The only data point that matters?

Fundraising and deal activity were both down again in Asia last year – but other data points paint a more optimistic picture. How can LPs work out who’s really winning?

At first glance, end-of year deal and fundraising figures don’t bode very well for the state of private equity in Asia as we enter 2014.

Total fundraising in the region (including RMB funds) fell to $27.6 billion last year, according to PEI’s Research & Analytics division. That’s slightly below the $29 billion raised in 2012, but way down on the $62 billion Asia-focused GPs accumulated in 2011. Some argue that this is due not only to the (relative) slowdown in China, but also its unsatisfactory historical returns: CPPIB’s president Mark Machin is just one notable example of an LP who believes China has disappointed relative to developed markets.

On the deal side, meanwhile, Asia-Pacific private equity-backed transactions were down 17 percent year-on-year to $26.4 billion, according to Mergermarket, continuing a decline that began in 2011.

On the other hand, other data points from the region paint a far less gloomy picture.

A recent Ernst & Young study, for example, suggested that investor confidence was high: 76 percent of respondents felt that 2014 would be a year of vigorous deal activity in Asia.

Equally, proprietary data from Hamilton Lane suggest that talk of disappointing returns is wide of the mark. Asia funds with vintages 2005-2008, i.e. those that have had sufficient time to invest their capital and harvest at least some of their portfolio, have the highest total value to paid-in capital (TVPI) of any funds globally – 1.32x, compared to 1.28x for US funds and 1.15x for European funds. And China funds were by no means laggards: they recorded a TVPI of 1.30x.

On the fundraising front, some argue that we’re just seeing a flight to quality, where the best firms raise money easily and the also-rans struggle to hit their targets (unlike a few years ago). That’s arguably a positive development for the industry.

(It’s also worth pointing out that the transaction totals can’t necessarily be taken as read; we asked five data providers to supply us with transaction totals, using exactly the same criteria, and the answers varied substantially; one even reported a year-on-year increase.)

With all this conflicting data around, it makes it even more difficult for LPs to identify top performers. When the benchmarks aren’t clear, it’s easier for firms to cherry-pick the data that show them in the best light – by arguing that their numbers are good relative to the conditions, for example.

At this week’s HKVCA Asia Forum in Hong Kong, Weijian Shan, chairman and chief executive officer of PAG Capital, suggested a different way to think about this question.

Shan is a trained economist; prior to PAG he was a professor at the Wharton School of the University of Pennsylvania, and he also has a higher degree in economics from the University of California at Berkeley. But his speech didn’t draw on the various data points to produce an analysis of the state of play in Asia, as you might expect from an economist.

Instead, he suggested an easier way for LPs to think about private equity performance – a data point to trump all others.

Shan began by pointing out that the single most important factor in private equity outperforming public markets is leverage. Leverage amplifies returns when markets are up, he said; but when markets are down, as they mostly have been in Asia lately, it also exaggerates losses.

Therefore: “the true test of a private equity firm”, he said, is whether it can generate cash for investors in a down market.

Of course, he would say that: his firm just returned $1.1 billion to investors in 2013. But there’s surely a valid point in there: at a time when the market data is so jumbled, the one thing you can’t really argue with is cash in hand.