First Annual Global Private Equity Forum Beijing

More than 400 delegates crowded the ballroom at the Shangri-La Hotel in Beijing on November 10, 2008 for the First Annual Global PE Forum Beijing. The inaugural Beijing Forum featured some of the leading industry players from China and abroad, including some of the senior-most officials from Chinese regulatory agencies responsible for aspects of the PE industry. Throughout the day the message was repeated: private equity is an asset class built for the long-term and represents a potentially strong vehicle for economic development, innovation and growth in China.

The Forum featured six sessions, each with a distinguished panel of industry leaders from China and abroad:

• Introductory Remarks
• East Meets West on the GP Power Panel
• The Regulation of Private Equity – China in the Global Context
• The Chinese Limited Partner – Global Perspectives for Domestic PE Investors
• Leaders Share Lessons Learned from the Development of PE in Other Emerging Markets
• The Impact of the Global Financial Crisis on Private Equity in China

Introductory Remarks

Speakers

• Shao Bingren, Director Preparation Team of China Private Equity Association
• Ji Lin, Executive Deputy Mayor Beijing Municipal People’s Government
• Li Kemu, Vice Chairman China Insurance Regulatory Commission
• Wang Zhongmin, Vice Chairman National Council for Social Security Fund
• Xu Lin, Director Department of Fiscal and Financial Affairs, National Development and Reform Commission

In the first morning session, leaders of key government and other agencies welcomed delegates to the Forum and expressed their hopes for a candid sharing of perspectives and ideas. All speakers indicated their hopes for a sound and growing private equity industry in China and pledged that their agencies would do their part to support its development. Mr. Fang Fenglei of Hopu Investment Management and former Chairman of Goldman Sachs China opened the conference by introducing Mr. Shao Bingren, who formerly led the national reform commission under Deng Xiaopeng in the 1980s and early 1990s. Mr. Shao is Chairman Emeritus of the Beijing Private Equity Association and is tapped to become Chairman of the new government-sponsored national China Private Equity Association.

East Meets West on the GP Power Panel

Speakers/Panelists

• John Zhao, CEO Hony Capital
• Henry Kravis, Founding Partner Kohlberg Kravis Roberts & Co.
• Fang Fenglei, CEO Hopu Investment Management
• Martin Halusa, CEO Apax Partners
• Wu Shangzhi, CEO CDH China
• Yi Xiqun, CEO BlueWhale Capital
• Tian Suning, Chairman CBC Capital

John Zhao, CEO of Hony Capital, moderated the morning GP “power panel”, designed to explain and clarify certain fundamentals about private equity for the distinguished audience of Chinese government, institutional investor, media, and foreign industry guests. Mr. Zhao began by introducing Henry Kravis, founding partner of Kohlberg, Kravis, Roberts & Co, referring to Mr. Kravis as the “father of the industry” and noting that the evolution of KKR essentially parallels the evolution of private equity generally. As his co-founder George Roberts looked on from the first row, Mr. Kravis gave a thorough explanation of what private equity is and what it is not. He emphasized the long-term nature of the asset class and the importance of building value for – and aligning interests with – multiple constituencies. He noted that the industry had to some degree taken its eye off this long-term perspective during the great run-up of the last few years, and pointed out that China is just now beginning to see the extent to which private equity can help fuel economic growth, innovation, and strong returns for both domestic and foreign investors.

After briefly telling the story of KKR, Mr. Kravis posed two important questions: How do leading PE firms create and maintain/sustain long term results in difficult market conditions over time? And how has the LP-GP relationship evolved over time and what the role has this relationship played in creating the global industry.

To the first question, Mr. Kravis responded by emphasizing that private equity is a long-term investment vehicle. He noted that one needs to weigh IRR versus “times-money”, commenting, “You can play the IRR game by getting out of your investments very quickly. At KKR, however, our average holding period is approximately 7 years.” He also contrasted the long-term goals of private equity with the speculative, shorter-term goals of hedge funds. Mr. Kravis said, “Don’t congratulate us when we invest in a company, applaud us when we sell it at a profit because that means we’ve created value, we’ve done something to contribute to growth in employment, had a positive effect on the (operating) environment, the community, and the broader set of stakeholders.”

Mr. Kravis declared that the days of financial engineering are over, and that the best results would be generated – for KKR, at least – through industry specialization, really understanding the industries in which their portfolio companies (or target companies) operate. He also emphasized the importance of maintaining a sufficiently flexible capital structure so that you can keep investing in the business, and the necessity of a global presence (noting that KKR was now looking at Latin America).

On the matter of the LP/GP relationship, Mr. Kravis revealed that KKR had spent a lot of time surveying its LPs and was disappointed to learn that “our value creation message was not getting through,” even though KKR was delivering out-sized returns to its investors. “We now meet quarterly with our LPs to make sure they understand what we do,” said Mr. Kravis, further noting the importance for LPs to consider whether the GPs they’re investing with are the people with the right experience to limit their downside in a market like we’re currently experiencing.

Next to address the audience was Mr. Fang Fanglei, CEO of Hopu Investment Management and former chairman of Goldman Sachs Gao Hua China. Mr. Fang’s comments were directed at further clarifying the fundamentals of private equity and how it differs from other alternative assets. He commented, “Large institutions in China are creating focused investment departments, as they should, which differentiate private equity from other asset classes. There is a world of difference in terms of pricing, leverage, and the flexibility of operations. The name ‘alternative assets’ is unscientific and imprecise. Hedge funds should be segregated.”

Mr. Fang also felt there is a mismatch in the proportion of private equity within institutional portfolios in China relative to other asset classes, commenting, “PE has links to the real economy. It’s sustainable.” To illustrate his point Mr. Fang pointed out that in 2007 there were investments of over $300 billion in PE worldwide, far greater than global IPO proceeds, and of the 242 companies listed domestically in China, 40% were PE-backed, representing 32% of total financing raised.

The next panelists echoed earlier remarks, but went further in explaining the benefits of private equity for enterprises. Martin Halusa, Global CEO of Apax Partners, pointed to private equity as a “critical source of capital for smaller, growing enterprises who are generally locked out from commercial loans.” Mr. Wu Shangzhi, CEO of CDH Investments, noting the small presence of true buyouts and the more prevalent role of minority investing, stressed that “minority investments in these often closely held private enterprises can be very successful, provided there is alignment of interest between the GP and management.” All panelists agreed that private equity can play a crucial role in helping to integrate China’s value chain by supporting creative, innovative upstream enterprises.

Also on the panel were Mr. Yi Xiqun, CEO of Bluewhale, the fund management arm of Beijing Enterprises Holdings, and Mr. Tian Suning, Chairman of CBC Capital (investment arm of China Broadband Corporation). Both gentlemen made a plea for greater PE participation among Chinese institutions, warning of overweighting towards poorly performing treasury bills and the short term liquidity of equities. They also advocated greater progress in firming up the limited partnership structure and reinforcing the development of a business culture in China, work they noted had begun with the introduction of the Partnership Enterprise Law in 2007. Mr. Tian commented, “PE’s LP model offers several advantages to the corporate investment model. PE is predictable—it has a definitive timetable, rather than requiring results on a quarterly basis. It offers a superior mechanism for attracting and retaining talent. You get a team who is invested themselves in the outcome.”

Summing up the general long-term sense of optimism among the panelists, Mr. Yi concluded, “It’s hard to say what the impact of the global financial crisis will be. There will be another round of heat, but the sun will rise again.”

The Regulation of Private Equity – China in the Global Context

Speakers/Panelists

• Cao Wenlian, Deputy Director, National Development and Reform Commission
• Dixon Doll, Co-Founder and General Partner, DCM (and Chairman, US National Venture Capital Association)
• Shao Bingren, Chairman, Chinese Private Equity Association
• Mari-Annick Penino-Bernard, Director of Regulatory and Public Affairs European Private Equity and Venture Capital Association
• Huo Xuewen, Deputy Director Beijing Municipal Commission of Development and Reform and Director, Beijing Municipal People’s Government, Financial Services Office

This session focused on a broad perspective on regulation of private equity, both globally and in China.  The prestigious panel included key figures with keen insight into regulatory developments in China, the United States and Europe.  The panel highlighted three key policy issues to be addressed in China: (1) the loosening of investment restrictions on institutions to invest (pension funds and banks, as insurance companies are now allowed to invest in the asset class); (2) the need for clear direction on investment in monopolistic sectors (the premise being that an injection of third-party capital could revive stagnant industries; and (3) clearer differentiation in tax treatment for long-term private equity investment (i.e. not speculative).

Mr. Cao emphasized the gradual nature of reform in China and noted that policy changes alone would not guarantee that capital will flow to the asset class. He pointed out that the burden lies on fund managers to demonstrate the value of private equity investing and to focus on building trust with both limited partners and the public.  He also commented that the NDRC’s pilot industrial investment fund program was off to a rocky start but emphasized that the funds are independently managed, designed to the PE model and should not be considered to be “government vehicles.” Finally, Mr. Cao remarked, “It’s wrong to think we can assign a single agency to oversee private equity. It will require a combination of sector specific oversight and coordination with GPs.”  The group was in broad agreement, adding that self regulation as important. On this point, Ms. Peninon-Bernard said, “With self-regulation (in Europe), we’ve been able to increase the level of trust and therefore the amount of funding available. Self regulation also serves to raise a sort of barrier to entry to other (more onerous) regulation.

Mr. Doll explained how changes to U.S. policies over the years (including investment restrictions for pension funds, capital gains tax rates, etc. had spurred an explosion of job creation and innovation. “As the VC and PE models expand globally, many countries must now evaluate domestic investment policies in a global context,” he commented. And in concluding the session, in his role as the new leader of the government-sponsored China Private Equity Association, Mr. Shao stated, “We need to increase awareness and understanding about PE among government officials. Fundamentally, policies will be shaped by the government, not associations.” The entire panel agreed that ongoing efforts to educate all segments of the market – government, industry, investors, and the public – were critical to the positive evolution of private equity in China.

The Chinese Limited Partner – Global Perspectives for Domestic PE Investors

Speakers/Panelists

• Roger Leeds, Chairman, EMPEA
• Ji Guoqiang, Director, Equity Management Department of National Council for Social Security Fund
• Patricia Dinneen, Managing Director, Siguler Guff & Company
• Xiao Yanmin, Vice Director of Business Department, China Development Bank
• Martin Day, Managing Director, OMERS Private Equity
• Philip Bilden, Managing Director, HarbourVest Partners (Asia)
• Sander van Maanen, Partner, AlpInvest Partners

This 90-minute session, led by Dr. Roger Leeds, Chairman of the Emerging Markets Private Equity Association, was lively and interactive, both among the panelists themselves and between the panel and the audience. Four key issues were on the minds of the distinguished panel of institutional investors and funds-of-funds:

(1) The Western rationale for the LP/GP structure: Dr. Leeds briefly explained that most Western LPs responsible for managing a large, diversified portfolio of financial assets prefer to allocate the PE investing responsibility to specialized GPs, and remain as relatively passive investors in the PE funds they select. This approach is regarded as more efficient and generates superior results to the alternative of making direct PE investments on a case-by-case basis in individual companies. Although Chinese LPs have been less willing than their Western counterparts to be take a “hands-off” approach to involvement in GP decision making, there was general agreement that this is likely to change over time, conforming more to conventional Western standards.

(2) Chinese LPs increasing their allocations to PE. China is in the midst of a major PE transformation, including a strong push by the government to encourage higher levels of domestic currency financing provided by large local LP institutional investors to prominent local fund managers as well as many well known international PE fund managers. For example, in 2008 the government’s National Council for Social Security Fund made investments in two large Chinese PE funds, and indicated that this trend will continue. The Chinese LP panelists confirmed that they anticipate that the government will encourage other Chinese LPs to gradually follow suit. There was no indication by the panelists that the current global financial crisis would serve as a significant deterrent to additional PE investing in China, although there was general agreement that exits are likely to take longer to materialize, especially in view of the significant declines in both the Shanghai and Hong Kong stock markets (Chinese PE exits historically have been heavily weighted in favor of IPOs).

(3) LP fund manager selection criteria: Both Western and Chinese LP panelists agreed that the fund managers verifiable track record was a critically important selection criteria. In addition, fund manager teams with specific knowledge of the Chinese PE investment climate and business culture were strongly preferred. On the other hand, panelists expressed a variety of opinions on a number of other selection criteria, such as sector preferences, control vs. minority investing, and investment size.

(4) Western LP view of Chinese PE opportunities-the good and the bad: There was a broad consensus that allocations to China PE will continue to expand in view of (i) relatively strong macroeconomic growth and stability compared to other emerging markets, (ii) exceptional PE deal flow that is fueled in part by limited access to alternative sources of medium and long term capital for most private companies, and (iii) the growing recognition by government policy makers that private equity can play a constructive role in building value in worthy Chinese companies. Moreover, both Western and Chinese LPs expressed confidence that the government’s gradual transition to a market economy ids likely to continue, albeit with uniquely Chinese characteristics. On the other hand, a number of downside risks were noted by the Western LP panelists, including the continued regulatory uncertainties about fees, taxes and disparities between the treatment of foreign and domestic fund managers; a continued shortage of experienced Chinese fund managers; and concerns about transparency and the reliability of corporate information. Notwithstanding these concerns, the panelists generally agreed that conditions on all these fronts were gradually improving.

Leaders Share Lessons Learned from the Development of PE in Other Emerging Markets

Speakers/Panelists

• Sarah E. Alexander, President, EMPEA
• Paul Fletcher, Senior Partner, Actis
• Koenraad Foulon, Senior Managing Partner, Capital International
• Jeff Leonard, President and Founding Partner, Global Environment Fund
• Rob Petty, Managing Partner, Clearwater Capital Partners
• Chris Rowlands, Managing Partner, 3i Asia

In this session, leading emerging market private equity players from across the globe shared the lessons they had learned from over 75 years of collective investing in private equity deals in these markets. They specifically shared how China compares with other emerging and developed markets when it comes to PE investing, focusing primarily on the growth capital/minority deals in China compared to VC and LBO deals in the West. They noted the need for significantly more staff to handle emerging market deals compared to deals in the West, the reliance on IPOs versus trade sales which are more common elsewhere, and the frequency of proprietary, as opposed to brokered deals.

The panelists also noted a series of emerging-market specific risks for PE investors, which similarly would apply to China, including language barriers, legal frameworks, currency risk, and depth of management talent, among others, but emphasized that once these risks are identified and managed, emerging markets can produce better risk-adjusted returns.

All the panelists spoke passionately about how private equity investors can add value to portfolio companies, particularly in emerging markets, by providing not just capital but know-how, connections, seasoned management and best of class financial advice. Examples included Capital International’s investment in a local Russian beer maker that became a global player and merged with a leading German brewery; Actis’ investment in Celtel, an African cellular company that grew into a continental powerhouse and changed the telecom landscape in the region forever; 3i’s successful investment in China’s Little Sheep, a leading catering brand specializing in Mongolian hot pot cuisine that went public in Hong Kong in June of this year; and, Clearwater’s investment in an India truck spring manufacturer.

In concluding, all the panelists emphasized that private equity is a critical financing tool for growing companies, even more so now when other sources of capital such as long-term bank lending and IPOs are less – if at all —available. Private equity investors – foreign or domestic – can add enormous value in times of growth and in times of financial turmoil, providing not just critical long-term, patient capital, but also deep operational know-how to help build companies into industry leaders.

The Impact of the Global Financial Crisis on Private Equity in China

Speakers/Panelists

• Cherteck Quek, Managing Director New Horizon Capital
• He Xiaofeng, Chair, Department of Finance, School of Economics Peking University
• Zhu Shaoping, Leader from Financial and Economic Commission National People’s Congress
• Lin Xianghong, Chairman Suzhou Ventures Group
• Wang Guogang, Deputy Director of the Institute of Finance & Banking Chinese Academy of Social Sciences
• Lv Houjon, President Haitong-Fortis Private Equity Fund Management
• Xiong Yan, President China Beijing Equity Exchange

This session was conducted by leading Chinese academics and fund managers and focused on changes in store for the Chinese PE industry resulting from the global economic slowdown. The mood was somber, with general agreement that there were more short- and medium-term challenges than opportunities, but that the long-term opportunity for PE in China remains very bright. The panelist also agreed that sources of capital are more than adequate, but that sources of talent to manage these capital resources are woefully inadequate in present-day China. “If you have the right skills, you’ll lead the pack among Chinese GPs going overseas” (which most panelists believed was the ultimate goal for at least some segment of Chinese fund managers). As for regulatory developments, the view was shared that progress had been made but that barriers still remained. One panelist summed it up by stating: “At least we’ve opened the door.”

Global PE Forum Beijing 2009

EMPEA and its partners in China will soon begin preparations for the 2nd Annual Global PE Forum Beijing planned for late 2009. Please check back at www.empea.net for updates.

To print a copy of the session's abstract, please click here

back to top

back to upcoming events