Down in size, but not out

With many global banks cutting back on leveraged finance activities in the Asia-Pacific region, it would be easy to assume the buyout market is grinding to a halt. But in fact, while mega-buyouts are out of the question, the small- and mid-market segments are alive and well – or will be once purchase prices come down. Jenny Blinch reports.

With the decoupling theory blown out of the water by the ongoing financial crisis, it stands to reason that in the Asia-Pacific region, as in the rest of the world, the section of private equity least insulated from the pain is the one most dependent on financial institutions for financial sponsorship: the buyout industry.

In fact, even if the decoupling theory had held true and the Asian economies had continued their growth trajectories uninterrupted by a crisis originated in the West, the region's budding buyout funds – concentrated on the most developed economies in the region, namely Australia and New Zealand, Korea, Singapore and Japan – would still have felt the pinch. This is because the biggest and most prolific debt providers in the region over the past four or five years have been those international banks that, following hot on the heels of the buyout scent, set up local leveraged finance teams as the buyout industry grew.

That the impact of the global crisis filtered down to buyout activity in the region is borne out in recent figures released by Dealogic. They state that Asia-Pacific (ex Japan) financial sponsor-related LBO volume reached just $5.5 billion in 2008 – a dive of 59 percent from the $13.6 billion raised in 2007 and the lowest annual total since 2005. Also according to Dealogic, not a single financial sponsor-related LBO loan was signed in Q4 2008.

This would seem par for the course, since many globe-conquering US and European banks have been among the hardest-hit victims of a crisis that has torn through the balance sheets of many of the world's leading financial institutions. As those banks began to turn their focus to home in order to lick their wounds, consolidate and adjust to the post-credit crunch world, the headcount of the leveraged finance teams in their Asian offices began to drop.

Amongst those that have cut staff so far are Dutch monolith ING, which at the end of November announced it had trimmed people from its Asian leveraged finance business. Similar measures have been taken by Citi and ABN AMRO, which according to one source close to the private equity industry have both seen “substantial” layoffs. The same source describes the situation for bankers as “still pretty fluid”, with redundancies ongoing.

November 2008 also saw some management reshuffling at a couple of the international banks, with high profile resignations at both Citi and UBS. Genevieve Gregor, Citi Australia's head of leverage and acquisition finance, left the firm, to be succeeded by Robin Dutta. Steve Bennett, head of global leveraged finance for Asia-Pacific at UBS, also departed. Bennett will be replaced by UBS managing director GuyWylie, who is to transfer to Hong Kong from the leveraged finance team in London.

On the GP side, the same month also saw The Carlyle Group close its Sydney-based leveraged finance group only a year after it opened, blaming adverse market conditions.

The international banks are, of course, only one half of the story in Asian leverage markets; there are also the regional or domestic banks to take into account. However, in a region as vast, diverse and fragmented as Asia-Pacific, it is impossible to talk about all local banking markets in the same breath. Between them there is very little crossover.

“The commercial bank market is still unique in Asia,” says Brett King, a leveraged finance lawyer at the Hong Kong office of law firm Paul, Hastings, Janofsky &Walker. “If you do an LBO in Korea, you typically can't tap a Malaysian bank because they don't lend in Korea and vice versa. Every market has a different bank group. Japanese banks are the only Asian banks that are region-wide lenders, apart from some of the bigger players like Standard Chartered and HSBC.”

While consideration of individual domestic debt markets has always been a key issue when doing LBOs in Asia-Pacific, current financial woes have only served to increase its importance. Though again, the impact of the crisis on economies across the region has been far from uniform, as King illustrates with the following example: “Right now, the Korean bank market is very short of liquidity, but the Malaysian bank market has excess liquidity. So if you wanted to do an LBO in Malaysia right now, it would be much, much easier than in Korea from a purely finance perspective.”

“If you wanted to do an LBO in Malaysia right now, it would be much, much easier than in Korea from a purely finance perspective.”

However, allowing for variations within the markets, the supply of leverage from domestic banks is, it seems, still flowing – even if in some cases the flow may be more a trickle than a torrent. This means in turn that the buyout industry in the region carries on, although with one big caveat: the ability to get a deal done depends very much on its size.

Mark Chiba, group chairman and partner, The Longreach Group, explains: “The leverage markets are still functional as the local banks, and particularly local banks in Japan for Japanese deals, Taiwan for Taiwanese deals, are active and will support well structured mid-market to larger mid-market deals. The withdrawal of very large, or very highly structured, leverage that was driven mainly by the global investment banks and universal banks is definitely a reality, but it's not really affecting the Asian mid-market.”


Revenue date Net revenue ($m) Net revenue ($m)
Asia-Pacific (exJapan) Japan
2004 64 N/A
2005 87 38
2006 306 18
2007 313 75
2008 145 72

Accordingly, private equity firms in the region have shifted their focus to adjust to the reduced availability of leverage, as Mike Netterfield, head of the Financial Sponsors Group, Asia-Pacific at the Royal Bank of Scotland explains: “The type of deals sponsors are focusing on at the moment are by definition deals where you don't need lots of leverage, such as small and mid-sized public to privates, where you may just have to refinance the company's existing debt in order to get a deal done. Therefore the returns on the transaction are a function of the valuation you can get in at, and the prospects of growth for the company and of multiple arbitrage, rather than being driven extensively by leverage. Minority investments, and deals where sponsors team with corporates, are other examples of structures not primarily relying on leverage, which the private equity players are actively pursuing.”

However, the stumbling block so far with all deals has been valuations, as ICG's Heine points out: “Deals being looked at or being done involve lower valuations. Private sellers' valuation expectations are still quite high, and whilst the public markets have fallen, it's still very difficult to do a privatisation of a public company, even at these low levels.”

For King, the big question raised by the current crisis is, firstly, whether it will bring down asset prices and, secondly, how quickly?

“The problem in Asia is we've always had a shortage of good assets,” he explains. “The assets aren't nearly the quality or quantity that is seen in other jurisdictions, so when a good asset comes to market, it is not uncommon to see 12 or 15 bidders submitting proposals to the seller – which in the past has meant the price ended up being very, very high in terms of EBITDA multiples.”


Credit Date Value No.
2004 Q1 118 2
2004 Q2 300 3
2004 Q3 81 1
2004 Q4 715 3
2005 Q1 1,591 6
2005 Q2 173 2
2005 Q3 220 2
2005 Q4 975 1
2006 Q1 957 5
2006 Q2 1,698 6
2006 Q3 2,862 7
2006 Q4 4,121 4
2007 Q1 4,632 7
2007 Q2 3,359 8
2007 Q3 1,540 6
2007 Q4 4,039 10
2008 Q1 4,624 5
2008 Q2 0 0
2008 Q3 362 2
2008 Q4 0 0

For buyout firms, acquisition finance is hard to source at the moment, because the banks have other priorities.

Mark Chiba at private equity firm The Long Reach Group argues: “The constraint on the system is very simple, it's actually not the analytics around the risk in the leverage structure – it's much more the absolute size of the ticket, and the reason for that is, you've just got massive balance sheet contraction and risk weighted asset reduction pressures in the banking system globally, so it's just hard for a bank to write a big cheque for leverage at this stage, no matter how good the client or the ticket.”

For the same reason, refinancing existing portfolio companies via leveraged recaps is also out of the question. According to Chris Heine, managing director, ICG Asia-Pacific, banks simply don't want equity sponsors to “take money off the table” because of their own capital structure problems.

For holders of leveraged debt that is under-performing, the only solution might be to sell. There is already a flourishing secondary market for Asian LBO debt, as Heine observes: “What you see now is a lot of the trading desks at the banks offering $10 million, $20 million, $30 million pieces of senior loans, sub-debt and mezzanine for sale from people who held that debt and are now stressed. [Often] this is not a problem with the underlying companies, the problem is the sellers of that debt are stressed.”

The secondary market is thriving because banks, hedge funds and also private equity sponsors are being forced by external pressures to sell. Often they start with good assets first, for the simple reason that any liquidity that's around will not want to buy anything toxic.

The trend to sell good assets might be exacerbated by the foreign banks that have built a presence in the region and are now being forced to shrink their offshore balance sheets. Those banks that have had a government bailout in their home country are now especially likely to batten down the hatches and consolidate their activities closer to home markets. Any Asia-Pacific LBO loans on their books are likely to surface in the secondary market before long.