Ripple effects

As emerging Asian economies struggle with declining exports and an economic slowdown, private equity firms risk some fallout, writes Siddharth Poddar.

Private equity firms investing in Asia are now facing a predicament – portfolio company business models based on a thriving export market and robust domestic consumerism may be in tilt. 

A large part of emerging Asia’s relentless and impressive economic growth was due to its soaring exports. As economies in the West have been engulfed by the effects of the financial crisis, the demand for Asia’s products has declined and exports from most Asian economies have fallen, having an impact on many industries in the region. As such, one of the key investment themes for private equity players does not seem as viable as it once was – that of investing in export-driven industries.

Private equity firms invested heavily in companies that took advantage not only of increasing disposable domestic incomes, but also of rapidly increasing global demand for goods. One such example was the 1999 buyout of Korean auto parts maker and exporter Mando from Halla Engineering and Construction, a Korean construction group, by Affinity Equity Partners and CCMP Capital Asia. The firms sold the company back to Halla in early 2008 and the exit fetched them five times their original investment. 

Despite slowed global demand, Asia remains home to about half the world’s population, with more than 2 billion people living in China and India alone. The domestic markets in these two countries are in theory large enough to sustain businesses, however domestic spending is low. In China, for example, consumer spending stands at just 36 percent of gross domestic product, according to the Economist.
Like Western countries, the consumer spending problem is something that many Asian governments hope to counteract.

In November 2008, the Chinese government announced a domestic stimulus package of 4 trillion yuan ($584 billion) aimed at stirring domestic demand and consumption. The Indian government has taken initiatives to boost domestic spending as well. Other countries, like Australia, Japan and South Korea, have announced stimulus packages and public spending programmes to encourage consumers.

While onlookers hope these governments succeed in reinvigorating their economies, private equity firms particularly stand to benefit if domestic demand and spending increase. An increase in demand domestically will by itself provide a growing market for companies and will to an extent soften the blow they have experienced from declining exports.

If domestic demand does not increase, there will be fewer opportunities for private equity firms’ portfolio companies to exhibit growth and subsequently, a lower likelihood of them making lucrative exits. However, once domestic demand and spending increase, private equity firms will again become more comfortable investing in the region.