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Banking & Finance

China ripe for buyout deals as entrepreneurs retire

The trend gives foreign private equity investors new opportunities

Shanghai's Pudong financial district   © Reuters

HONG KONG -- Foreign private equity investors are finding more local entrepreneurs in China willing to cede majority ownership and control as they struggle to find successors in the family and business competition grows more global, various market leaders say.

Buyouts have accounted for 15.6% of the record $84.57 billion in Chinese private equity transactions this year, according to data through Thursday from Asian Venture Capital Journal Research. The transactions value, the highest in the past six years except for 2015 when Chinese stocks experienced an early bull run, indicates a trend that private equity managers anticipate will continue.

A major reason for the growing pipeline of these majority acquisitions, or control deals, involves the increasing number of first-generation entrepreneurs who are reaching retirement age but cannot find a successor.

"Their sons and daughters are not interested in carrying the torch," Jerry He, head of the Shanghai office at Stockholm-based EQT Partners, told a forum in Hong Kong on Wednesday.

The Shanghai office chief noted that many entrepreneurs in China started their business soon after the communist country enacted economic reforms in 1978.

"Now they are approaching [their] 50s and 60s," said He, suggesting that their tendency to look for buyers mirrored developments in mature markets.

Buyouts help scale up

But a new generation of ambitious entrepreneurs also has spawned takeover opportunities, said Paul Yang, KKR's head of Greater China, who noted that they are willing to give up ownership in exchange for more resources to expand their business.

"Founders of businesses are aiming higher," Yang said. These founders "realized that to be successful in today's economy, you need to be a much bigger player. And relying on themselves, they will never be able to grow at a speed required to get to the finish line."

Chinese companies increasingly see themselves competing in a global context, said Edward Huang, Blackstone's senior managing director.

"They are thinking about how to take things to the next level," Huang said. "A lot of them have actual real management needs, real system needs."

This need to professionalize their business creates opportunities for global buyout firms that can bring in operational expertise, Huang said.

Chang Sun, managing partner for China at U.S. private investment firm TPG Capital, said a changing mentality among Chinese entrepreneurs also has increased the opportunities for control deals. While the earlier generation tended to refrain from retirement, some newer entrepreneurs prioritize personal freedom above work.

"These younger entrepreneurs are successful, and they want to cash out," Sun said. "This gives you the opportunity for control."

But these control deals might be won by local giants such as BaiduTencent Holdings and Alibaba Group Holding rather than multinational private equity veterans. Such Chinese companies are making inroads, especially in the technology space.

Tech valuations inflating

Jean Eric Salata, chief executive of Baring Private Equity Asia, thinks deep-pocket players have disrupted valuations in China's technology sector.

"The tech sector in China is really going through kind of a bubble right now," Salata said. "It's quite a treacherous place to invest."

Many tech players in China trying to gain market share may not be operating rationally, the chief executive said.

"They have a lot of capital, and they are scaling -- and undermining the margins of the whole industry," he said. "So it's very hard to compete in that environment if you're not one of those well-funded large players. You need to be careful about price discipline."

Though control deals are usually considered more desirable than minority stakes, some investors are willing to forgo "control" in order to participate in China's growing technology sector.

"Sometimes we shoot ourselves in the foot to miss good technology-related opportunities for focusing on buyouts," said Weijian Shan, chairman and CEO of Asia-focused private equity firm PAG.

Shan said his company, by focusing on the "buyout-only" principle, almost missed out on investing in China Music Corp., which later merged with Tencent QQ Music to form the largest digital music copyright owners in China: Tencent Music Entertainment, which Tencent plans to spin off in an initial public offering.

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