Insights on the Private Equity Market
By Kimberly Yoong, Analyst, Capital Markets - Continental Europe at Cushman & Wakefield Hospitality
Over the past years, the hotel sector had remained a hot market for investors, as hotel investment volume reached US$66 billion in 2019, with initially cautiously optimistic projections for 2020. Although the short-to-medium-term prospects of the market now remain uncertain due to COVID-19, there may be opportunities amidst these times, both for companies to innovate their models and investors with a keen eye and open mind. In an EHL webinar, EHL alumnus Min Su Sung, Head of Product Strategy, Asia-Pacific and Middle East at BlackRock Private Equity Partners, shared some insights on the private equity market.
Can you tell us a little bit about your career journey?
I graduated from EHL in 2001 and I recall having dreamt of being a great chef or restaurateur or hotel manager traveling around the world. After graduation, I joined Samsung as part of a corporate recruitment program to work for the Shilla Hotels and Resorts, a luxury hotel brand in Korea. After five years there, I pursued my MBA at the Wharton School and then came into the world of finance here in Hong Kong. I was in investment banking at first, and then landed in private equity, where I have been since. Today, I am at BlackRock heading product strategy and business development for the private equity solutions group, as well as managing business across the APAC and Middle East regions.
How was the transition from hospitality to investment banking?
I think my MBA helped me prove that I was able to do analytical and number-crunching work. But there were also other skill sets. When I joined investment banking, I was on the real estate side and we were going through a lot of IPO underwriting, as well as private placement of real estate funds that focused not only on multi-use and straight-off logistics assets, but also hospitality assets. At the time, they didn't have anybody with a real background in hospitality that understood and was able to interact with those hotel operating companies or hotel owners.
What exactly do you do in your current role?
It's a business development, product structuring and investor relations function: overlooking Asia and Middle East accounts that we manage on a separate account basis, as well as fund investors who are coming into it. I think the most interesting part is structuring products and mandates. We have off-the-shelf products that we offer in a commingled manner, but two-thirds of our business comes from separately managed accounts, with clients requiring a tailored solution to access private equity asset class. We have fund investment programs, secondary programs, and co-investment capabilities. We bring a combination of that to structure a portfolio for them to build out or helping them to complete a portfolio. Now with COVID-19, we also have very close dialogues with clients, go through their portfolios, assess the impact on performance, as well as the extent of duress of each underlying portfolio company.
The Private Equity Market
What are some of the common misconceptions about investment in travel?
One of the misconceptions is that nobody made money out of the travel business. There are several GPs (General Partners) that specialize in this field and there are branches of major global buyout firms that are investing into this field as well. The travel industry accounts for about 10% of global GDP, which is not as much as the healthcare or TMT (technology, media, and telecom) sectors - but it is a less crowded space than tech and healthcare. I think there is a true opportunity investing in non-real assets-based travel-related businesses, especially in travel services and travel & mobility tech businesses that people with a hospitality background can really excel in.
How do you evaluate a potential investment?
We start by looking for the break cases of businesses - what needs to happen for this business to really fail? We also look at the cash flow positions and the business strategy and competitive landscape - is there anything that would hamper operations and substantially reduce our investment value? We focus on the downside risk a lot; if you can mitigate that, I think the upside will take care of itself.
The liquidity position of companies is crucial for survival, we don't know when COVID-19 will end, but we need to see what cash position these companies are in to able to survive and their cost-cutting measures. I am also hoping that some of the businesses will create innovative models out of this crisis and change their business model, that may bring additional value to the company and its investors.
How do you make these decisions now in this high level of uncertainty?
We're reforecasting our projections for these companies, working with them to extend their credit lines with the banks, even looking at the debt market to see where their bonds are traded because that is a good indication of where the equity is priced. We're also bringing a lot of other external helps for the management, but I think that overall, a company needs a strong balance sheet and that is what we are trying to help them the most in this particular time. And then we are also exploring new strategies together with them and helping them get follow-on funding for a new strategy, to break away from old business and to create new value from our investments.
What sort of opportunities do you see in this climate of crisis?
The psychology behind investing is to 'buy low and sell high', to a certain extent. But many investors are thinking, "Well, everybody's pulling money out. We should get out," so I think there are many missed opportunities coming out from this crisis. Every time there is a crisis, there is market dislocation and it creates inefficiency.
Secondary is another strategy that we are actively pursuing, which is to buy at a discount to current NAV (Net Asset Value), and we are expecting those NAV numbers to fall in the coming quarters. We also look at the distressed opportunities, and there have been a number of deals that have been broken, which were signed pre-COVID and never executed.
How do you get the data and insights to make all these decisions?
We have personal relationships with many of the management on the line of GPs that we are investing with. We also rely on industry experts as a reference points. To this day, I think nothing beats the person-to-person references. You can crunch numbers and it will only spit out the numbers that you had built your assumptions on. We spend a lot of time on calls with the GPs who have invested in the space that we're looking at, the assets, management companies, past portfolio company management, as well as many of the PMs (Portfolio Managers) that operate in the relevant sectors, both from the public market and debt perspectives.
Trends in the Private Equity Market
What are your thoughts on impact investing and sustainable investing?
BlackRock is voicing out our view on companies that are not living up to the ESG (Environmental, Social, and Governance). We are implementing ESG to all our investment processes; for example, in Japan with GPIF (Government Pension Investment Fund), they are really voicing out loud on the concerns of ESG standards. It is becoming the mainstream and I think we'll continue to see more opportunities and more firms will follow.
From the institutional investor side, there is a strong movement towards tapping ESG through UNPRI (United Nations' Principles for Responsible Investment) programs and the UN Strategic Development Goals; whether they are entrusting their money to public market or private equity or real asset managers, they want to see some sort of ESG standards adopted in the funds of the mandate they invest into. Certain countries' pensions or institutional investors have a more acute awareness of the need to implement ESG.
One or two other trends that you have seen emerge since you started?
After the global financial crisis, we've been going through a very low-interest rate environment and institutional investors, especially the pensions, have been searching for yields. So, they've been increasing their allocation to private markets, especially to private equity and as a result, I think we've seen many of the buyout firms coming out with 10 billion-plus funds and that continues to proliferate.
There's been an innovation in the private equity industry. Secondary has evolved to also become a mainstream product, and the strategy within the private equity, whether it's buying LP (Limited Partner) commitments into different funds at discount or there is an innovation going on within the secondary itself. Because when you look at it, the primary capital that is being raised today by institutional investors in to the GPs today, at some point, there will be a need for liquidity - and that creates opportunities for secondary players to come in and provide liquidity in an illiquid asset class.
Another evolving trend is the push for long-term private capital and long-term investment. We call it similar to Warren Buffett-style investing or value investing, where you are using private capital to hold on to a company for longer and you don't really have to accept, so you're not constrained by that. The other trend is coming with perpetual programs that allow for policy liquidity, as well as evergreen structures that you can stay in and recycle capital throughout its life, and you don't have to accept traditional commingled funds from them.
What is the driver behind these perpetual programs?
It's coming from institutional investors. There are sovereign wealth funds like GIC which are not really pressed to sell their investments. Their view is, "why go along with a 10-year program? We want to hold on to good assets for longer." But the challenge is that not every fund has a full-fledged investment team to execute those investments and manage those assets. So private equity firms like KKR and CVC are creating innovative solutions to allow institutional investors such as sovereign wealth funds access to these assets and enjoy the dividends from these good quality assets over a long time.
The Fundraising Process
Can you talk about the fundraising process at private equity firms and how it will evolve given the changes in the macro-environment?
Fundraising is part- 'systems and process' and part- 'art of dealing with people'. My skill sets from EHL and the hospitality industry have benefited me in the fundraising space, with a lot of interaction, presentation skills, and convincing and negotiation. At the same time, it also involves a lot of legal knowledge to negotiate with the client in specific terms.
The fundraising process, in a nutshell, depends on whether it's a first-time fund or second-time fund. The performance of the product will dictate how you set up the new fund with the pipeline of transactions. That will determine how easy or difficult it will be to raise funds. But the secret to it is timing; coming out to the market to fundraise at the right time will give you a higher success rate than anything else. If you're coming on during the off-cycle and there is only one competitor rather than ten, the likelihood is that you will both get commitment, and a bigger one at that. There are also documents you need to prepare, such as the investor presentation and the PPM (Private Placement Memorandum) and LPA (Limited Partnership Agreement) documents etc.
I think the main things are management fee rates, carry rates, and hurdle rates. Some of the common themes that we see in terms of negotiation are no-fault divorces, as well as negotiation around GP catch-up. The maximum time you have is typically 18 months from the initial close to the final close, with a possible 3 months extension. But given the current environment, it's very much bipolar - firms with good performance and reputation are raising capital within 6 months, while those which are struggling can take more than 24 months.
Kimberly YoongMore from Kimberly Yoong
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