Asian hedge funds getting a jump on the IPO game
By Brian Kelleher and Jeffrey Hodgson

HONG KONG, March 30 (Reuters) - Asian hedge funds, operating in an increasingly crowded market, have begun funding Chinese and Indian companies prior to their IPOs to get an inside track on hot stock listings and boost medium-term returns.

Hedge funds are becoming a quicker, more convenient alternative to risk-averse banks for Chinese and Indian companies that need capital but are not quite ready for initial public offerings.

"Hedge funds, as a class, have a lot of money looking for a home," said John Moore, joint head of Asia Pacific equity capital markets for ABN AMRO Rothschild. "Pre-IPO financing is one way for them to go."

Deal structures vary as the market is still developing and the private nature of these transactions make them hard to track, but investment banks are aggressively pursuing the business as it becomes an increasingly important component of the IPO process.

Foreign and domestic funds bought $605 million of pre-IPO shares in the petroleum unit of India's Reliance Industries Ltd. this week, ahead of a listing worth up to $1.3 billion.

Greentown China Holdings, a high-end residential property developer, sold a $130 convertible bond to investors including hedge funds in January, ahead of an IPO that could fetch more than $600 million in the middle of this year.

Hedge fund managers are increasingly comfortable holding on to these longer-term, less liquid assets and moving into a space traditionally filled by banks or private equity firms.

"Hedge funds certainly have quicker access to capital," said Mark Shipman, a partner at law firm Clifford Chance in Hong Kong. "They've got the cash and they don't have to go through an investment committee."

The practice can be highly lucrative if the hedge funds get a piece of a hot IPO at a discounted price, but it has some danger.

"If, for example, I were to invest in a company which I don't truly believe in, but there's hype this is going to be placed, I'm taking a certain risk," said Harjit Bhatia, the new chief executive of Asia Pacific for Ritchie Capital Holdings LLC. "If the markets correct themselves, you could be saddled with that."

The Illinois-based hedge fund, which has about $3 billion in assets under management, is just setting up in Asia so it has not been involved in the pre-IPO game, but Bhatia acknowledged its attractions despite the risks.

CROWDED MARKETS

As more hedge fund cash enters Asia -- regional assets under management rose more than 30 percent to about $100 billion last year, according to research firm Eurekahedge -- investment opportunities shrink and funds are forced to get creative.

"In India, it's extremely common now for pre-IPO situations to involve hedge funds," said Tim Throsby, president of Citadel Investment Group's Asian arm.

Pre-IPO financing is another way that hedge funds, while usually making smaller investments with a shorter time horizon for selling out, increasingly act like private equity houses.

"Hedge funds have seen the way private equity firms have been able to make very big returns by investing prior to an IPO," said one managing director at a top-tier investment bank. "Several of the hedge funds have got people looking at ideas like that."

But while buyout firms seek control and have a multi-year view, hedge fund deals are often structured as loans with interest rates 300 to 600 basis points above the London Interbank Offered Rate (LIBOR), along with an obligation that the borrower lists within 12 months.

Mezzanine financing differs as it is longer term and comes with warrants, while hedge funds may simply ask for a larger share allocation when the company does their IPO.

"It's fairly early stage now ... but I think you're going to find it increasing," said Steven Panizza, head of Asia leveraged finance for ABN AMRO.

Investment banks are well-placed for the business as they have ties to both hedge funds and capital-hungry Chinese and Indian companies, and there is the additional benefit of being able to lock up an IPO mandate, ABN AMRO Rotschild's Moore said.

But banks are well aware of the risks as they are in many cases providing leverage to the hedge funds involved.

"The problem is the liquidity of the underlying asset," said one hedge fund specialist at a top investment bank. "We will insist upon diversification in their balance sheet ... we can't provide financing where the investors are too concentrated."

The hedge fund move has shaken up the traditional mezzanine financing market.

"Several potential deal opportunities we're looking at, hedge funds are looking at themselves," said Simon Sham, a managing director at Darby Asia Investors Ltd., a mezzanine investment firm with experience of buying into Chinese companies.

"They commit a lot of money with fairly minimal due diligence," Sham said.