Business Services: Take Private Opportunity in Asia

PE and corporate investors have been significantly impacted by travel restrictions imposed by governments round the world. Critical on-site and face-to-face due diligence has been hindered and many investors have hunkered down focussing on their existing portfolio or closing only those deals that were already in advanced staged at the time the lockdowns hit Asia. 

But with $400bn in dry powder targeting PE investment across Asia, many players are eager to get back into deal making mode. Take privates and private investments in public entities (‘PIPE’) have become a viable source of potential deal flow since much of the DD can be done based on public data without direct access to the target.

In a previous paper, we explored the opportunity for take privates and PIPE’s across the consumer sector (click here for consumer take-private paper). In this new paper we repeat the exercise but look at the business services sector which consist of a wide range of subsectors, including commercial, industrial and technology services (click here for business services take-private paper). 

Many PE and corporate investors are attracted to business service companies given several favourable industry and market trends and attractive features of their business model:

• Continued trend towards outsourcing of non-core services and functions;
• Strong margins resulting from efficient service delivery driven by benefits from scale, focus and technology;
• Long-term customer relationships with recurring revenue base;
• Attractive growth prospects, both organic and via acquisition;
• Benefit from tailwinds in regulatory complexity and/or advancements in sustainability and efficiency

The fortunes of different business service players has varied markedly throughout the COVID-crisis with some players being impacted severely as services delivery become impaired by lockdowns and budget pruning and others benefitting strongly from changes in customer behaviour and channel dynamics caused by the pandemic. 

Asia's Business Services Landscape

Asia is home to over 4,000 public companies across the business services sectors. This represents over 60% of all listed companies globally in the business services space.  In terms of market capitalisation, Asian companies represent only 29% of the global total behind North America whose companies represent around 56% of the global total pushed by several tech behemoths such as Microsoft, Adobe, Paypal and Cisco.

Within Asia, Japan has the most listed companies in the business services space, followed by China, India and South Korea. In terms of market cap, China represents almost half of all public consumer company value in Asia, followed by Japan with around 20% share.

Size matters: addressable target pool

Not all listed companies are suitable candidates for take privates. PE firms have capital to deploy and a minimum deal size is required to make the effort worth their while. At the same time, some of the largest players are out of reach of even the biggest funds.We have banded the players in terms of 2019 EBIDA excluding al players with EBIDTA below US$1m and greater than US$50m. Likewise we have also excluded players with a market cap below US$10m or greater than US$500m. 

By applying the filters above, we remain with ~1,700 companies that could be potential targets for PIPE or take private deals in Asia; this is around 40% of the total listed consumer companies in Asia. Roughly a third of these has an EBITDA of US$1-5m, which could be a suitable for smaller funds; ~50% of the addressable set has an EBITDA of US$5-20m which puts them in the sweet-spot for a typical mid-cap transaction; the remainder consist of companies with an EBITDA of US$20-50m which takes it into the territory of the larger regional or global funds.

With 1,700 companies in the pool, how do we narrow down to a more manageable set? PE’s, like most investors, don’t like to pay more than the prevailing market rate. Better still, they are looking for value creation opportunities that result in significant exit multiples down the line. 

One way to identify candidates for take-privates and PIPE’s is to look at the P/E ratio and categorise and filter out players with premium pricing or, potentially, negative P/E rations. We segmented the pool of companies in four categories based on their P/E ratio which then allows us to hone in on specific subsectors.

Sector or Country Themes

Many PE investors have clear sector or country mandates for investment. Looking across the landscape we can see clear differences in valuation levels by consumer sub-sector and country. 

Advertising and marketing agencies, data processing firms and home builders command the highest valuations.  Japanese players like Eole, Kufu, Ceres, Genday, Adways and many others are amongst the highest valued companies in the advertising and marketing services category. Many of these companies have revenues in the US$50-150m and many have seen performance deteriorate over the past year with reporting significant decline in earnings. Valuation have however remained relatively high suggestion optimism for business recovery post-pandemic.

At the lower end of the spectrum we see many oil and gas related businesses including oilfield service providers, contract drilling and oil and gas pipeline operators. The reduction in oil demand as a result of the economic slowdown and the increasing trend toward renewables has put significant pressure on these business and valuations have declined as a result.

The highest valuations are found in China, reflecting the large addressable market and relatively strong growth prospects. But compared to other sectors, the differences in valuations across Asian markets are less pronounced in business services with Japanese and Taiwanese players recording similar valuation levels compared to their Chinese peers. Partly this reflects that many business service players are less easily scalable without adding human resources for service delivery or asset investments. Hence the big China premium that we can see in the China’s tech or consumer sectors is less pronounced when we look at business services companies.

Valuations for business services companies in ANZ, Vietnam and niche market like UAE, Oman and Sri Lanka are relatively low. Vietnam and Australia both have a significant number of listed business service players within the size thresholds for take privates and PIPE’s (72 and 64 respectively). 

Beyond the Crunch

A process of ‘database screening’ focussed on sector and/or country themes combined with a bottom up assessment, company by company, can yield some interesting ideas for potential take-private or PIPE opportunities. In the current environment, with travel restrictions severely hindering the due diligence process, this may well be a path to pursue for many PE’s looking to deploy capital. 

The search for suitable candidates can be finetuned beyond the process described above. Examples of additional analyses include: 

• Looking at revenue and EBITDA growth over time to understand management track record
• Looking at P/E over time to understand sudden valuation shocks caused by the pandemic and whether this creates take-private arbitrage opportunities
• A review of analyst outlook for the company to the extend available
• Benchmarking of profitability and operational performance against peers
• Looking at the ownership structure of the business in terms of the free float and private shareholders to make an assessment of the potential complexity of a take private effort

Once a couple of take private candidates have been prioritised there is much that can be done in terms of critical due diligence without necessarily getting access to management:

• Detailed analysis of audited financial and investor presentations to understand the performance of the business; 
• Map out the business strategy based on management announcements and ‘facts on the ground’ (i.e. products / brand launches, store openings, etc);
• Interviews with customers to understand purchasing process, key trends and perspectives on the target versus competitors in the market;
• Interviews with industry experts and stakeholders in the value chain to understand the industry dynamics and which players are the winners and losers in the industry;
• Desktop analysis and modelling of market demand outlook, potentially by relevant geography, market segment and/or channel to assess the outlook of the business based on the market outlook and economic cycle;
• Analysis of competitive landscape. Which players appear to be the winners in the industry? How is the target positioned? 

Take privates and PIPE’s will likely become a more regular feature in the PE deal headlines in the coming 6-12 months. With face-to-face due diligence significantly hampered due to the ongoing travel restrictions, take-privates and PIPE’s can partially help fil the void for PE’s eager to get back onto the deal-making track.  

Michel Brekelmans is Managing Director at SCP/Asia, a consulting firm that supports business executives and investors with business strategy development, performance and organisational improvement and M&A transaction support across the Asia Pacific region. He has 25 years of experience in strategy consulting and has been based in Singapore and China since 2002. www.scpartnersasia.com