At last, after 15 long months on lock-down, China’s stock markets have opened their doors to new IPOs.
Pressure has been building on GPs in China to start making exits and returning money to investors; but since the China Securities and Regulatory Commission put a halt on new listings in the second half of 2012, very few have been able to realise their investments.
There were precisely zero IPOs reported in China in the first half of 2013, compared to 100 IPOs totaling $10.6 billion in value during the same period in 2012, according to data from Thomson Reuters.
But, on 2 January 2014, 11 mainland companies were approved for public listing on the Shanghai and Shenzhen stock exchanges, according to local media reports, with a further 50 new issues also expected in January.
The developments should, in theory, be welcome news for GPs – who recognise that the exit jam has been making China (and therefore their own firms) steadily less attractive to LPs.
But as far as private equity is concerned, the impact of this re-opening will be mixed, says Jack Lange, a partner at Paul Weiss in Hong Kong.
“The capital markets opening up again [bring] pros and cons from the funds’ perspective. When the capital markets are not really available to prospective targets, it doesn’t stop funds from investing. They view it as an opportunity – attractive targets will often end up coming to private equity funds because they can’t access the capital markets at that time,” he explains.
Some GPs have already been voicing their concerns in even stronger terms. “[China’s] biggest risk in 2014 is the opening of the IPO market,” Derek Sulger, partner at Shanghai-based Lunar Capital, said at a recent industry event.
“We fear momentum in China. If 30 IPOs are hot, the index soars and retail decides equities are hot, then that’s a challenge for private equity.”
In particular, it creates difficulties around valuations – since frothy public markets used as a benchmark tend to push up prices for private equity.
Equally, although IPOs have long served as the preferred route for private equity exits, their performance is questionable even when capital markets are open.
On China’s stock exchanges, private equity-backed listings have in recent years failed to outperform the overall market: from January 2011 to December 2013, listed companies without private equity involvement actually performed better than those with private equity involvement.
Of all listed companies in China without private equity backing, 52 percent ended the two-year period above the closing price from their initial listing day, according to research by PEI using Thomson Reuters data – whereas during the same period, 51 percent of private equity-backed listed companies ended up trading higher.
Nevertheless, since most stakes held by private equity in China are still minority positions, firms do not always have the luxury of exiting via a trade sale. And a potential IPO would still be preferable to a secondary sale, Paul Weiss’ Lange believes.
Therefore, the question of whether China’s IPO reopening counts as good news or bad news largely boils down to whether you’re predominantly trying to buy or sell.
As Lange puts it: “It really depends where you are in your investment cycle or fund life. The private equity business model depends to a certain extent on the capital markets being cyclical, and that cyclicality is one of the things that drives the whole industry.”