J-STAR, a Japanese buyout firm, is exploring whether the GP-led secondaries market could help it to avoid overstepping concentration limits during an “aggressive” programme of buy-and-builds.
The Tokyo-headquartered firm aims to complete an average of two to three add-ons for each portfolio company acquired by its fifth flagship fund, which closed on ¥75 billion ($576.3 million; €547.9 million) last week, partner Tatsuya Yumoto told affiliate title Private Equity International. J-STAR No.5 is about 55 percent larger than its 2019-vintage predecessor.
“Because add-on acquisitions and roll-ups are one of our core investment strategies, we are planning to aggressively do follow-on investments,” Yumoto said.
“Historically we have done about 50 primary investments so far and 50 add-on acquisitions as well, so the ratio is about one to one for one. If you look at successful American or European GPs nowadays, they’re doing about one to three, and we are planning to achieve a similar strategy in J-STAR No.5.”
Platform acquisitions are becoming larger in size. Nearly one-third of add-on acquisitions completed in 2019 represented at least the fourth acquisition by a single platform company, up from 21 percent in 2003, per Bain & Co. Some 10 percent of add-ons represented at least the 10th acquisition.
One possible risk associated with buy-and-builds is that of breaching a fund’s concentration limits, which prevent any single asset from receiving too much capital. These diversification rules may stipulate, for example, that no one investment can receive more than 20 percent of the capital from the fund.
Single-asset secondaries transactions can help with this issue: such deals enable the GP to lift the overly large asset out of its original fund and into a new vehicle, with LPs given the option of either rolling over into the latter or cashing out.
“We’re considering several new tools and techniques to maximise the return for our investors, one of which is GP-led secondary transactions,” investor relations principal Kenta Shima said, noting that the firm has received pitches from advisers about the potential use of continuation vehicles for older vintages.
“Another idea we are considering is a single-asset GP-led secondary to provide liquidity to younger vintage funds whose DPI isn’t that high yet. And at the same time for us, because we do lots of add-on acquisitions, we also have to be very careful about the concentration limit of each one.”
The ¥20 billion 2012-vintage J-STAR No.2 has exited eight of its 10 investments, Shima said. The ¥32.5 billion 2016-vintage J-STAR No.3 has exited three of its 16 investments.
Private equity deal value in Japan more than doubled last year to a record $23 billion, led by investments in manufacturing and industrials, according to Bain & Co’s latest Asia-Pacific Private Equity Report. Exits also rose 123 percent to $16 billion due to several large trade sales and secondary buyouts.
“Add-on acquisitions are the most-demanded action to private equity investors from the Japanese market,” Yumoto said. “The Japanese economy is very mature and has a very low GDP growth, so business owners believe that industry consolidation is necessary in order to increase efficiency. So not only do we think that this is one of the ways to maximise returns to our investors, we also believe it is a social responsibility in the Japanese market.”
Fund V launched in October and had a ¥65 billion target, Shima added. Approximately 30 percent of commitments were domestic and 70 percent from overseas. Among the latter, 40 percent was committed by North American LPs, 35 percent from Europe and the remainder from Asia and the Middle East.
“Lots of LPs said they are revisiting their geographical diversification, especially in Asia,” Shima said. “Because they are looking to decrease exposure to China and invest between countries like Japan, Australia and Korea.”
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