Fears grow over bubble
Although the private equity market on the mainland has maintained the momentum for sustainable growth, analysts express concerns over a possible bubble and the 'quick-flip' strategy - purchasing an undervalued property and selling it immediately at a price below market value - adopted by some players - which may have an adverse effect on the market.
Last year, the number of private equity deals exceeding US$10 million each surged 18 per cent to 437 transactions compared with 2010. Fifty deals were worth more than US$100 million each compared with 47 in 2010, according to David Brown, Greater China private equity group leader at Pricewaterhouse Coopers.
'The overall value of the US$100 million-plus deals increased by 33 per cent to US$20 billion and the US$33 billion of overall capital invested was a record,' he says.
'Private equity fundraising also reached a record high in 2011, with investment in China amounting to US$39 billion. Yuan funds accounted for 60 per cent of the total, continuing the trend in the previous two years.'
Bob Partridge, private equity leader for Greater China at Ernst and Young (E&Y), echoed Brown's view.
'The continual expansion of the private equity market in China reflects the vast abundance of deal opportunities, receptivity by the regulatory authorities, and significant available capital for such investments. The capital also reflects the growth in the raising of local yuan funds as domestic vehicles to facilitate private equity-types of investments,' Partridge says.
The development of the domestic mainland private equity sector has become a key trend, Brown believes. 'Many domestic players compare favourably with their more established global peers. That said, more than half of the 10 biggest China private equity deals in 2011 were conducted by overseas private equities which continue to play an active role.'
Although many private equity funds tread carefully, the strong demand for capital will continue to drive investment activity. 'For 2012, we cautiously predict single-digit growth for larger private equity deals, such as those over US$10 million each,' Brown says.
Brown expects to see some consolidation in the sector as less sophisticated domestic private equities, including those relying on a 'quick-flip' initial public offering strategy, may begin their withdrawal from the market.
'Exit by IPO will remain the preferred route, but the turbulent capital markets could result in a small decline in private equity-backed IPOs this year. We also see an emerging trend of private equities looking to raise yuan-denominated funding for investment overseas,' Brown says.
'The industry will probably experience a bubble. There needs to be consolidation and evolution towards a conventional global private equity model, for instance, holding for medium-to long-term, adding value to portfolio companies, and getting away from the more short-term and speculative model adopted by some new players.
'The established Chinese private equities understand this and have already adopted many or most of the best practices developed in overseas markets.'
Partridge says China's private equity market has evolved as a growth capital market, rather than buyouts.
'The Chinese government continues to recognise the importance of investing by private equities and venture capital funds to the overall capital markets environment,' he says.
Poor quality private equities and insufficient diligence are among the challenges in the Chinese domestic private equity sector, Brown says.