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February 2012

Private equity roundup Africa

Private equity roundup Africa is part of a series from Ernst & Young focusing on private equity activity in emerging markets. Contacts:
Jeff Bunder Global Private Equity Leader jeffrey.bunder@ey.com Philip Bass Global Private Equity Markets Leader philip.bass@ey.com Sachin Date Europe, Middle East, India and Africa Private Equity Leader sdate@uk.ey.com Graham Stokoe Africa Private Equity Leader graham.stokoe@za.ey.com Peter Witte Private Equity Analyst peter.witte@ey.com

Strong growth, a rising middle class and limited competition for deals are driving increased interest in the region
Africa has long been a continent with enormous promise overshadowed by a legacy of conflict, corruption and economic crises. However, the region has seen a broad range of reforms in recent years. Infrastructure initiatives are opening new avenues of commerce, and new efforts towards regional integration and strengthened regulatory and legal systems are providing greater levels of transparency and accountability. Far-reaching progress combined with increasingly favorable demographic and economic trends has created an environment that is ripe for investment. Despite the economic downturn, foreign direct investment (FDI) has been robust, it is changing shape expanding from its historical focus on the extractive industries to an increasingly diversified range of sectors and industries poised to benefit from the regions growth. Private equity (PE) investors have long been a part of Africas economic landscape, with firms like Helios Investment Partners (Helios) and Actis Capital (Actis) raising funds and executing significant transactions in the region. But broader recognition of Africas growing economic strength is prompting a new wave of activity, as general partners (GPs) and limited partners (LPs) alike take a closer look at the regions wide array of opportunities. Africa has stepped into the limelight as a more prominent emerging market player. In this report, we look at some of the factors that are driving PEs rapidly increasing interest in Africa from the already established and growing market of South Africa, to the frontier markets such as Nigeria, Ghana and Kenya. PE firms are attracted to the regions high growth rates and nascent shift from commodities and agrarian-based economies to consumer economies, driven by a growing middle class. As the PE industry undergoes its own expansion, diversification and maturation, Africa will play an important role.

Why Africa? Why now?

Clearly, Africa is benefiting from a global trend that is seeing more investors seeking growth from a wider range of markets. Five years ago, just 10% of global fundraising was earmarked for the emerging markets. But by 2011, 17% of the total capital raised by PE firms worldwide was targeted towards emerging markets, the highest percentage on record. In 2007, sub-Saharan Africa accounted for approximately 3% of total emerging market fundraising. By 2010, this had doubled to 6%. With GDP growth rates below 2% across most of the developed economies, Africas attractiveness is readily apparent. The regions share in global FDI projects per annum increased from between 2.7% and 4.4% during 20032007, to between 4.5% and 5.2% during 20082010. The number of new FDI projects increased from 280 to 460 projects per annum during 20032007, to between 600 and 850 projects per annum during 20082010. New FDI projects into Africa are forecast to reach US$150b per annum by 2015.

Rapid growth and stabilizing political situations emerge as key drivers of PE investment
Africa is increasingly suitable for PE investment, as evidenced primarily by its outsized growth relative to the developed markets and other emerging markets. In sub-Saharan Africa in particular, GDP growth is expected to average 5% over the next 10 years, significantly higher than the 2.5% expected in the US, and the 1.5% expected in Western Europe. Indeed, many countries in Africa are projected to exceed 7% Ghana (8.6%), Ethiopia (7.9%) and Uganda (7.7%) among others. Factor in a more stable political environment and demographic trends favorable for continued growth, and conditions are increasingly aligned toward providing exceptional opportunities for PE investors.

Figure 1. PE penetration relative to long-term expected growth remains low in sub-Saharan Africa and South Africa
0.80% 0.70% 0.60% 0.50% 0.40% 0.30% 0.20% 0.10% 0.00% 1.9% 2.2% 1.2% Israel India Brazil China Russia Poland SubSaharan South Africa Korea Japan Mena Mexico South Africa Turkey 4.5% 4.5% 3.8% 5.0% 4.1% 4.1% 3.7% 3.8% 4.3% 4.4% 8.2% 7.9%

United Kingdom

United States

20092010 average PE penetration (PE investment as a percentage of GDP) 20112020 GDP expected growth rate Source: Emerging Markets Private Equity Association. Data as of 31 December 2010. Published 15 November 2011; HIS Global Insight

Nearly

40%

of survey respondents said they planned on either beginning to invest or increasing their investments in Africa.

Source: EMPEA and Coller Capital

Private equity roundup Africa

Why Africa? Why now? (... continued)

Limited PE penetration and limited competition for deals


Despite increasing activity and limited competition for high-quality deals, PE has yet to achieve significant penetration into the economies of sub-Saharan Africa, including South Africa. As a percentage of GDP, PE investment represents just 0.11% in sub-Saharan Africa, and 0.14% in South Africa this compares with 0.74% in the UK and 0.67% in the US. Even the BRICs have seen PE penetration rise sharply over the last two years, as PE investors have increased their focus on the emerging markets. Between 2009 and 2010, PE penetration jumped 27% in China, 34% in India and 262% in Brazil.

back to their home countries, with specialist skills in management, operations research, engineering and other fields that directly apply to the leadership of growing companies. Africas population is also rapidly becoming urbanized. In 1990, approximately one-third of Africas population resided in urban centers, compared with about 70% to 75% in North America and Europe. By 2010, urbanization rates in Africa had grown to 40%, and by 2025, nearly half of the regions population is expected to live in urban areas. This migration into urban economic centers increases across a number of sectors such as building and construction, infrastructure, leisure activities, education, and health care.
Figure 2. Urban dwelling % of population
0.7 0.6 0.5 0.4 0.3 0.2 0.1 0 1990 1995 2000 2005 2010 2015 2020 2025 Africa East Africa Middle Africa Northern Africa Southern Africa Western Africa

Powerful demographic trends drive investments by strategic investors and PE firms


Onethird of Africas billion-plus population is currently living in urban areas. And that proportion is expected to grow to one-half by 2030. Furthermore, a sharp increase in the number of young people, combined with the growing financial resources of a burgeoning middle class, is creating a pool of talent with increasing levels of disposable income to actively participate in the consumer economy. According to the Africa Development Bank, the sub-Saharan regions middle class has grown from approximately 26% of the population three decades ago, to about 34% currently. By 2020, Africas middle class is expected to spend more than US$2.2tr per year, representing about 3% of aggregate global consumption. And by 2060, the percentage of Africas population that is middle class is projected to grow to 42% of the population, representing more than 1.1 billion people. Many are professionals who have studied at universities in Europe and North America and are seeking to bring their skills

Source: United Nations Statistics Division

As a result, prescient investors are targeting sectors that will benefit from this growth. They are also recruiting returning professionals, both for positions as investment managers and for roles as executives at companies receiving capital.

February 2012

Why Africa? Why now? (... continued)

A legacy of governance
Investors active in the region have noted that a significant difference exists between perceived and actual levels of risk in Africa, much of it based in fears around limited transparency. While globally many investors have had negative experiences stemming from a lack of quality governance, Africa has a legacy of strong internal controls. Much of the regions industry, particularly organizations and industries supported by PE, originated with the development finance institution (DFI) community, and standards of accountability and governance that were implemented years ago by these investors persist today. As greater levels of capital and a greater variety in the sources of capital become available to businesses across Africa, business leaders are increasingly focusing on improving their levels of governance as they come to realize this is a prerequisite for obtaining capital to expand their businesses.

Increasing regional cooperation


Historically, a lack of regional integration throughout Africa has significantly constrained economic growth. Insufficient infrastructure and the absence of effective cooperation between African countries has limited the impact of intra-African trade at present, it accounts for just 11% of all African trade. However, initiatives currently underway have the potential to significantly increase the impact of local commerce and free trade. For example, the members of the East African Community Kenya, Uganda, Tanzania, Rwanda and Burundi are partnering to standardize and improve trade regulations, reduce or eliminate tariffs and encourage intra-regional trade.

Investors can access attractive opportunities with limited capital input


Investments in Africa may have one of the largest mismatches in the world between the size of the regions opportunities and the amount of capital required to access them. In 2010, the average PE investment per deal was just US$14.2m, the lowest of any emerging market by far markedly lower than China (US$40.3m), Brazil (US$67.4m), and India (US$26.4m). With an entry price far lower than nearly any other market, investors are able to acquire influential stakes in a wide range of investments with a limited outlay of capital.

A commodity-rich market
The commodities boom has been one of the drivers behind Africas growth over the last decade. While the coming years will see PE firms further diversify into a broad range of sectors, the extractive industries and the service companies supporting these industries will continue to provide a range of PE investment opportunities well into the next decade, particularly as Africas strategic importance grows in step with the worlds ever-increasing demands for oil, minerals and other hard goods.

Private equity roundup Africa

Fund-raising

Over the last five years, firms targeting opportunities in Africa have raised more than US$9.3b. In the early part of the last decade fundraising sub-Saharan Africa was dominated by funds focused on investing in South Africa. However, an increasing percentage of capital is now being directed to the fastgrowth funds targeted at

the frontier markets of sub-Saharan Africa. Through Q3 2011, PE funds were on track to raise more than US$1.7b in funds for the sub-Saharan region a 13% increase over the US$1.5b raised in 2010 with funds focused solely on South Africa representing less than 10% of the total dollars raised.

Figure 3: SubSaharan fundraising has grown significantly as a proportion of total Africa commitments (US$b)
$2,500 $2,241 $2,000 $2,092 $2,034 $1,733 $1,500 $1,190 $1,000 $741 $500 $151 $151 $0 2002 2003 2004 2005 2006 SubSaharan Africa 2007 $741 $340 $340 $964 $791 $546 $348 $218 $0 2008 2009 2010 $423 $147 2011 $1,499

South Africa

Source: EMPEA industry Statistics, Q3 2011 release; 2011 figures to Q3 2011 and annualized

February 2012

Fund-raising (... continued)

New entrants join established players in raising fresh capital


A range of PE players is currently converging on Africa. New and established local funds such as African Capital Alliance, Kingdom Zephyr and Ethos are being joined by global emerging markets specialists like Actis. In addition, large multinational powerhouses
Figure 4. Africa focused funds recently closed and on the road Status Closed 30Sep10 Closed 13Oct11 Closed 26Jul10 Closed 13Jun11 Fund African Global Capital II African Infrastructure Investment Fund II ECP Africa Fund III Helios Investors II Manager Och-Ziff Capital Management African Infrastructure Investment Managers Emerging Capital Partners Helios Investment Partners African Capital Alliance Kingdom Zephyr Carlyle Group Ethos Private Equity

including The Carlyle Group (Carlyle) are raising funds for investments in Africa and becoming more active. In July 2011, Carlyle announced that it had formed an investment team to be based in Johannesburg and Lagos headed by Danie Jordaan and Marlon Chigwende. The move by Carlyle is viewed by many as underscoring the level of interest that global funds have in the region, with an expectation that other funds will follow suit.

Fund type Balanced Infrastructure Growth Buyout

Closed or target size (US$m) 400 500 613 900

Industry focus Energy, mining, natural resources Infrastructure Telecoms, consumer products, financial services, oil & gas, mining, insurance Telecoms, health care, consumer products, financial services, agriculture, infrastructure Diversified Telecoms, consumer products, financial services, energy, insurance, property Consumer products, financial services, agriculture, energy, infrastructure Technology, consumer products, retail, manufacturing, financial services, diversified, infrastructure, telecom media Diversified Diversified

Closed 27May11 Closed 11Feb10 Raising Raising

Capital Alliance Private Equity III Pan African Investment Partners II Carlyle Africa Fund Ethos Private Equity Fund VI 8 Miles Fund I EVI Capital Buyout Fund

Growth Growth Buyout Buyout

450 492 750 750

Raising Raising

8 Miles EVI Capital

Buyout Buyout

450 400

Source: EMPEA Industry Statistics, Q3 2011 release

Private equity roundup Africa

Fund-raising (... continued)

An increasing number of specialist funds focused on sectors such as natural resources, infrastructure and renewable energy are being formed. However, the growth of PE investment in Africa is expected to be driven by funds targeting consumer-focused industries.
Figure 5. Africa fundraising versus other key emerging markets
120.0% 100.0% 80.0% 60.0% 40.0% 20.0% 0.0% Multi-Region SubSaharan Africa MENA LatAm & Caribbean CEE & CIS Emerging Asia (exJANZ)

Investments by local pension funds set to grow


Pension funds have traditionally been the backbone of the PE investor base throughout the developed markets, providing approximately 25% to 30% of the total capital invested in the asset class. In the emerging markets, however, local pensions have been less active in PE, but this is changing. Regulators in Latin America, emerging Asia and Africa are becoming more comfortable with PE, and are enacting reforms that will allow local funds to invest in PE, providing an additional crucial pillar of support for regional funds. In Kenya, the Retirement Benefit Authority (RBA) and the Capital Markets Authority (CMA) are reviewing regulations that have required pension investors to seek special approval prior to making an investment in PE. This requirement has effectively limited the amounts that pension funds can invest. Regulators in Nigeria have taken similar steps, allowing pension funds to invest up to 5% of their assets in PE funds a move that could unlock more than US$600m in fresh capital for PE investment. In South Africa, regulations have also changed recently to allow for increased levels of investment into PE by local pension funds.

2007

2008

2009

2010

2011

Source: EMPEA Industry Statistics, Q3 2011 release

February 2012

Transactions

Deal values in Africa increase; opportunities beckon for knowledgeable PE investors


The total value of PE transactions in Africa continues to rise. While South Africa attracted the greatest PE investment over the last two years, investor interest in opportunities outside of South Africa is increasing. According to the Emerging Markets Private Equity Association (EMPEA), the value of PE investment in sub-Saharan Africa rose 38% in the first half of 2011 from the same period a year ago
Figure 6. Selected deals in Africa 2010 and 2011 Announced date 3Oct11 19Sep11 30Aug11 6Jan11 11Sep11 26Oct11 12Jan10 13Jul11 27Jul10 14Mar11 8Mar10 Company Tracker Network Ltd. Eaton Towers Universal Industries Corporation Ltd. InterSwitch Ltd. Rift Valley Railways IHS Nigeria plc Seven Energy Nigeria Ltd. (minority %) Denny Mushrooms Ltd. Mediterranean Smart Cards Co. Metago International Holdings C & I Leasing plc Deal value (US$m) 434 150 184 110 110 52 48 38 30 11 10

(US$186m to US$256m). This increase took place even though the number of deals in the region fell from 25 transactions in the first half of 2010 to 21 in the first half of 2011. By the beginning of December 2011, investments in sub-Saharan Africa had reached approximately US$1.7b. While firms looking to invest in Africa face unique challenges in identifying and completing deals, PE opportunities in Africa offer the possibility of higher returns compared to many other parts of the world, especially in current global economic conditions.

Country South Africa Ghana South Africa Nigeria Kenya Nigeria Nigeria South Africa Egypt South Africa Nigeria

Firm Actis Capital LLP, RMB Ventures Ltd. Capital International, Inc. Ethos Private Equity Ltd. Helios Investment Partners LLP, Adlevo Capital Managers LLC Citadel Capital, African Agriculture Fund, IFC Emerging Capital Partners ECP, Investec Africa, Frontier Private Equity Fund LP Capital International Inc., Standard Chartered Private Equity RMB Ventures Actis Capital LLP 3i Group plc Aureos Capital Ltd.

Source: Dealogic, Thomson One, Bloomberg.com

Private equity roundup Africa

Transactions (... continued)

PE provides capital and expertise to expand product lines and geographic reach
The two largest transactions completed in 2010 and 2011 both involved South African companies. Actis Capital, a PE firm based in the UK with a significant presence in South Africa, led a consortium to acquire vehicle tracking and recovery services firm Tracker Network in a deal valued at US$434m. While larger than most African deals, it represents a prototypical investment in the region. Actis acquired a 40% minority stake in the company, which is a market leader in the vehicle recovery market. And with South Africa currently having the highest vehicle theft rate in the world, the market is ripe with potential avenues for expansion. Insurance companies are seeking to better quantify their risk by increasing their understanding of driving habits, while fleet managers are seeking to minimize costs through identifying efficiencies and synergies. Actis has indicated that it does not plan to expand Tracker Networks operations beyond South Africa within the three to seven-year investment horizon of the deal. While Actis seems focused primarily on domestic product line expansion in the Tracker deal, Ethos Private Equity is looking for opportunities to broaden the geographic scope of the food refrigeration and heating systems manufactured by Universal Industries Corporation, the firm in which Ethos made a US$184m investment in August 2011.

PE investment goals range from infrastructure improvement to social change


When identifying new investments in Africa, PE firms and their investors face the question of specialization. Should firms focus on large-scale investments involving a limited number of transactions, or should they build a diversified portfolio with a number of smaller deals?

Infrastructure opportunities
By some estimates, the aggregate investment required by Africa to fund the roads, ports, rail lines, telecommunication networks, farming and irrigation projects, and other infrastructure needs over the next decade is nearly US$500b. However, single-transaction investments in the hundreds of millions of dollars are not well-suited to the needs of the business environment in most African countries, which tend to be dominated by small and medium-sized enterprises (SMEs). Therefore, investors seeking to deploy large amounts of capital in Africa have found a number of their opportunities in the infrastructure space, where projects are taking place in a number of countries and are closely linked to their home countries government agencies. Consequently, governments must create and establish strong, transparent regulatory regimes that are favorable to outside investment. Infrastructure investments tend to have a long investment horizon, and investors may wait 10 years or longer to realize gains. Returns must not only be high, but they should be predictable and sustainable, according to one investment manager. These factors are especially important when the infrastructure projects are intended to serve the public sector.

Nigerias financial sector a hub of activity


A second major area of deal activity for PE is Nigeria particularly the banking and financial services sectors. While PE transactions involving Nigerian banks have not all gone smoothly, that has not decreased investor interest in the area. In January 2011, Helios, joined by Adlevo Capital, completed a US$110m investment in InterSwitch, a provider of electronic payment systems. The investment by Helios has been followed by additional capital from World Bank member IFC committed in late 2011. InterSwitch plans to use the capital to expand its operations outside of Nigeria. In a separate deal, Aureos Capital invested US$10m in March 2010 in C&I Leasing, which provides operating and finance leases on a variety of asset classes.

Supporting SME growth


Some firms, however, have opted to focus on investments in SMEs. While some investors deploy capital directly to the SMEs themselves, many PE firms choose to place capital with Africa-based intermediary companies that specialize in researching and investing in SMEs. PE firms that have followed this strategy include Jacana Ventures and Summit Development Group. Investments in SMEs bring social as well as economic change, a stated goal of PE firms in this category.

February 2012

Exits

Keys to success: a knowledge of local business culture and a focus on strong management
Fundamentally, in order to capitalize on returns, the most successful PE investors in Africa should have a thorough knowledge of: Local business culture in their target markets The strength of personal business relationships between key executives on both sides of a deal is often a major factor in the deals confirmation and execution. Family businesses Family members in top executive roles or with large controlling stakes may be reluctant to cede control to a group of investors perceived as outsiders. In order for deals to succeed, terms between PE firms and companies receiving capital must be defined early in the process. Management quality Executives leading the project or enterprise must have the skills to navigate the transformation brought by an inflow of new capital in order to realize high returns. PE investors have in turn brought: Capital Although the availability of capital is increasing, it is still fairly scarce in Africa. When debt is available from banks, this can be fairly expensive. Strategic direction PE investors are providing African entrepreneurs with the support required to turn good businesses focused in one country to great businesses servicing a region. Corporate governance and improvements in financial reporting and management.

M&A provides an alternative in Africa to the traditional IPO exit strategy


Data on exits from PE deals in Africa is limited, as many of the largest transactions are recent and others have yet to fully mature. The size and scope of many infrastructure projects can also add to the length of time required to realize capital gains. There are mixed opinions about the ease of exiting PE deals in Africa. However, experienced managers worldwide believe that there are adequate opportunities for winding down deals successfully. In fact, a recent survey by Coller Capital and the EMPEA found that only 14% of participants cited exit challenges as a factor that would reduce their likelihood of investing in Africa. Initial public offerings provide one exit route, especially for larger deals. African companies going public have listed on exchanges within their home countries; established regional exchanges such as South Africa, Nigeria and Ghana; and executed global listings such as Euronext Paris. Nonetheless, the vast majority of PE exits are occurring through traditional M&A as many as 95% of African PE exits, many through acquisitions by companies in similar industries, with strategic acquirers from outside Africa seeking an entry into local markets being an increasingly attractive exit option.

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Private equity roundup Africa

Outlook
For PE investors, the potential for attractive returns in Africa is high many PE firms have reported return multiples of 2.5 times on investments. Not surprisingly, these returns are drawing interest from investors throughout the world the research firm Preqin currently estimates that approximately 80 PE funds are raising capital to be deployed on opportunities in Africa. Historically, many of these funds have been led by government backed DFIs in Europe and the US, but they are now being joined by an increasing number of fund managers in the private sector. This trend is expected to continue into 2012 and beyond. In committing to opportunities in Africa, PE firms must be ready to be flexible in ways other markets might not demand. This flexibility includes attention to detail and readiness to respond quickly and creatively to obstacles on the ground. Unexpected hazards can create significant obstacles to a companys operations, and PE managers must be prepared to implement immediate and resourceful solutions. As one experienced GP says, If you are not willing to do that, you are going to fail. PE firms with investors based in Europe will face a new set of challenges starting in 2013. The European Unions Alternative Investment Fund Management Directive (AIFMD) restricts certain activities by investment managers, such as hedge funds, with activities outside Europe. Under the AIFMD, PE firms based in Africa will need to comply with heightened operational standards in marketing to European investors. While the full impact of AIFMD on the PE sphere cannot yet be forecast accurately, some sources predict that North America specifically the US will be at a comparative advantage in working with African companies. Perhaps most importantly, PE opportunities in Africa are currently marked by a lack of significant competition from other sources of capital. PE firms can often identify and pursue deals at their own speed and under their own terms. However, this freedom from competition is likely to change over the next several years, especially in more established markets and among higher-value deals, as more firms enter the region and more capital flows into the market from investors across the globe. As Africa accelerates along a steepening trajectory of growth, now is the opportune time for PE firms to make investments in Africa a high priority.

February 2012

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