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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.
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.
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
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
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.
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.
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
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.
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
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
Raising Raising
Buyout Buyout
450 400
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)
2007
2008
2009
2010
2011
February 2012
Transactions
(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.
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.
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.
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.
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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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