"Markets running ahead of themselves"

In March, PEI Asia got hold of Mark Mobius, the globetrotting managing director of Franklin Templeton Investments, in Panama and asked him for his thoughts on the Shanghai stock market crash and its implications for private equity.

Should private equity be concerned with the recent stock market correction in Asia?
Yes, most definitely. The stock markets, after all, provide an exit for private equity funds. I feel the recent stock market corrections have been very healthy especially after such a long bull run. And it is natural for markets to go up and down. The bullish stock markets may have been justified by higher company earnings and greater money supply across a number of markets. The past few years have also witnessed the sharpest economic growth, especially since the Asian economic crisis recovery. There has also been a buildup of foreign reserves, which, in turn, has led to improved credit ratings across many Asian markets. With the higher ratings, interest rates have fallen along with inflation. Nevertheless, some markets have gone ahead of themselves.

Which public markets would you say are overheated? Where in Asia do you see that as having an impact on private equity?
China is an example of a market where the domestic A-share market had been over-heated, and that becomes clear when you look at the lower valuations of A-share market stocks that are listed in Hong Kong. But in China, the market is just so big and there is so much happening, opportunities are abundant for any investor.

To some extent, India has also been running ahead of itself. And here, valuations can sometimes be higher than China. But reasonable prices can still be found in small to medium sized enterprises. When you get a bullish stock market, companies' expectations tend to step out of line with reality. That poses some challenge in the negotiation process. We have to convince businesses to price their assets' worth against the company's future earnings and lay down conditions, tied to earnings performance, that need to be met, if they are bent on using public valuations as a pricing benchmark.

In India, more so than China, you can run into a lot of competition from big boys with a lot of cash when you want to invest in a market leader, so we prefer to spend more time to work with smaller companies. Templeton's strategic emerging markets fund group makes strategic investments in pre-IPO situations and PIPE [Private Investment in Public Equities] deals.

Where in Southeast Asia is speculation most evident?
In Southeast Asia, the best example would be Vietnam. But over-speculation is a sign of the growing pains most emerging markets experience. Vietnam presents interesting opportunities for private equity investors as companies undergo the process of adopting Western management standards and prepare for listing on a proper regulated market. A few should be looking to list offshore in due course.

What is Templeton's approach to investing in the markets you have identified?
Templeton Strategic Emerging Markets Fund II, a $132.5 million fund which held a final close in September 2006, invests in minority stakes so we tend to take a more cooperative approach. Post-investment monitoring is very critical to our long-term strategy, but we don't go into a company to tell them how to run their business. We identify good management teams to partner with and help grow at the outset, rather than overhaul their business as some private equity investors who take control would.

Our typical investment would be in the $10 million to $15 million range, across sectors and geographies. Outside of Asia, we have looked at, if not invested in, former Soviet Union countries, South Africa and Brazil.

Which markets would you avoid?
For what we do, we need markets which provide a sound legal and financial framework to work within. In Asia, Burma and Laos would not be on the top of my list. Indonesia takes more work than some other markets but we have had some discussions about this. If need be, we would structure the deal outside, in Hong Kong or Singapore..