With turmoil in the global economy and with China’s economy experiencing a marked slowdown in 2012, a perfect storm has emerged for domestic and foreign private equity players in China to increasingly and on a larger-scale transform corporations and entire industries into pillars of future economic growth.
The PE industry has become an important source of growth capital, bolstered by continued policy support from the Central Government.
This will position the PE industry in China to likely achieve a record year in 2013, in terms of both deal volume and value. However challenges abound in the face of opportunity.
PwC analysis of the trends in China reveal that a truly domestic PE industry has emerged in the last four years, though the firm expects - and is seeing already - some consolidation and a tougher fund raising environment for some mid-tier and less established funds.
A strong indicator of the development of the industry in China is that China focused funds accounted for 17% of global PE fundraising in 2011 - the largest proportion ever.
PwC Greater China Private Equity Group Leader David Brown said PE deal levels hit record highs in 2011; with 2012 data to the end of Q3 showing a marked decline but there is some time lag factor in play. The pipeline of deals is quite strong.
"Deal activity is likely to strengthen from 2Q13 as global economic conditions hopefully become more settled, pricing expectations adjust, IPO markets re-open, and China’s leadership transition takes effect - we believe that 2013 will be a record year for PE in China and there are very strong tailwinds for the PE industry in China over the medium term," he said.
"If we look at the same statistics in terms of deal numbers (rather than values) the dominance of growth capital is very evident; PE has emerged as an important provider of capital to China’s capital-starved private sector. However, we do see more buy-out opportunities starting to arise, and buy-outs will comprise a larger proportion of deal activity in the future."
Consumer-linked, clean energy, agriculture, media and entertainment, technology, healthcare (industries perceived to benefit from China’s 5-year plan) are often cited as target industries although, in practice, it appears that PEs tend to be somewhat industry agnostic.
Overall, there is a huge overhang of Chinese PE-backed enterprises waiting to come to market either by IPO or by M&A exit - this presents a real challenge to the industry over the next few years as IPO markets will not be able to accommodate all of the backlog.
"The industry as a whole is moving into an "exit phase"; the backlog of exits represents a real challenge for the sector; it is more than IPO markets can absorb, and trade and secondary sales will become more frequent," notes Brown.
He added that within China, the days where PEs could throw money at deals and expect everyone to benefit have gone. "Careful and professional diligence is vitally important; fraud risk is high; PEs should be prepared to walk away from opportunities if sellers will not accommodate diligence."
The industry in China is now evolving at a rapid pace, with new regulations shaping its direction.
PwC says: "There will be winners and losers--the bubble is already bursting for many of the plethora of renminbi funds raised over the past few years, however despite this, Yuan denominated PE fund raising is here to stay and the big players in China will emerge to compete with their global peers."