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Upfront

July/August 2009 Issue 32

We focus on what we

know and we are the
first to confess what
we dont know.

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July/August 2009 Issue 32

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Upfront

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China Development Industrial Bank is already both an LP and
a direct investor in private equity. Now the firm is looking to take
on the role of fund of funds manager and GP too. Paul Yang, the
groups CIO, talks to Siddharth Poddar about the firms growth
ambitions, Asias need for home-grown LPs, and more.

n the four years that Paul Yang has been executive vice president and chief financial
officer at China Development Financial Holding, the firms private equity activities have
expanded from direct investment in Taiwanese venture capital only to plans to launch into
diversified third party fund management businesses.
I was brought in by the chairman of CDFH to transform the business from a large
venture capital firm to a later stage principal investor and to diversify in terms of both
geography and the type of deals we made to more growth-oriented and expansionary
deals, says Yang, who is currently responsible for the groups principal investment
activities and fund investments, which sit under the China Development Industrial
Bank (CDIB) banner.
It would seem he has already far exceeded that remit: due to experiences gained
in the process of diversifying geographically, CDIB is currently mulling plans to launch
itself both as a fund of funds manager for other Asian LPs, and as a GP managing third
party capital in its core investment geography of Greater China.
If all goes to plan, the firm will have three standalone businesses. The fund of funds
and co-investment business will be managed by CDIB International, while another
subsidiary will be set up for the management of the private equity fund. Finally, a third
entity, China Venture Management, another wholly-owned subsidiary of CDIB, will be
more focused on managed accounts or specific project funds.
Its a heady mix, as Yang agrees. In terms of the business evolving, we are similar
to investment banks, he says. Goldman Sachs started that way they first invested
their own capital in proprietary deals and then decided to manage others capital.
However, while the firms business is very similar to the private equity arms of the
big investment banks, it differs in that the groups growth has been driven by private equity
being the anchor investment provider. And in terms of the capital structure, Yang says,
Were more like private equity firms that have gone on to have a permanent capital base.
The back story
Once it had decided to diversify its private equity portfolio geographically in 2005,
CDIB began by reaching out to the regions on its doorstep. The first step was to target
Taiwanese companies operating in mainland China, after which the firm realised it could
leverage its experience to invest in non-Taiwanese companies in China. South Korea
where it saw a similar industry profile and some levels of compatibility in terms of
corporate culture soon followed and then Vietnam.
Outside Greater China, these are markets we feel we should be able to become
a mainstream player in, says Yang, though he stresses this is by no means dilutes the CDIB

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belief that China is the best market to invest in for the next
10 years.
When looking further afield to those markets where it
might not be so easy for CDIB to become a mainstream investor
the approach became more trial and error.
The firm first tried making direct investments in foreign
markets like the US, but while the investments did not book losses,
their performance was not as good as the firm would have liked.
Likewise, Yang says, CDIB realised that in a market like the
US it would be hard pushed to source the best deals as it was
competing with top venture capital firms in a market where they
were already well-established. Ultimately, the firm came to the
conclusion that rather than compete, CDIB should just become
a limited partner in their funds.
That analysis led the firm to decouple how we manage our
capital planting a seed for the third party capital management
business plans that would ultimately follow. In markets where

The need for an Asian LP base

Paul Yang caught attention in April this
year when he was interviewed onstage
at the Private Equity International Forum:
Asia in Hong Kong by The Carlyle
Groups David Tung. In a conversation
that encompassed several wide-ranging
topics, the standout moment was Yangs
impassioned call to the audience to do all
they could to aid the development of an
Asian LP base.
With commitments to more than
25 private equity funds since starting its
fund investment business in 2006, CDIB
is among the more active limited partners
in Asia today. LPs themselves are thin on
the ground in Asia, with the exception of
Australia and Japan, and Yang fervently
hopes to see a change soon in the way
Asian institutions perceive the private
equity asset class.
Asian institutions, both in terms of
government savings institutions and the
private sector, are at a capital surplus,
he says, and other than the oil-producing
countries, Asian governments provide
most of the capital to the world. We
provide a lot of capital, but we are only
doing it in the form of corporate bonds
or US treasuries, he says.
Even when Asian institutions do

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Yang onstage with Carlyles David Tung at PEIs Asia Forum in April

invest in private equity, they usually

finance the large US players and not their
own industry, he says.
It is his belief that Asian private equity
needs a stable base of Asian limited
partners, for without one, the Asian
private equity industry will not grow into
the same size as a percentage of GDP as
it has in the West.
Theres no way you can have a
$20 billion fund for Asia unless Asian
institutions invest in private equity. Most
Western LPs allocate about 10 percent
of their assets to alternatives and most of
that is at home anyway, Yang says.
Furthermore, as long as the Asian
industry relies on Western institutions
for most of its capital, it will keep having
a layer of risk premium fees. If you are
raising domestic capital, there is no risk
premium. If you go the other way around,
of course there will be, concludes Yang.
Asia should have its own LP base for
two primary reasons, he suggests. The
first is that Asia has sufficient capital.
Secondly, Asian institutions may have
invested in large global funds because
there wasnt enough talent in Asia, but
now, many Western firms are appointing
local talent to jobs in the region, so lack
of talent is not an excuse either.
In his view, the problem in Asia is that

not many institutions have experience

of investing in private equity. Institutions
here are not willing to give up money for
eight to 10 years without having much of
a say in how it is managed. The cultural
fabric comes in the way, he argues.
So how can a stable LP base be
achieved? Yang is honest, saying: I dont
have an answer yet, but to ask people to
be vulnerable for 10 years is a tall ask in
Asia. Few would disagree.
He does, however, offer a few
plausible suggestions. Perhaps the LP-GP
relationship could be modified in the
Asian context, he says. We could see
more LP involvement in decision-making
[or] we could have shorter life spans for
funds. Another possibility could be that
Asian institutions invest more in private
equity through separately managed
accounts.
The bottom line, in his view, is that
Asian LPs need to feel comfortable
investing in the asset class, because if
LPs are not comfortable, they will never
open the purse.
In his four years at the helm of
CDIBs private equity investment
programme, Yang has succeeded in
opening the purse. Asian GPs will be
hoping other regional institutional
investors will do the same.

July/August 2009 Issue 32

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To be frank, when one

is in so many pockets
of this business, one cant
say there is no conflict
of interest.

it had the relevant experience, like China, South Korea and

Vietnam, it carried on as a direct investor. In those where it felt
it did not have the requisite skill set or local knowledge, like India,
Australia, Europe and the US, it decided to commit capital to
proven private equity fund managers investing there.
Even though we have to pay 2 and 20 to fund managers,
we feel that the net investment return from being an LP in funds
investing in these regions will surpass what we could manage on
our own, he says candidly, adding: We focus on what we know
and we are the first to confess what we dont know.
CDIBs third party funds programme began in 2006, when the
firm also began actively co-investing alongside established private
equity managers. About 30 percent of capital from its third party
funds programme has been invested in direct deals alongside its
GPs. For example, the firm committed $20 million to Carlyle Asia
Partners II, and put in another $75 million in co-investments.
Co-investments allow the firm to assume greater exposure to
certain industries and sectors in which it has expertise, says Yang.
As an example, he offers: We dont know India, but we do know
the financial services industry, so when Carlyle brings us a financial
services deal in India, we look at it.
As a result of the changes over the last four years, today CDIB
is 75 percent invested in Taiwan including Taiwanese companies in
China, 20 percent in Europe and the US, and 5 percent in Korea,
India and Australia.
But plans to diversify have not peaked yet: CDIB wants to
diversify its holdings further. Yang says the firm would like to
see no more than 60 percent of its portfolio invested in Greater
China. This would be split equally between investments in Taiwan
and investments in Chinese companies and Taiwanese companies
with business in China. Of the remaining 40 percent, the firm
wants a 60 percent allocation to Europe and the US, and the
remainder allocated to Australia, India, Korea and Vietnam.
Standalone fund of funds business
The firms diversification of its investment portfolio through the
backing of external fund managers has led it to consider whether
it could launch an independent fund of funds business.
We are beginning to draw the programme, Yang says, adding
the firm is looking at which other Asia-based investors have the
same needs as itself.

As of now, although CDIB has a good diversification globally

in terms of its third party commitments, it does not back managers
with a mandate to invest in Greater China because it makes direct
investments in the region. However, in pushing the fund of funds
programme as a standalone business that will manage others
capital as well, Yang acknowledges the firm needs to fill the
Greater China hole because there are likely to be LPs that want
exposure to greater China. As such, the firm may have to
invest in third party funds focused on Greater China for this
reason alone.
He admits that in doing so the firm is managing potential
conflicts of interests, but hedges: To be frank, when one is in
so many pockets of this business, one cant say there is no conflict.
However, we have a very clear rule whereby in the case of any
conflict, we will cooperate and not compete.
The first of the firms fund of funds offerings will be launched
within 2009 and more than half the money raised will be
committed by CDIB. The amount invested by the parent in the
fund will be a differentiating factor compared to other fund of
funds managers, according to Yang, who says: A typical fund of has
less than 10 percent of its own capital in its fund, but we will have
between 50 percent and 60 percent. As a result, there is a greater
alignment of interest.
He is confident of the success of the firms initiative and says:
We feel that we have the necessary experience and resources
to make third party investments.
Plans to be a GP too
Yang is also confident of the firms ability to take on the role of
GP in its core markets.
In markets that we have experience, we decided to be a
direct investor and also be a GP for other peoples capital because
we believe that we can provide value, he says.
The firm is evaluating the possibility of launching its own
Greater China-focused private equity fund which will manage
capital on behalf of third party investors. This does not, however,
imply that CDIB will curtail or cease its direct investment activity.
It will continue making direct investments as either the anchor
investor in the fund or alongside the fund on a pre-agreed basis.
Yang says that this could be done through a parallel scheme,
whereby both the firms proprietary capital and the capital from

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the fund it raises will be invested in the

same deals on a pro-rata basis. This would
ensure there is no conflict of interest,
he says.
There are, however, going to be
overlaps between the private equity fund
it manages for Greater China and the
Greater China-focused private equity funds

that the firms fund of funds product will

invest in. Yang acknowledges this potential
conflict of interests as well, but says that
it is not going to be a big issue if there
is an alignment of interests. He adds:
Sometimes it is better, as more pairs of
eyes are looking at and evaluating the same
deal, so the outcome may be better. l

CDIB at a glance

A brief history

u Established: 1959
u Number of investment professionals:
more than 70
u Offices: Taipei, Hong Kong, Seoul and
Menlo Park; Shanghai office due to open
in the second half of 2009
u Size of private equity portfolio (including
direct investments): $2 billion
u Amount committed to private equity
funds: $400 million
u Amount co-invested alongside private
equity funds: $200 million
u 21 percent net IRR in the last 12 years
from its direct investments
u Number of private equity funds backed:
more than 25
u Selected managers CDIB has committed
capital to:

A cursory glance at China Development

Financial Holdings business profile will not
reveal the firms sophistication as a private
equity investor. What started in 1959 as
the China Development Corporation, as
part of an effort by the World Bank and
the Taiwanese government to promote
private enterprise, has evolved into a large
private equity player, both as a direct
investor as well as a limited partner in
third party-managed private equity funds.
The initial investment company
obtained a bank license in the early
1990s to become an industrial bank. In
the mid-1990s, Taiwan passed a financial
holding companies law and the company
merged with Grand Cathay Securities,
which provides trading, securities
and wealth management services.
The proprietary investment business
of the group is undertaken by China
Development Industrial Bank (CDIB).
Initially, CDIBs equity investment
activity was restricted to venture capital in
Taiwanese companies. In 2005, when Paul
Yang joined the company, it had $3 billion
in shareholder capital and $10 billion in
assets. Its entire portfolio at the time was
allocated to venture capital and invested
predominantly in Taiwanese companies.
In 2005, following Yangs arrival at the
firm, it started moving from early stage
venture investing to later stage venture
capital and early stage private equity. The
firm simultaneously sought to expand its
focus beyond Taiwan in order to diversify
its holdings geographically.

 estern Europe: Apax, Doughty

W
Hanson, Adams Street Partners, Sun
Capital Partners, Terra Firma, PAI
Partners
Carlyle Asia, Carlyle Japan,
AIF Capital, Pacific Equity Partners,
Samara Capital, CX Partners

n Asia:

 orth America: Clayton Dubilier &

N
Rice, Thomas H Lee, Adam Streets
Partners, Platinum Equity, Lehman
Brothers, Sun Capital Partners, Oak
Hill Capital Partners
Clear Channel, Goldman
Sachs, Kohlberg Kravis Roberts,
Silverlake Partners

n Global:

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