This article first appeared in Personal Wealth, The Edge Malaysia Weekly, on May 30 - June 5, 2016.

After being the centrepiece of private equity (PE) activity for more than a decade, Southeast Asia’s good fortune as the most dynamic region for the asset class is beginning to wane. According to a study by Bain & Co, the total PE deal value in Southeast Asia plunged to US$4.2 billion last year from a high of US$7.5 billion in 2014 — about one-third of the five-year average — which the management consulting firm says is the region’s “worst showing” since 2004. 

Underpinned by macroeconomic uncertainties, rich valuations and stifling competition, PE activity remains restrained and the subdued climate is likely to continue, says Bain in its Southeast Asia Private Equity Report 2016. Deal counts fell to 43 last year from 59 in 2014. 

“As the current economic expansion nears its seven-year anniversary and signs of instability are beginning to appear, investors must weigh future recession risks and focus on adapting for tumultuous times if they want to realise significant returns,” Bain says in its media statement on the report. 

The last few years have witnessed the emergence of Southeast Asia as the focus of the Asian PE market. Funds, including the large global and regional platforms, investment holding companies and family offices have, increasingly, adopted the strategy of looking to the east to bolster returns. 

Bain says that a number of country-specific challenges also made it difficult to conclude deals on the ground. In Singapore, competition and a small pool of assets plagued investors. In Thailand and the Philippines, the uncertain political and economic environment did little to reassure PE funds while in Indonesia, Vietnam and Malaysia, sellers’ price expectations squeezed the deal count. 

The report notes that only Singapore and Indonesia bucked the trend in the region, making up 29 of the deals, or 90% of the total deal value. The report also says 30% of the PE deals were in the internet sector. The value of deals in the rapidly growing sector was 2.4 times higher than the previous five-year average. 

“Exit value improved, compared with 2014, but at US$6.7 billion was slightly below the 2010 to 2014 average. A bumpy initial public offering (IPO) market and volatile macro context also hindered exit activity, which was 35% below historical levels, except in Singapore, where activity remained mostly the same as the previous year. Investors in Southeast Asia spent much of 2015 hoping that it would be the region’s breakout year,” says Sebastien Lamy, who leads Bain’s private equity practice for Southeast Asia.

“While fundamentals in the region remain strong and sellers are increasingly opening up to the PE value proposition, PE funds could not put their capital to work as much as they wanted,” he adds.

Bain explains that it will take time before funds fully benefit from their developing networks, and the market sees manageable pricing, sustainable return stories as well as improved geopolitical conditions before momentum improves.

“Overall, PE funds believe that sellers are warming up to PE across the region. Bain surveyed 125 PE executives in Asia-Pacific and found that almost 38% of them believe they have a good or very good understanding of the PE proposition, and about 75% feel the PE environment is improving. Bain also sees a continuous shift towards ‘control’, with PE funds expecting to get control provisions in minority deals in almost half of the cases in the next two to three years for Southeast Asia, versus a third in the past two to three years,” says the report. 

Going forward, Bain says it will be tough for investors to achieve outsized returns as the market matures, volatility increases and the pool of potential targets remain small. 

About 70% of the respondents in the study expect competition for deals to either increase moderately or significantly. As a result, prices are on the rise — with an 11.5 times median enterprise value/Ebitda (earnings before interest, taxes, depreciation and amortisation) multiple on regional mergers and acquisitions transactions last year, compared with 9.6 times for the last five-year average. 

“PE funds need to be well-prepared to survive the inevitable bumps in the road ahead,” says Suvir Varma, who leads Bain’s private equity practice for Asia-Pacific. 

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