As governments around the world grapple with how and when to relax lockdown measures, parts of China have already returned to work. For the country’s private equity market, ‘business as usual’ is a complicated picture.

For the past decade, private equity capital has flowed into China’s New Economy – a loosely defined collection of sectors related to the country’s digital revolution and domestic consumption. Examples include advanced manufacturing, e-commerce and healthcare.

Investors note these sectors have produced some outstanding returns relative to the rest of Asia. They have also accounted for the vast majority of Chinese private equity investment since 2010.

As the New Economy has matured, momentum has slowed: investments into Chinese tech and internet assets dropped 42 percent last year to $30 billion, according to Bain & Co. Return multiples from exited New Economy assets fell to a median of 2x from 2017 to 2019, compared with 4x for investments exited the previous three years.

The New Economy is, to some extent, a victim of its own success. The emergence of market leaders such as TikTok or WeChat has left little room for competitors and driven up the incremental cost of growing customer bases.

Competition for New Economy assets has also prompted valuations to soar but, as in much of Asia, distributions haven’t matched up – an issue exacerbated by diminished appetites for IPOs. The resulting discrepancy between unrealised value and distributions has unbalanced some LP portfolios, which in turn impacts new commitments to funds.

Those with significant unrealised value in their portfolio might have less confidence in these figures  following the recent sales fraud scandals at US-listed Luckin Coffee, the posterchild of Chinese private equity, and TAL Education.

Many of those on the fundraising trail have found the process a slog in recent years, with the universe of potential LPs shrinking due to fractious international relations, heightened scrutiny of Chinese technology and a public relations beating from events in Hong Kong and Xinjiang.

While a sharp decline in TVPIs resulting from the recent pandemic might – counterintuitively – prove a welcome respite for investors sweating over their exposure to the region, there’s also the risk it prolongs holding periods even further as deal activity slows or GPs wait for a better price.

Firms may look to Asia’s secondaries market to unlock their distribution problem. Beijing’s Kinzon Capital, for example, this year executed a yuan-to-dollar restructuring involving seven assets to return a significant chunk of capital to existing LPs while continuing to manage the assets, as sister title Secondaries Investor reported.

Meanwhile, advances in technology mean the opportunity set and pool of potential customers is ever-changing; what’s considered to be New Economy now could be as antiquated as the locomotive steam engine in the not-too-distant future.

With geopolitical tensions high, questions over the veracity of sales figures in the aftermath of Luckin and TAL, and market penetration at a ceiling, at least for now, the golden age of Chinese private equity appears to be dimming.

Write to the author: alex.l@peimedia.com

Read our Deep Dive into the problems with China’s New Economy in our May issue.