The outlook for Asia Pacific private equity deal making is growing increasingly gloomy, according to Bain & Company.
The global management and consulting firm said Friday that fundraising fell sharply last year and worries are rising about overheating investment in Chinese innovation. On top of that, U.S.-China trade tensions, rising interest rates and growing competition among large and small funds are worrisome headwinds, Bain said Friday in its Asia Pacific Private Equity Report 2019.
In particular, it warned that private equity investors are increasingly on guard about China's internet-based "new economy" sector, described as a "speculative bubble" that may burst.
The Chinese new economy is commonly defined as companies riding the wave of the expanding mobile internet, such as online shopping platforms and other web-based services including ride-hailing, food delivery and online financial services.
Private equity has grown sharply in Asia Pacific over the past decade and is assuming a larger global role, according to Bain.
The region now boasts $883 billion under management, and accounts for 26 percent of the global private equity market, Bain said. That's up from just 9 percent only 10 years ago.
But while 2018 was a record-breaking year in the region — in terms of the value of deals, which hit $165 billion — overall fundraising declined more than 50 percent to $75 billion, Bain said.
"Over the last several years, private equity in Asia Pacific seemed to be unstoppable, and 2018 reinforced that trend in terms of record-breaking deal and exit values," Kiki Yang, Bain's co-head of Asia Pacific private equity and co-author of the report, said in an accompanying release.
"But we're seeing warning signs that suggest the party may be coming to an end, at least for some investors," Yang said.
Last year, exit values in Asia Pacific hit a record high — but the total number of exits declined sharply, even as larger deals dominated. An exit in this case is when a private equity firm leaves an investment position by selling a business or a stake in a company in which it's invested.
"Large, experienced (private equity)-owned companies racked up the vast majority of successful exits and dominated total exit value, while smaller companies had increasing difficulty finding buyers," the report said.
For example, Bain said, exits involving companies sold for under $100 million dropped 58 percent last year, while those in excess of $500 million increased 26 percent.
"With the risk of global recession and other macro-economic challenges, we expect the market for exits will only get tougher," Yang said.
The report also highlighted risks emanating from China's surging internet and technology sector, often referred to as its new economy.
Bain said that average deal size in that sector increased to $213 million last year, from $30 million in 2013.
"The huge volume of private equity and venture capital flowing into China's new economy has over-saturated the lower end of the market, prompting investors to seek larger investments," the report said.
It also cited difficulties in evaluating Chinese internet and tech start-ups by traditional metrics such as earnings and cash flow.
"The uncertainty hanging over China's new economy will test the industry's resilience and creativity," the report said.
"Nearly two-thirds of Greater China private equity investors we surveyed see a high to very high risk of the speculative bubble bursting in the coming years," it added.