Letter to Our Investors

March 25, 2024
To Our Investors:

TWO THOUSAND TWENTY-THREE saw a rare divergence of the private markets from public markets in performance. Equity markets surged across the world, despite wars in the Middle East and Ukraine and the ongoing trade war between the U.S. and China. The S&P 500 rose by 24.7%; in our region, the Nikkei rallied by a remarkable 30.1% and KOSPI 19.3%, with only the Shanghai Composite declining (by 4.5%). In private equity, however, the headwinds that gathered in the second half of 2022, from the “denominator effect” to rising financing costs, persisted in 2023. Fundraising, deal volume, portfolio performance and particularly distributions were down across the industry. Globally, funds closed fell by 38%, deal value by 37% and exit value even more sharply, by 44%. MBK Partners bucked the trend with another strong year in raising funds, deploying capital and creating value in our portfolio. But we were not immune from the adverse conditions in the exit channels, resulting in a down year in distributions. The liquidity super-cycle of 2020-22 is clearly behind us, but we see signs of a normalized cycle beginning this year.

Upon launching fundraising for MBK Partners Buyout VI in the fall, we completed a first closing at $3.5 billion in commitments. Substantially all the capital came from re-ups by existing limited partners. During the last year, we deployed $3.6 billion in investments (including co-investments), in line with our record levels the preceding two years. At the same time, we created substantial value across our portfolios, $3.75 billion in Buyouts and $295 million in Special Situations. In a continued dampened market, we completed over $0.4 billion in realizations. As we begin 2024, we see some green shoots in the liquidity channels, and we have planned a number of trade sales and initial public offerings that will test their rejuvenation.

“We deployed $3.6 billion in investments,
in line with our record levels the preceding two years.”

“Asia = K + J”

At our investor conference in November, I laid out our current market thesis: Asia (BO) = K + J. This simple equation crystallizes our view that for buyouts in Asia today, it’s Korea and Japan. These are the two markets that are generating significant and sustainable deal flow. Korea is a market that “punches above its weight:” the 10th largest GDP in the world, but #5 in number of large-cap companies and the highest PE penetration, at 0.8% of GDP, in Asia. The Korean Private Equity Law, passed in 2005, has been a game changer in fostering the development of the domestic private equity industry. The law has provided for regulatory and tax advantages for domestically registered GPs. This policy support paved the way for market leadership by domestic managers like MBK Partners.

The distinctive architecture of Korea Inc., built around chaebol , has lent itself to a robust private equity market. These family-owned conglomerates historically have thrown off consistently strong deal flow from strategic sales of non-core assets and liquidity needs. We have been the dominant leader in chaebol divestitures. We have nine transactions involving eight different chaebol groups under our belt. Recently, we have seen the opportunity set augmented, with an increasing volume of sales of large, non-chaebol companies due to founder succession issues. Two of our investments last year, Medit and Osstem Implant, fall into this category. This diversification of deal sources is a welcome sign of a maturing private market.

Korea remains cheap. Historically, Korean companies have traded at a “K-discount,” largely due to perceived poor corporate governance by controlling chaebol families. KOSPI currently trades at 11.8x P/E, 7.5 multiples below the Nikkei. On an EV/EBITDA basis, KOSPI trades at 8.4x, 2.3 and 6 multiples below the Nikkei and the Shanghai Composite, respectively. The K-discount extends to the private market. Our investments in this market were done at a 25% discount on average to the global comparables. Korea is the value market of Asia.

Japan’s booming private equity market has taken many by surprise, but not us. We have preached the gospel of Japan since the Firm’s inception. We cited the huge economy, third largest in the world, the second largest mid-cap company pool globally, with over 700, the deep management talent pool, the transparent regulatory system and reliable financial disclosure standards. And “borrower’s paradise,” the market with the cheapest acquisition financing worldwide.

What has catalyzed the recent boom is the Corporate Governance Code and the concomitant rise of shareholder activism. The CGC was a key policy pillar of Abenomics, introduced in 2015 with the aim of focusing Japanese public companies on boosting return on equity and expanding independent director representation on boards. The combined effect has been a surge in corporate rationalization of business portfolios, engendering divestitures and carve-outs. The $15.2 billion sale of Toshiba Corp. to a domestic GP-led consortium last year was a landmark transaction. Put “in play” by activist shareholders, the company was pressed by its independent directors to sell to maximize shareholder value.

If the iconic Toshiba could be pressured and put up for sale, then, the thinking goes, any company in Japan can come under attack and be sold. Shareholder proposals by activists have jumped eightfold in Japan in the last seven years. Belying its reputation for politeness, Japan is now the second most active market for shareholder activism, trailing only the U.S. Shareholder attacks have led to a proliferation of “white knight” opportunities to bail out management. We have completed three such transactions, in MBOs of Tasaki, Accordia and Kuroda. Being white knight to management is a salutary role to have; it gives us inside access in due diligence, the heart of what we do.

“North Asia is our true north”

China remains the big variable, in Asia and beyond. This giant economy has continued its malaise, with lower-than-expected 5.2% GDP growth in 2023. The U.S.-China trade war is not only getting prolonged but also extended, on national security grounds, to a tech war. To counteract the geopolitical and macroeconomic pressures, the Chinese government has pursued a program of “proactive fiscal and prudent monetary policy,” while implementing reforms in real estate, financial services and the private sector generally. Still, the equity market juggernaut remains stalled, and PE deal flow has slowed to a trickle. Many of our GP peers have retrenched from China.

But we do not believe this represents a Fukayamaeqsue “end of history” of China. China is too large an economy, with a burgeoning consumer class of nearly a billion people, and its private market too important for it not to resume its growth drive. It is worth bearing in mind that China is attempting to do something unprecedented in history: marrying a communist political system to a command economy with selected free-market elements. It succeeded, spectacularly, for over two decades, until it didn’t. What we’re going through is a period of growing pains in a generational political-economic development story, not the end of the Great China Experiment. We are believers in China in the mid- to long term. For now, it’s mostly Korea plus Japan for us. But China shall return.

Throughout 2023, we were active in making new investments. In Korea, as the dominant leader, MBK Partners benefitted from an ongoing “flight to quality” in deal flow, in both buyouts and special situations. On the heels of the acquisition of the dental scanning leader Medit, for $884 million in total equity, we completed the buyout of Osstem Implant, the second-largest dental implant manufacturer globally, for $850 million in equity. We acquired Nexflex, a leading smartphone component maker, for $254 million in equity. Through Special Situations, we invested $763 million in convertible preferred shares in SK On, a leading electric vehicle battery maker. We had a clean sweep of the large deals done in Korea in 2023.

In Japan, we invested $236 million to acquire Soyokaze (formerly Unimat Retirement Community), a leading provider of nursing care services for the elderly, and $336 million to acquire Hitowa, one of the largest living-support service providers. On the Special Situations side, we invested an additional $41.2 million in secured loans of Marelli Holdings, a global auto parts manufacturer, through secondary purchases at deeply discounted prices. We also invested $93 million in Japan Best Rescue Systems, the largest domestic provider of daily life trouble-shooting services.

In China, we continued to exercise discipline in deployment. Buyouts has not put out a dollar in China for the last two years. In the current uncertain environment, we have found special situations opportunities more attractive on a risk-returns basis. Special Situations invested $80 million in the senior loans of Health and Happiness, a leading producer of infant formula and nutrition products for adults and pets.

Thematically, we focused on playing the developing convergence of healthcare and technology (especially consumer-facing). Medit and Osstem fall squarely in the overlapping center of this Venn diagram. We also increasingly pursue structured investments aimed at capturing operating synergies in related businesses. Our acquisition of Hitowa targets multiplying the “low-hanging fruit” in revenue enhancement and cost savings with Tsukui and Soyokaze.

In the course of 2023, we progressed from defending our portfolio from the deleterious impacts of COVID to driving a return to growth. Our portfolio grew significantly in value, led by a sharp rebound in our Chinese sub-portfolio. Our five mainland China BO companies in aggregate went up 54.6% in revenues and a remarkable 120.2% in EBITDA from 2022. This rebound augurs well for a fundamentals recovery in China. The China sub-portfolio increased $2.10 billion (or 44.8%) in value in 2023. Korea and Japan increased $1.66 billion and $0.29 billion in value, or 28.6% and 12.2%, respectively. Sectorally, not surprisingly, our core areas led the way. Our consumer, healthcare and financial services companies recorded EBITDA growth of 15%, 22% and 21%, espectively. Tasaki in the consumer sector had a 50% increase in EBITDA, driven mainly by sales to inbound tourists. Osstem in healthcare had a 22% increase in EBITDA, based on both domestic and overseas sales growth. In financial services, Lotte Card notched 39% growth in net income, spurred by transaction volume growth.

All our funds performed strongly last year. Buyout Funds III, IV and V increased to 2.3x, 2.0x and 1.6x cost (as reflected by the sum of the realized and remaining fair market values), respectively. And Special Situations I has doubled since its inception. We view fund value accretion over time versus public market indices as a key performance indicator. These funds have all significantly outperformed the North Asian public markets over the period of their fund life. As seen in the following graph, Buyout Fund III increased 128.8% versus 50.3% in the public markets; Fund IV 96.6% versus 22.9%; Fund V 58.0% versus -13.3%; Special Sits I 132.3% versus 7.6%; and Special Sits II 27.4% versus -13.5%.

On an absolute returns basis, the aggregate marks for our five active funds stood at MoC of 1.9x and IRR of 20.5% at year-end 2023. As shown in the following chart, Buyout Fund III was at 2.3x and 17.2%, Fund IV at 2.0x and 18.8%, Fund V at 1.6x and 36.3%; Special Sits I at 2.3x and 37.1% and Special Sits II at 1.3x and 25.0%.

In an inhospitable market for IPOs across Asia, we made $412 million in distributions, mostly through partial sales and leveraged recapitalizations. In Buyouts, we completed recaps for Kuroda and Siyanli, for a combined $169.7 million in distributions. From Special Situations, we distributed $44.5 million from the LVGEM exit (for 1.4x MoC and 17.6% IRR) and EPS Holdings exit. We also completed a substantial sale of the Xeno loans, distributing $175.5 million. Combined with previous distributions, the aggregate cash proceeds total $210.6 million, representing MoC of 1.32x.

As we have emphasized, distribution amount and distributions-to-paid-in capital multiple (DPI) are the most meaningful measures of performance. Distribution numbers have integrity. We believe our returned amount, now at $18.7 billion, makes us the leader among Asia-based GPs. Our performance leadership is further buttressed by DPI (as well as its cousin, total value-to-paid-in capital). As highlighted in the following table, we continue to outperform in both DPI and TVPI the top-quartile benchmarks in our industry.

Our leadership in DPI and TVPI notwithstanding, we live by the adage, “You can’t eat relative performance.” It’s the dollars returned that puts food on the table. We will do better in returning dollars. The substantial value we’ve created in our portfolio is a good indicator of what’s to come. We have $15.9 billion in value remaining in our funds, a meaningful portion of which we will seek to monetize this year.

“One of the longest and
strongest track records in Asia.”

We have long been committed to building the best investment team in North Asia. We now also have the largest team in North Asia, topping 100 investment professionals early this year. MBK Partners has more people and, at $30 billion, more capital dedicated to the markets of North Asia than any other GP. This critical size enables us to progressively scale our platform. We have increasingly broadened our reach of sellers and management and multiplied efficiencies in our operations, in investments and portfolio management alike. We also have our secret weapon, a scalable LP base, both for fund re-ups and, importantly, for coinvestment equity. We have scaled co-invest power.

Scaling is ever more vital for our business. It is important to note that size alone does not beget scale. After 19 years as a firm, we know who we are and what we’re pretty good at; equally important, we know what we are not. We are not asset gatherers. We resist the global trend toward becoming an alternative asset manager. We have neither the interest in growing for AUM growth’s sake nor the ability to be in every asset category in every market in the world. MBK Partners will remain dedicated to North Asia and focus on achieving economies of scale from its three in-market neighbors and trading partners. North Asia is our true north. We have steadfastly resisted the magnetic forces of the changing markets. We will stay in China, despite its current travails, and we will not get pulled to India, despite its prevailing attractiveness (at least in venture and growth capital). Our conviction is that Korea, Japan and China together are a powerful integrated market, a whole much greater than the sum of its country parts. And that buyouts and special situations combine to compound the strategic benefits that accrue to sellers, and us, by marshaling all levels of the capital structure.

Today, MBK Partners manages over $30 billion in capital across six Buyout and two Special Situations funds. Since the Firm’s founding in 2005, we have made 72 investments in Korea, Japan and China, and we still have over $6.5 billion in dry powder. More importantly, we made 43 realizations and distributed $18.7 billion in proceeds to our investors, the highest total in Asia. We have the longest-running senior investment team in the region, having worked together for over 25 years. All told, MBK Partners has one of the longest and strongest track records in Asia. We have achieved all this while keeping our compass on corporate responsibility. We remain committed to working in harmony with our investors, partners and other stakeholders as well as our community and doing things in the right, MBK Partners way.

Yours truly,

Michael ByungJu Kim