it trades a $100,000 a day. That’s the extent of the lack of liquidity. So I think it’s important to have scale to create that liquidity. So my general view is don’t go public unless this company can have a market cap of at least one or $2 billion with a good flow going forward.