*Figures exclude add-ons, grants, mergers, secondary stock purchases, and venture debt.
As the number of new coronavirus infections in China dwindles and businesses begin to resume trading, local private equity & venture capital (PEVC) fund managers say they expect deal activity to recover in the coming months.
The coronavirus pandemic, which started in the city of Wuhan in Hubei province about three months ago, has roiled the world’s second-largest economy. In January and February retail sales fell by 20.5% compared with the same time last year, while industrial output slid by 13.5% and fixed-asset investment dropped by almost a quarter, according to the country’s National Bureau of Statistics.
The volume and value of PEVC deals tumbled during this period, Preqin data shows. Venture capital deal activity was especially hard hit: aggregate deal value plunged by 63% to $2.8bn, while the number of deals more than halved, from 564 in Jan-Feb 2019 to 241 in Jan-Feb 2020. Deal activity in the private equity-backed buyout market, which is smaller by comparison, was also reduced. Aggregate deal value fell by 57% to $0.3bn, and the number of deals slipped from nine to just six when comparing the same periods.
This sharp drop in PEVC deal activity in the first two months of the year reflects disruptions to business rather than a sudden change in investor sentiment, fund managers interviewed by Preqin said.
“Most business trips in the private equity sector are postponed due to the virus,” said Ivan Fung, Senior Investor Relations at Hangzhou-based private equity firm TTGG Asset Management Group. “Fundraising and deal activity will slow down.”
That said, as China’s economy starts to shift into recovery mode, fund managers are looking ahead to the second half of the year, when they see business picking up further. Indeed, Fung said that he expects deal activity to rebound in the third quarter of 2020. After all, China’s economy has endured the effects of an epidemic before, and bounced back, he noted.
“During the SARS epidemic in 2003, imports and exports remained stable, and GDP growth recovered rapidly,” Fung said. “Much of the reduction in offline sales will be substantially offset by an increase in online purchases. In 2003, Alibaba seized the opportunity and turned into the largest e-commerce platform. Now, e-commerce is seeing explosive growth again.”
There are some positive signs which indicate that the Chinese Government’s efforts to contain the virus are paying off. The number of new coronavirus cases has dropped from several thousand a day – when the outbreak was at its worst – to 40 cases as of 8 March. And for the first time in more than two months, there are no new confirmed coronavirus cases in Hubei province. State planning officials now say they expect the economy to return to normal in the second quarter.
In the meantime, fund managers say that they are focused on helping their investee companies to weather the storm.
“Before the Lunar New Year break, we started monitoring the cash flows of our portfolio companies by analyzing their term sheets, due diligence processes, and capital demands,” said Wei Zhou, Founder & Managing Partner at Beijing-based venture capital firm China Creation Ventures. “Where we identified funding demands, we proposed customized suggestions.”
“Our key to dealing with the virus is to make sure our portfolio companies are adaptable to new methods of operation and being creative in delivering solutions,” he added.
Sean Ham, Head of Asia Pacific, Client Relations and Capital Raising at global private equity firm EQT, highlighted the importance of digitization in boosting operational resilience.
“We have focused on digital transformation for more than five years, on the path of future-proofing EQT as a firm,” Ham said. “With a large, in-house digital team, we have been able to implement these efforts, digitizing both the portfolio companies throughout all the investment processes, and also ourselves as asset managers even before we apply to our portfolio companies.”
“EQT now runs on a fully cloud-based architecture where employees can work together anywhere outside the office, limiting the impact of current virus situations. It is interesting to see how people have adopted the new technology in our conventional and traditional industry, and more so during this time of crisis. We have seen it all: from our people rejecting and showing reluctance toward the new systems, to fully utilizing and embracing the new tools which are improving efficiency across our firm.”
Looking ahead, fund managers said that they believe China’s PEVC industry is well placed to thrive – even if current market conditions are challenging.
“Private investments such as early and growth stage as well as LBOs in general aim for long-term value creation, so target assets are not that sensitive to short-term news or market movements,” said Meng Zhou, Director at Hong Kong-based investment firm NF Trinity Capital. “These companies can also do things that public companies cannot do, given that they do not have to answer to thousands of shareholders on a quarterly basis. As such, I have not seen any major impact on valuations or sentiment in the private market.”
“Certain specific situations may see some negative effects, such as a retail sector investment that is going to IPO very soon,” he said. “I am not worried about the virus for now. However, if it continues for months or years, then obviously it will have a huge impact on private markets as well. But that would be a global disaster – valuations would be the least of our concerns.”
Steven Wang, Founder & CEO of Shanghai-based venture capital firm HighLight Capital – which focuses on healthcare industries – noted that the sector had remained robust even during the crisis period.
“As the Chinese Government places more importance on the healthcare system and focuses its efforts on accelerating cutting-edge medical technologies, we are confident of the long-term potential of the healthcare sector in China,” Wang said.