Private-equity (PE) and venture capital (VC) firms are turning cautious about investing in Chinese firms due to escalating competition in the country in various industries, the Hong Kong Venture Capital and Private Equity Association said.
Adding to the risks, cashing out on investments has also become more difficult in the market, the association said.
Given these factors, investors are seeking to diversify their fund allocation and the geographical spread, said Conrad Tsang, the association’s chairman.
“Investing in China is much easier now than it was ten years ago, but now the challenge is that many people have got in and the competition is fierce, which may impact the opportunities and returns,” Tsang told EJ Insight in an interview.
“That is why some firms are adding more products such as real estate funds, hedge funds and credit funds, while some are diversifying their investments to other locations in Asia,” he said.
Hong Kong’s private-equity and venture capital firms currently have about US$100 billion in assets under management. About half the firms have been targeting the Greater China market, while some global funds have also set up Asian headquarters in the city. But the industry has entered a consolidation cycle two to three years ago, which Tsang expects to continue for a while.
Besides competition, exiting the investments is getting harder for PE/VCs as the initial public offering (IPO) markets in China and Hong Kong are not doing too well.
“It is more difficult to get companies to do IPOs in the two markets. It is not because of regulations, but rather due to weak market sentiment,” Tsang said, noting that investors are skeptical about IPOs as they fear the shares will tank after listing.
Hong Kong’s IPO sentiment is mainly market-driven while in China it is more driven by regulatory issues. The China Securities Regulatory Commission restarted approvals for IPOs on June 9, after putting them on hold in late February. Early this year, the market watchdog ended a year-old official freeze on flotations.
“The traditional model of investing in a company for two to three years and seeking IPO exit is getting difficult, so more trade-sales exits will be seen,” Tsang said. “In the end, the Hong Kong and China markets will be similar to the United States and European markets, where IPOs, trade-sales, restructuring and redemption co-exist.”
So, PE/VCs are now pursuing a dual track for exits, a phenomenon that is common in the West but not yet in Hong Kong and in the mainland, he said.
Meanwhile, Tsang also said a shortage of skilled professionals has become a challenge for the industry. “This is why a number of Chinese firms have hired foreigners to be part of their teams so as to leverage their overseas connections, experience and knowledge in making cross-border M&As.”
As China’s economic growth is slowing, some PE/VCs are looking to diversify their investments to other places in the region or elsewhere.
“Members still prefer mature economies. For safe locations, Europe and US would be the targets in view of the transparency in those markets and stable returns,” Tsang said. As for Asia, funds would generally prefer Singapore, Malaysia and Korea to balance safety and growth,” he said.
Despite the challenges, Hong Kong’s PE/VC industry is still expected to double by 2020, Tsang said, citing China’s recent reforms and Hong Kong’s low taxes.
“The industry has grown a lot in the past few years and Chinese companies including state-owned enterprises and private ones are keen to use Hong Kong as their base to invest overseas, in regions such as Europe, Africa and North and South America,” he said.
Some members might be interested in investing in mainland state-owned enterprises as they are seeking to adopt mixed ownership, opening a new investment channel for the PE/VCs, he said.
“It would be great if we can continue to promote Hong Kong’s competitiveness, with its convenience and low tax policy, so as to lure more global funds into setting up arms in the city,” Tsang said.
Most members of the Hong Kong Venture Capital and Private Equity Association are upbeat on China’s medical, education, consumer, financial, environmental and high-tech manufacturing sectors, Tsang said.
He is positive about the prospects of crowd-funding initiatives but pointed out that the business is still in its infancy in China. Some Chinese are doing crowd funding, but regulations on the activity are yet to mature, Tsang said, noting that some initiatives have caused discomfort to regulators.
“It is actually a workable industry in China, but it is important to have it regulated, such as providing clear guidance on the approvals, timeframe, and maybe requiring a public account so that the funded capital will not be used in wrong ways,” he said.
Tsang believes it will take three to five years for the crowd funding industry to mature.
Besides investing in start-up firms, PE and VC players would be looking to join Chinese firms in undertaking overseas acquisitions.
“Usually, PE/VCs will invest in the parent companies in China and make mergers and acquisitions with them, or buy into foreign assets and introduce them to the Chinese market,” Tsang said.
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