Non-performing loans can provide sophisticated investors with solid returns at a manageable level of risk. But how keen are investors to take up the challenge? And which are the Far East's key markets for NPLs? Ricky Morton reports.
According to local practitioners, non-performing loans (NPLs) present one of the most intriguing investment opportunities in Asia today. A growing band of investors see this as a lower risk strategy to generate attractive returns in a region where successful control-seeking private equity investments are still difficult to pull off.
Last year, Ernst & Young reported that non-performing loan assets had hit the $2 trillion mark, as the amount of non-performing loans held by Asian financial institutions and governments had leaped by 33 per cent since 2000. The same report estimated investment capital to be approaching $100bn. Ernst & Young put the total level of NPLs at 29 per cent of the region's combined gross domestic product. The report described the nonperforming loan (NPL) problem in Asia as “having the potential to shape Asia's economic landscape for years to come.”
This kind of message is music to the ears of buyers of distressed debt. These specialists aim to do business with the region's banks and governments, which are often required by regulators to dispose of below investment grade debt, even in cases where the business of a borrower in question appears viable. Even lenders that are permitted to hold distressed assets can become sellers if they lack the resources to manage the typically complex distressed debt situations, or because they are overly pessimistic about the chances of recovery. Consequently vendors, even when driven by non-economic factors, are often willing to sell at deeply discounted levels in order to clear their decks.
At the height of the Asian economic crisis in the late 1990s, distressed debt funds were achieving realised returns of 30 to 40 per cent in a market where competition for the best deals was minimal. Although not at the same level, the prospect of good business remains. “In the current environment, it is possible to achieve returns of around 20 per cent with a fairly steady risk strategy,” says Justin Ferrier, senior vice president at ADM Capital, which manages distressed debt worth in excess of $130m.
Most active in the Asian distressed market are the international investment banks, although there are also a number of US specialist investors active in the region, such as Texan-based alternative asset manager Lone Star, which invests through its Star Asia-Pacific unit, Ripplewood Holdings, Cerberus, Avenue Capital, and real estate specialist Colony Capital.
Avenue Capital, the New York-based asset manager with offices in Bangkok, Jakarta, Hong Kong and Tokyo, is currently in the process of raising Avenue Asia Special Situations Fund III, which is seeking $500m from US and European institutions for investment in Asia excluding Japan. “We buy senior, secured, restructured debt at 50 cents on the dollar,” explains Marc Lasry, founder and managing partner of Avenue, the firm's strategy. “We're not trying to buy the bank debt and then get control of the company. We're comfortable owning 10 to 20 per cent of the issue and having a say in the restructuring.”
Japan, which was the first market to open up to distressed buyers in the early to mid 1990s, accounts for around 80 per cent of the $20bn currently invested in distressed opportunities, although this level has been in decline since 2000 as many of the country's NPLs have been sold. According to Ferrier, “one of the difficulties of the market in Japan stems from the higher level of saturation in the market, resulting in a disparity between vendors and buyers.”
Taiwan, with a surfeit of banks only matched by an abundance of NPLs, is presently the biggest market in Asia, spurred on by the government's attempts to put forward reforms to avoid a banking crisis. According to data gathered by the Asian Wall Street Journal, there is around $30bn of NPLs for sale in Taiwan's banking sector. Last year, Taiwan's First National Bank sold a $2.1bn portfolio of non-performing loans to a consortium comprising Lone Star, Cerberus, GE Capital and TAMCO. “Right now Taiwan is the most active market in the region,” says Brian Cheung, partner at the corporate finance and recovery unit of PriceWaterhouseCoopers in Hong Kong.
Practitioners also cite Thailand, Indonesia, the Philippines and South Korea as particularly promising markets at present. According to data from Ernst & Young, non-performing loans in Indonesia and Thailand account for 34 and 40 per cent respectively of GDP.
But in terms of future potential, China is seen as an even more promising market than Taiwan. “Although quiet last year, China also presents a key opportunity going forward,” says Cheung, “especially given its entry into the World Trade Organisation and the opening up of its banking sector, which will require lending banks to reform their NPL situations.”
As this market evolves, the potential for outsize returns is likely to diminish, although this is not expected to happen any time soon. “There has been a significant increase in the number of deals in Asia over the past twelve months, and the market looks set for further growth,” says Cheung at PWC. “Our view is that there is an opportunity for the next three years,” says Lasry. “As we get more familiar with the legal structure of the Asian market, we will most likely move down the capital structure, although while you can buy senior secured debt at 25 to 50 [cent on the dollar], there's no point in going lower.”
Nomura, Tokio Marine lead largest Japanese buyout
Nomura Holdings and Tokio Marine & Fire Insurance are set to complete Japan's largest management buyout to date, backing a $422m deal to acquire Wanbishi Archives.
Tokio Marine Capital and Nomura Principal Finance have agreed to jointly set up an investment fund to purchase the information management service business. The company is being bought from a consortium of banks, which acquired it from Kenzo Higuchi. The government's Development Bank of Japan and Wanbishi's management are also expected to provide capital for the deal.
Wanbishi provides document storage and delivery services and also operates petrol stations, food services, restaurants and convenience stores. It consists of two entities, Wanbishi Archives and Wanbishi Industries. Wanbishi Archives started in the document storage industry and developed into a company specialising in information security management and delivery services of confidential data.
Wanbishi's senior management are to stay at the firm following the buyout, with representatives of Nomura and Tokio also present on the company's board. The company is looking to launch an initial public offering within five years.
Founded in 1991 as the private equity investment vehicle of the Tokio Marine and Fire Insurance Group, Tokio Marine Capital is an active investor in both mid-sized buyout transactions as well as venture capital transactions.
Gabriel Li returns to Carlyle
Gabriel Li has rejoined The Carlyle Group as a managing director for its Carlyle Asia Venture Partners arm, where he will work alongside current managing director Tony Jansz. Li was a director with Carlyle Asia Venture Partners before leaving to become a managing director at Robertson Stephens in San Francisco, where he co-managed a fund that invested in public and private technology companies.
Li will focus on investments on technology related opportunities in the semiconductor design and manufacturing, display, and wireless device sectors in China, Taiwan, Korea, and India.
Carlyle Group has two venture funds in Asia: Carlyle Asia Venture Partners I, a $159m fund that is fully invested, and Carlyle Asia Venture Partners II, a $170m fund that was launched in mid-2002.
Silver Lake in $200m PIPE deal
Silver Lake Partners has agreed to invest $200m in technology equipment provider Flextronics in a PIPE deal.
Flextronics, which is headquartered in Singapore, provides electronics manufacturing services to technology companies. The company also offers design, engineering, and logistics services. It had fiscal year 2002 revenues of $13.1bn.
New York-based Silver Lake Partners is a private equity investment firm focused on large-scale investments in technology and related growth companies. The partnership seeks to invest in enterprises with market values ranging from $100m to in excess of $1bn. The professionals of Silver Lake work closely with a network of technology industry executives who analyse industry trends, build management teams, and add to the firm's portfolio companies.
British CDC buys Bangladeshi power assets
CDC Globeleq, the emerging markets power company funded by CDC Group, which is owned by the UK government, has agreed to contribute $127m in cash to acquire two Bangladeshi energy units owned by AES Corporation.
The deal, which has a total value of $437m including equity and assumed debt, is for two combined cycle gas turbine plants located close to Dhaka, the Bangladesh capital. Haripur, a 360-megawatt plant, started generating power in 2001 and Meghnaghat, a 450-megawatt plant, became operational at the end of 2002.
Backed by the World Bank, Asian Development Bank and Government of Bangladesh, the projects together represent 25 per cent of the country's generating capacity.
This investment follows CDC Globeleq's acquisition, in December, of power generation plants in Tanzania and South Africa from AES. The move is the latest stage in the company's plan to become the leading operator of power in the emerging markets.
As part of the deal, CDC Globeleq will take over AES's commitment to provide more than $1m funding for the construction of a new hospital, a school and a bridge.
Bayard raises A$100m for Australian PE fund
Cameron O'Reilly, the son of Irish media entrepreneur Anthony, has secured backing for a A$100m fund targeting buyout opportunities in Australia.
O'Reilly, the former head of APN, has invested around A$5m of his own capital. The fund will make investments in private and publicly listed companies in the Australian and New Zealand industrial sectors. According to O'Reilly, it will target old-fashioned industries, steering clear of high-tech investments.
In addition to a sizeable investment from his father, O'Reilly has secured commitments from a broad range of international investors including Temasek Holdings and media chiefs Kerry Stokes and John B. Fairfax.
Two exits for BPEP Asia
Hong Kong-based Baring Private Equity Partners Asia (BPEP) has exited two Chinese businesses in transactions which BPEP said resulted in internal rates of return of 35 per cent and 42 per cent, respectively.
The firm netted a multiple of 2.2 times its capital in an investment in Chinese wireless application provider Newpalm and three times equity in Netease, a Chinese Internet portal providing content, e-commerce, and community services.
BPEP originally backed Newpalm in October 2000, when it led a $15m round of investment in the company. The firm's investment in Netease occurred in December 1999. At the time of BPEP's investment, both companies had less than $1m in revenue. Both companies now approach $12m in revenue per year.
“Both of these recent exits are from companies that have benefited from the strong growth in mobile messaging in China, and both companies have been led by excellent founders,” said Jean Salata, a managing partner at Baring Private Equity Partners Asia, said in the statement.
Grant Samuel, Quadrant to sell Tasman
Australia-based private equity firms GS Private Equity and Quadrant Capital have appointed Caliburn Partnership to oversee the sale of Tasman Building Products, which manufactures insulation and roofing products in Australia and New Zealand.
GS and Quadrant had originally planned an initial public offering for Tasman, but the decline in the public markets has made this less viable.
The group has been a strong performer since it was acquired by Quadrant, GS Private Equity and AMP Private Equity in 1998. Tasman reported EBITDA last year of $35m. Estimates put the company's value at up to $250m.
In mid-2001 the business was releveraged after AMP decided to realise its investment early. GSPE's second fund invested a further $23m to increase its stake to 54 per cent. At the time the company was valued at $142m.
Reports in Australia suggest the company could receive bids from other possible buyers including GWA, Alesco and Crane Group's Tradelink. Australia's largest building materials group CSR is also thought to be considering a bid.
Sumitomo, Walden back Beijing telco business
US private equity firm Walden International has joined forces with Japan's Sumitomo Corporation to invest $20m in United Platform Technologies (UP Tech), a Chinese telecoms equipment business based in Beijing. Walden, investing through its Pacven V fund, will contribute $17.5m, while Sumitomo Corporation, together with its US-based VC business subsidiary, Presidio Venture Partners, committed approximately $2.5m.
UP Tech was set up late last year and produces and manufactures equipment for the domestic market in China. China's telecom market remained monopolised by China Telecom until December 2001, when China's entry into the WTO triggered the opening of its markets to competition.
In May last year, China Telecom was divided into China Telecom and China Netcom, and the fixed-line backbone network has been shared and operated by the two carriers.