MIDLANDS STATE UNIVERSITY

FACULTY OF COMMERCE DEPARTMENT OF BANKING AND FINANCE AN EVALUTION OF PRIVATE EQUITY INVESTMENT IN EMERGING MARKETS (1990-2010). BY

MARVELOUS NGUNDU STUDENT NUMBER R0825331V SUPERVISOR: MR CHIGAMBA

This dissertation is submitted in partial fulfillment of the requirements of the Bachelor 0f Commerce in Banking and Finance Honours Degree in the Department of Banking and Finance at Midlands State University May 2012 Gweru: Zimbabwe

APPROVAL FORM

The undersigned certify that they have supervised the student Marvelous Ngundus dissertation entitled An Evaluation of private equity investment in emerging markets (1990-2010) submitted in Partial fulfillment of the requirements of the Bachelor of Commerce in Banking and Finance Honours Degree at Midlands State University.

SUPERVISOR

.. DATE

. CHAIRPERSON

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. EXTERNAL EXAMINER

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RELEASE FORM

NAME OF STUDENT:

MARVELOUS NGUNDU

DISSERTATION TITLE:

An Evaluation of Private Equity Investment in Emerging Markets (1990-2010)

DEGREE TITLE:

Bachelor of Commerce in Banking and Finance Honours Degree

YEAR THIS DEGREE GRANTED:

2012

Permission is hereby granted to the Midlands State University Library to produce single copies of this dissertation and to lend or sell such copies for private, scholarly or scientific research purpose only. The author reserves other publication rights and neither the dissertation nor extensive extracts from it may be printed or otherwise reproduced without the authors written permission.

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3 Kudu way Mshumavale Kadoma Zimbabwe

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May 2012

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DEDICATIONS
This dissertation is dedicated to my parents, brothers and sisters for their unwavering support, love and compassion. They beat me to it!

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ACKNOWLEGDEMENTS
As with any major building project, it takes a great team to make all the elements come together in a book. I am grateful for all the support I have received whilst researching and writing up this dissertation. I would like to thank Mr Chigamba, my supervisor on this dissertation, for his challenging, yet always supporting, comments and suggestions, as well as for his guidance in my academic career. Without his expertise, this study would not have been possible. Thanks for encouraging me to put my heart on paper. I would also like to thank my lectures on the Department of Banking and Finance especially Mrs Santu for her thorough remarks and insights as well as her continued suggestions and encouragement. My appreciation also goes to Mr J Nkomazana, regression guru, for always being available to lend a helping hand. A reserved acknowledgment goes to my immediate family for all the financial and moral support. You know me the best; you love me the most and have supported me in all my endeavours. I love you all very much. I also want to thank my life partner Misper for generously giving me a well-needed boost to complete this work. Last but not least I acknowledge the contribution of my friends especially Donaldson, Raphael, Clever and Conilius to whom I owe invaluable inspiration and reassurance.

TO PAPA GOD BE THE GLORY

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ABSTRACT
Over the twenty year period spanning from 1990 through 2010, private equity investments have grown exponentially, both globally and in emerging markets, making private equity investors and funds increasingly important actors in emerging markets necessitating the need to understand how private equity investments influence economic growth through entrepreneurship. In this study, the researcher examine the hypothesis that private equity investors in emerging markets are entrepreneurial i.e., are more focused on creating new firms or growing and globalizing existing ones, based on a sample of ten emerging countries namely, Zimbabwe, South Africa, Egypt, Nigeria, China, India, Brazil, Mexico, Russia and Turkey. Using Ordinary least Squares (OLS) regression, the researcher employed E-views 3.1 to examine the hypothesis outlined above. The study found out that private equity investors in emerging markets can initiate new ventures and grow or globalise the existing firms. The findings of this study are highly relevant to emerging markets because of their urgent need for risk capital to finance all kinds of infrastructures. Hence, policy makers in emerging countries like Zimbabwe should focus on the creation of an adequate setting for a prospering Private Equity market to support investments, growth, competitiveness and entrepreneurship activities. On the whole, private equity investment in emerging markets encourages entrepreneurship activity, a primary catalyst of economic growth.

TABLE OF CONTENTS APPROVAL FORM ................................................................................................................... i RELEASE FORM ......................................................................................................................ii DEDICATIONS ....................................................................................................................... iii ACKNOWLEGDEMENTS ...................................................................................................... iv ABSTRACT ............................................................................................................................... v TABLE OF CONTENTS .......................................................................................................... vi LIST OF FIGURES .................................................................................................................. ix LIST OF TABLES ..................................................................................................................... x LIST OF APPENDICES ........................................................................................................... xi LIST OF ACRONYMS ...........................................................................................................xii CHAPTER ONE: INTRODUCTION ........................................................................................ 1 1.1 Introduction ...................................................................................................................... 1 1.2 Background of the study .................................................................................................. 1 1.3 Statement of the problem ................................................................................................. 4 1.4 Objectives of the study ..................................................................................................... 4 1.5 Hypotheses of the study ................................................................................................... 4 1.6 Significance of the study .................................................................................................. 4 1.7 Assumptions of the study ................................................................................................. 5 1.8 Scope of the study ............................................................................................................ 5 1.9 Limitations of the study.................................................................................................... 5 1.10 Definition of terms ......................................................................................................... 5 1.11 Organisation of the study ............................................................................................... 6 CHAPTER TWO: LITERATURE REVIEW ............................................................................ 7 2.1 Introduction ...................................................................................................................... 7 2.2 Theoretical literature ........................................................................................................ 7 2.2.1 Private Equity defined ................................................................................................... 7 2.2.2 Structure of Private Equity Industry.............................................................................. 9 2.2.3 Venture Capital ............................................................................................................. 9 2.2.4 Leveraged Buyout ......................................................................................................... 9 2.2.5 Mezzanine Investment................................................................................................. 10 2.2.6 Secondaries / Fund of Funds ....................................................................................... 10 2.3 Structure of Private Equity Market ................................................................................ 11
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2.4 Overview of Emerging Markets ..................................................................................... 14 2.5 Empirical literature review ............................................................................................. 15 2.6 Private Equity Investments in Emerging Markets.......................................................... 17 2.6.1 Defining Entrepreneurial ............................................................................................. 18 2.6.2 Initiating new ventures through venture capital .......................................................... 19 2.6.3 Green field investments ............................................................................................... 20 2.6.4 Creating new companies through joint ventures ......................................................... 20 2.6.5 Growing and globalizing portfolio companies ............................................................ 20 2.7 Private Equity activity in Emerging Markets ................................................................. 21 2.8 Summary ........................................................................................................................ 22 CHAPTER THREE: RESEARCH METHODOLOGY .......................................................... 23 3.1 Introduction .................................................................................................................... 23 3.2 Unit root test ................................................................................................................... 23 3.3 Cointergation analysis .................................................................................................... 23 3.4 Specification of model ................................................................................................... 23 3.5 Estimation procedure...................................................................................................... 24 3.6 Justification of the variables ........................................................................................... 25 3.6.1 Venture Capital ........................................................................................................... 25 3.6.2 Green field investments ............................................................................................... 25 3.6.3 Joint Ventures.............................................................................................................. 25 3.6.4 Leveraged Buyout ....................................................................................................... 26 3.6.5 Error term in the function ............................................................................................ 26 3.7 Data types and sources ................................................................................................... 26 3.8 Summary ........................................................................................................................ 26 CHAPTER FOUR: RESULTS PRESENTATION AND ANALYSIS ................................... 27 4.1 Introduction .................................................................................................................... 27 4.2 Unit root results .............................................................................................................. 27 4.3 Econometric model results ............................................................................................. 28 4.4 Interpretation of results .................................................................................................. 29 4.5 Summary ........................................................................................................................ 30 CHAPTER FIVE: SUMMARY, CONCLUSION AND RECOMMENDATIONS................ 31 5.1 Introduction .................................................................................................................... 31 5.2 Summary of the study .................................................................................................... 31
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5.3 Conclusion...................................................................................................................... 32 5.4 Recommendations .......................................................................................................... 32 5.5 Suggestions for further research ..................................................................................... 34 REFERENCES ........................................................................................................................ 35 APPENDICES ....................................................................................................................... xiii APPENDIX 1 ..................................................................................................................... xiii APPENDIX 2 ...................................................................................................................... xiv APPENDIX 3 ....................................................................................................................... xv APPENDIX 4 ...................................................................................................................... xvi APPENDIX 5 .....................................................................................................................xvii APPENDIX 6 ................................................................................................................... xviii APPENDIX 7 ...................................................................................................................... xix APPENDIX 8 ....................................................................................................................... xx APPENDIX 9 ...................................................................................................................... xxi

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LIST OF FIGURES

Figure 2.1: Structure of PE Market.................................................................................12

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LIST OF TABLES

Table 2.1 Private Equity Investment Stages ..................................................................... 13 Table 4.1 Unit Root Results .............................................................................................. 27 Table 4.2 Correlation Matrix ............................................................................................ 28 Table 4.3 Presentation of Results...................................................................................... 28

LIST OF APPENDICES

Appendix 1 Regression Results ....................................................................................... xiii Appendix 2 Unit Root Test for PEIEM ........................................................................... xiv Appendix 3 Unit Root Test for VC ................................................................................... xv Appendix 4 Unit Root Test for GFI ................................................................................. xvi Appendix 5 Unit Root Test for JV .................................................................................. xvii Appendix 6 Unit Root Test for LBO ............................................................................. xviii Appendix 7 Unit Root Test for Residual ........................................................................ xix Appendix 8 Correlation Matrix ......................................................................................... xx Appendix 9 Data Set ........................................................................................................ xxi

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LIST OF ACRONYMS
PE EM PEIEM VC GFI JV LBO IPO FDI GDP IMF EMPEA MENA SMEs Private Equity Emerging Markets Private Equity Investment in Emerging Markets Venture Capital Greenfield Investment Joint Venture Leveraged Buyout Initial Public Offering Foreign Direct Investment Gross Domestic product International Monetary Fund Emerging Markets Private Equity Association Middle East and Central Africa Small-Medium Enterprises

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CHAPTER ONE: INTRODUCTION

1.1 Introduction Investor interest in emerging market private equity is coming somewhat from the desire for an absolute return, but it is also part of the growing interest in alternative investment generally. In this study, the researcher evaluates private equity investment in emerging markets. A brief background to the study together with the problem statement is provided in this Chapter. The Chapter also contains the Objectives which were pursued by the study together with the research hypotheses which the researcher sought to test. The significance of the study and the main assumptions made in carrying out the investigation are also provided. The Chapter also contains the delimitations or scope of the study and the major challenges or limitations which the researcher faced. 1.2 Background of the study Private equity (PE), which was relatively unknown in the early 1980s, has become an important asset class in global financial markets. A number of studies have documented the key role that PE plays in developed countries entrepreneurial performance as PE-backed firms create more innovations, employment and growth than their peers. While the structure and consequences of private equity investment in the developed countries especially United States and Great Britain are increasingly well understood, far less is known about the private equity investments in emerging economies. There now exists a broad consensus that a strong PE investment is a cornerstone for commercialization and innovation in emerging markets. In the early 1990s, emerging markets were largely characterized by family-owned companies with limited access to capital markets and small lines of credit through traditional bank financing. National savings pools were small, current accounts were typically in deficit and capital markets tended to be shallow. Given such constraints on capital and equity supply, emerging market companies were attracted to private equity funds as a source of growth capital. Moreover, emerging markets seemed like fertile ground for this tested and successful paradigm. With the unprecedented returns generated from the surge in US equity markets, institutional investors were on the look-out for new opportunities. They also began to worry that the enormous increase of capital flowing into U.S. private equity would outpace the supply of high return investments. The door opened wide, therefore, for those with an appetite for emerging market risk.

Foreign fund investors were equally keen on emerging market companies. Target businesses were often undervalued in an atmosphere of fierce competition for undersupplied capital, implying higher rates of return on investment and favourable global economic conditions. The global economy was in a period of growth and relative macroeconomic stability by the mid-1990s. Inflation and interest rates were down and policy makers worldwide embraced the wisdom of open markets without barriers to competition securing investors confidence in emerging markets manageable risk (Leeds and Sunderland, 2003).Investors also had a robust appetite for risk and they were handsomely rewarded in the U.S. venture capital tech boom of the mid 1990s, having acquired significant gains in industrialized financial markets through private equity investments. The current of globalization aligned investors with potentially high return investment opportunities while providing target companies funding and expansion consultancy to gain competitive prowess in global markets. From little to no private equity history in previous decades, emerging markets quickly amassed sizable funds within a short period of time. According to the authors of Private Equity Investing in Emerging Markets, private equity funds ballooned in emerging markets. By the end of 1999, there were more than 100 Latin America funds, where virtually none had existed earlier in the decade. Between 1992 and 1997, the peak years for fund-raising in Latin America, the value of new private equity capital grew by 114% annually, from just over $100 million to over $5 billion. In the emerging markets of Asia, about 500 funds raised more than $50 billion in new capital between 1992 and 1999. As the transition to market economies in Eastern Europe took hold in the mid-90s, the rapid growth of private equity told a similar story (Leeds and Sunderland, 2003). The spurt in investment was further aided by high-risk stakes taken on by bilateral international development institutions such as the Overseas Private Investment Corporation, the U.S. Agency for International Development (USAID), the European Bank for Reconstruction and Development and the International Finance Corporation (IFC). Development institutions were often among the first to test emerging markets because of their primary interest in furthering international development through the private sector. Investors confidence was cajoled by the participation of these development institutions, whose successful early funds hinted at high potential returns in emerging markets.

Beginning in the late 1990s and early 2000s, American-style private equity funds in emerging markets began delivering disappointing results in comparison to expectations and similar funds in industrialized regions. Explaining this failure, Leeds and Sunderland point to emerging markets low standards of corporate governance, limited legal recourse and dysfunctional capital markets (2003). It is also worth noting that late 1990s fund returns were uncharacteristically high in the United States and Europe because of the tech-IPO bubble, providing a skewed and unrealistic measuring stick for emerging market funds performance. In a 2004 industry survey of 26 investors with an aggregate $108 billion managed funds, the Emerging Markets Private Equity Association (EMPEA) reported overall investor dissatisfaction with emerging market return on investment rates. Reasons cited centred on weak macroeconomic variables such as currency volatility and market liquidity, conflicting cultural perceptions on entrepreneurial cooperation and market access and managerial issues such as high turnover in target companies, little general partner operational control of portfolio companies and insufficient risk mitigation strategies (EMPEA, 2004). But in just three more years, the same EMPEA annual survey conveyed buoyed investor confidence and optimistic expectations. In a nut shell, Private Equity firms involvement in emerging markets has increased over the past years fuelled by a number of factors, including these markets superior growth rates in GDP and their increasingly high returns in recent years of private equity. According to BCG November 2010 Research titled Will emerging markets reshape private equity, between 2005 and 2009, emerging markets share of the total number of private equity deals more than doubled from 12% to 30%, while their share of total deal value nearly tripled from 8% to 12%.This jump was broadly in line with growth in emerging markets global economic weight. Given the above background, is private equity solely an exercise of financial engineering or is it an ownership model capable of producing sustainable improvement in business? This is an important question as policy-makers address the question of a new financial architecture for an emerging market in distress like Zimbabwe.

1.3 Statement of the problem While private equity investment (risk capital finance) has been an important component of the entrepreneurial process in a number of developed countries, it has not realized its promise in emerging economies. Rather, the risk capital supply in these economies is small, but the proportionate need for financing new ventures, underperforming and distressed firms with risk profiles that are unappealing to banks and security markets is high. However, what is valid for industrial countries should be even more important for emerging markets and if private equity has indeed been a stimulus for economic expansion in developed nations then this alternative investment asset class should be more widely adopted and encouraged as a vehicle for entrepreneurship and economic growth engine, in non-industrialised nations like Zimbabwe. 1.4 Objectives of the study The objectives of this study are to: Determine if private equity investment in emerging markets can create new firms or grow and globalize existing ones and, Identify lessons to improve its effectiveness in order to support private sector development through the use of private equity instruments. 1.5 Hypotheses of the study This study was done to test the following hypotheses: H0: Private equity investors in emerging markets are not entrepreneurial H1: Private equity investors in emerging markets are entrepreneurial i.e. are more focused on creating new firms or growing and globalizing the existing ones. 1.6 Significance of the study To the corporate world, the study may get to have an eye opener on the alternative investment that emerging markets in financial distress like Zimbabwe can adopt to ensure economic growth. It may also be very useful to private equity investors in improving their performance in emerging markets, and on the other dimension to emerging markets in attracting this alternative class of investment. From a theoretical perspective, it adds to the prevailing theories on private equity investment in emerging markets.

1.7 Assumptions of the study In order to make this research possible, the student has found it necessary to assume that: All emerging markets share similar common economic attributes The results attained from the study can also be applicable to Zimbabwe since it is also an emerging market. The sample chosen is a true representative for entire emerging markets.

1.8 Scope of the study The study was conducted in Zimbabwe and it incorporates a sample of ten emerging markets two from each of the following five regions; Southern Africa, MENA, Emerging Asia, East and Central Europe and Latin America. The data set used in this research is purely secondary annual data for the period spanning 1990 through 2010. 1.9 Limitations of the study In conducting this study, the researcher faced the following challenges: Most of these studies focus on private equity transactions in developed countries using empirical studies of completed and exited transactions. Similar empirical studies are hard to replicate in emerging markets due to data limitations, nascent level of private equity transactions and the fact that most transactions are recent and have not exited yet. Lack of rigorous studies focused on successful entrepreneurs in emerging markets. At present, such work is limited to a handful of case studies. Are there common features of successful entrepreneurship in developing countries, and to what extent are they different from features of successful entrepreneurship in places such as the United States? 1.10 Definition of terms The researcher use the term portfolio companies to refer to companies that receive private equity investments, and are hence part of the portfolio of companies owned (fully or partially) by the private equity firm or fund. The total value of a company acquired by private equity, sometimes referred to the enterprise value, includes both equity and debt.

1.11 Organisation of the study This Chapter aimed at introducing the study by providing all relevant information and orienting the reader with the contents of the research. The Chapter outlined among others the Statement of the Problem, the Objectives of the study and the Research hypotheses to be tested by this study. The study is organised into five chapters. Following this introductory chapter is chapter two in which the theoretical framework is presented basing on previous emerging markets private equity literature. Based on this theoretical background, a private equity model is proposed, including hypotheses to be tested. Chapter three describes the research methodology and also discusses the methodology of spanning tests. The research methodology for this dissertation is predominantly quantitative. Hence, the research is derived from industry-related books, journals and articles. Chapter four reports the findings of the study, it presents and interprets test results and finally chapter five will summarise all work done in the study and provide conclusions and recommendations pertaining to the findings in chapter four.

CHAPTER TWO: LITERATURE REVIEW

2.1 Introduction This chapter discusses theoretical and empirical literature concerning private equity investment in emerging markets. Literature has not yet produced a fully-fledged model of private equity investment applicable to the context of emerging economies as compared to other disciplines such as developed markets especially USA and UK. Thus there is a need for empirical studies that test the validity of private equity investment theory in emerging countries. 2.2 Theoretical literature The impact of private equity investment has been studied in the literature from several angles, but most of these studies focus on private equity transactions in developed countries, using empirical studies of completed and exited transactions. Similar empirical studies are hard to replicate in emerging markets due to data limitations and the fact that most transactions are recent and have not exited yet. However, since 1990s, there has been a ray of sunshine for the hard-pressed private equity industry in emerging markets because of their secular and assumed economic growth story. Hence, many private equity investors are looking to the worlds emerging economies in private equity instruments and strategies to seek optimal returns in opaque or inefficient markets although these investments carry increased risk. 2.2.1 Private Equity defined Over the past few decades, financial investors in developed countries have increasingly diversified their portfolios with a view to broadening their exposure to different sectors and regions within an ever changing global financial arena, while still seeking higher returns on invested capital. This phenomenon was a main driver behind the formation of alternative and innovative asset classes such as private equity. According to David Snow (2007) in his primer, Private Equity: A Brief Overview, private equity, in a nut shell, is the investment of equity capital in private companies. In other words private equity refers to medium to long-term shareholder capital investment in private companies as opposed to publicly listed companies. In broadest sense, it is an alternative asset class investment that can be used as a means of FDI and provides investors (both individual and institutional) with professionally managed investment vehicles for equity investing in unregistered securities of private and publicly-traded companies (Fenn, Liang
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and Prowse 1995). Sami explained private equity and its function at a 2002 Massachusetts Institute of Technology (MIT) Entrepreneurship Centre conference, Venture Capital in Turkey. Private equity is capital to enterprises not quoted on a stock market. Private equity can be used to develop new products and technologies, to expand working capital, to make acquisitions, to strengthen balance sheets and to resolve ownership- management issues (Sami, 2002). Moreover, (Leeds and Sunderland 2003) proposed that whether in developed or developing countries, a broad range of companies have a risk profile that inhibits their ability to raise capital through conventional channels, such as borrowing from banks or issuing public securities. Some are too new to have a convincing track record, others are over-burdened with debt, and still others have opaque financial reporting standards that discourage investors. At a certain stage of growth, however, these firms can no longer compete effectively without making new investments that are too large and costly to be financed from within. Private equity fills this gap between self-financing and conventional capital market activity. Target firms may be entrepreneurial start-ups, more established small and medium size firms, or troubled companies that investors perceive as undervalued (i.e. buy-outs). According to Fischbein (2005), private equity firms invest in new or existing enterprises with the purpose of increasing their value over the short or medium term. Private equity funds invest in different situations, including buyouts, where the fund invests in existing (often distressed) companies through the acquisition of a significant or controlling stake; venture capital, where they invest in start-up ventures, often based on technological innovations; or growth capital, where they provide capital to fast-growing companies (Learner and leamon 2008). Private equity funds maintain their investments for a limited period of time, typically five to ten years (Fourie, 2008). Fenn et al (1995) suggest that during this period, the portfolio company, in the case of buyouts, undergoes financial and operational restructuring or achieves its growth targets, or in the case of new ventures, the start-up matures. At the end of this period the private equity fund exits the investment by selling the company through an initial public offering (IPO) in the stock market, to other companies (trade sale), or to other financial investors (secondary buyout). Private equity funds usually capture significant profits that exceed the performance of publicly-traded companies; however, these returns reflect

higher risks and volatility, along with the illiquid nature of the investments during the investment period. Further details of all private equity investors are described below. 2.2.2 Structure of Private Equity Industry According to Jonathan Rotolo (2003), in his document entitled, Centre for private equity and entrepreneurship, private equity industry is generally composed of four major types of investors: Venture Capital, Leveraged Buyout, Mezzanine, and Secondaries / Funds of Funds investors. He explained each of the variables as follows: 2.2.3 Venture Capital A venture capital fund invests in early stage companies in need of capital for growth. Such an equity investment is often structured as a preferred stock security. It is rare for a venture capitalist to structure an investment in an early stage company as a straight debt instrument, as the start-up with unproven products and cash flow constraints would be unable to make the interest payments. Venture capitalists will usually take a minority, non-controlling stake in the company and may often syndicate the risk of the investment among a number of firms. Venture capital investments typically proceed according to a number of different stages. A pure start-up company will obtain its initial financing through a seed round. This round may not even be sourced from a venture capitalist but rather from an angel investor. An angel investor is a wealthy individual, acting alone or in a group, that makes small investments of his or her own personal capital in early stage companies. If the seed round is successful, the company will often require several rounds of venture financing before the investors are able to exit their investment through an initial public offering (IPO) or, more commonly, a sale to a strategic investor. 2.2.4 Leveraged Buyout A company entering into an LBO is typically a mature but underperforming entity with a proven product and stable cash flows. Often, an LBO candidate is a subsidiary of a larger company that has been underperforming or has become non-essential to the parent companys operations. An LBO fund is unlikely to undertake a transaction with a high growth technology company due to its unpredictable cash flows. Cash flow is essential to make interest payments on debt. Unlike a venture capitalist, an LBO investor will typically take a control position in the company, investing equity and structuring a combination of loans from various lending sources.

In analysing a transaction, the LBO investor will typically value a business based on a certain multiple of its EBITDA (Earnings Before Interest, Taxes, Depreciation and Amortization). The debt used in the transaction will be raised from the public and/or private markets through the issuance of high yield bonds and the commitments of commercial banks and other institutional lenders. The percentage of equity used in a transaction will vary depending on the investment climate and the projected cash flow of the company compared to its debt payments. Once the transaction has closed, the LBO firm will seek to improve the companys internal processes and structure so as to maximize its free cash flow available for interest payments and investments in growth projects. Once value has been created, typical exits include IPO, sale to a strategic buyer or sale to another LBO fund. 2.2.5 Mezzanine Investment A mezzanine investor is somewhat different from other direct private equity financiers due to its preference for investments in debt-like securities. A mezzanine investor receives securities which have greater seniority than equity in a companys capital structure, typically at the subordinated debt level. Such securities may feature an accumulating or current pay dividend and will often include equity warrants. Due to its lower risk tolerance and investment in less risky securities, the mezzanine investor typically receives a lower return than other private equity investors. These funds ability to generate returns are somewhat dependent on the IPO market since mezzanine financing is typically used to bridge the financing gap from the time a firm decides to issue public securities to when it is actually able to execute the sale of these securities. Recently, mezzanine funds have gained popularity and multi-billion funds have been raised. 2.2.6 Secondaries / Fund of Funds A secondaries fund is different from other private equity vehicles in that it does not invest directly in operating companies. Rather, it purchases interests in existing private equity funds, often at deep discounts, from limited partners who choose to monetize their investment before the typical 10-year period of a partnership has been completed. Similarly, a fund of funds investor is an asset manager that allocates capital among a number of private equity funds, including both venture and LBO funds. Through this approach, the fund of funds manager offers diversification and expertise to certain types of limited partners, such as small

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endowments and foundations that do not have the staff to manage the investment process effectively. 2.3 Structure of Private Equity Market According to Prowse (1998), the growth in private equity is a very good example of how organisational innovation coupled with regulatory and tax structures can lead to increased interest and activity in a specific market. The primary purpose of private equity was initially to fund risky start-ups and provide management support for such start-ups. The private equity market has seen significant growth since the early 1980s and has become an important mechanism for channelling capital through national and international markets, and funding business activities at various stages of development. In general, however, the private equity market has received relatively little attention in academic literature compared with other financial innovations. This may partly be due to the nature of private equity transactions; information about which is not always easily accessible. The basic structure of the private equity market is explained in Figure 2.1. The organised private equity market has three main role-players, namely (1) investors, (2) intermediaries and (3) issuers of private equity. The arrows in Figure 2.1 indicate the activity and the flow of that activity between the role-players. Pension funds, insurers and other investment companies are the main contributors on the investment side. The main reasons institutional investors may choose to invest via a private equity model is the expectation that risk adjusted returns will be higher than on other investments, as well as the implied benefits that diversification into private equity brings into their overall portfolio. The relationship between the investors and intermediaries often takes the form of a partnership.

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Figure 2.1 Structure of private equity market

Source: Prowse (1998) Partnerships generally consist of limited partners, who provide funding, and a team of professional general partners, who are actively involved in the sourcing of funds, investments and eventual management of the private equity investment. General partners or fund managers have a direct interest in developing and growing the business model, because they derive a return that is directly proportional to the growth of the business. Private equity companies that are affiliated to larger holding companies are known as captives and can be divided into various sub-categories, such as government and non-government captives. Intermediaries in developed nations are mainly made up of limited partners who manage approximately 80 per cent of private equity investments, while the developing nations utilise

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various other mechanisms for fund structuring due to a lack of legal structures that allow the establishment of limited partnerships (Lerner and Schoar, 2004). The issuers (targeted investments) of private equity vary considerably in their size and motivation for raising funds through this channel. One of the common characteristics shared by smaller issuers is the difficulty they have in raising financing from debt or public equity markets, and they thus opt for the more expensive private equity market (Prowse, 1998). The last set of role-players in the private equity industry is the information producers or agents and advisors who advise on possible target companies, identify sources of funds for private equity partnerships and evaluate partnerships for potential investors. The three main private equity investment stages, as explained in Table 2.1, involve venture capital, development capital and buy-out funding. Table 2.1 Private equity investment stages

Source: KMPG and South African Capital and Private Equity Association (2008). The final phase in a private equity investment transaction is the exit strategy in which, if things worked out as planned, the investors liquidate their private equity investment profitably. Exit strategies can take various forms, including, but not limited to, the following: Direct sale to new investors listing on stock exchanges Dividend payments to investors through debt recapitalisation

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 Secondary buy-out by another private equity firm. In short, private equity is both an asset class and an investment strategy. Distinguishing between the private equity asset class and the private equity investment strategy can be confusing and creates challenges for asset allocators (Tom Idzorek and Ibboston Associations 2007). Ideally, one could invest in a basket of all private corporations in which the weights of the companies in the basket are based on their true values. Such a basket would be a true representation of the private equity asset class. When investors make an allocation to private equity, it is not a passive investment in the basket of all private companies that form the private equity asset class. Rather, for most investors, the allocation to private equity is an investment in a skill-based strategy in which the two primary sub-strategies are leveraged buyouts and venture capital. The fragmented structure of the private equity market is such that private equity investors cannot fully-diversify away from private company specific risk; thus, all private equity investments are a mixture of systematic risk exposure to the private equity asset class and to private company specific risk. 2.4 Overview of Emerging Markets The Emerging Markets was a term coined by World Bank economist Antoine W. van Agtmael in 1981 in reference to nations undergoing rapid economic growth and industrialization. The term is often used interchangeably with 'emerging and developing economies'. The IMF classifies 150 countries as Emerging Markets based on the composition of countries' export earnings and other income from abroad; a distinction between net creditor and net debtor countries; and, for the net debtor countries, financial criteria based on external financing sources and experience with external debt servicing. In addition, the term emerging market is used to describe the economies of high-risk countries with nascent financial markets. In an International Monetary Fund (IMF) working paper entitled What is an Emerging Market?, Mody argues that emerging market economies are characterized by high levels of risk, higher volatility than advanced industrialized economies, the absence of a history of foreign investment and their transition to market economies. (Mody, 2004). Moreover, the term emerging market, coined by a World Bank Economist in the 1980s, refers to the market activity in countries that are considered to be in a transitional phase between developing and developed status. Emerging markets are countries that are working to
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restructure their economies to interface with market-oriented globalisation, providing opportunities in trade, technology transfers, and FDI via open door policies. These countries typically have large population and resources base, and are abandoning traditional state interventionist policies to seek sustainable economic growth. Emerging markets are the globes fastest growing economies and play a part in contributing to the worlds explosive trade growth; in time they are projected to become more significant buyers of goods and services than their industrial counterparts. Among others, Zimbabwe is one of these economies. 2.5 Empirical literature review The impact of private equity on the portfolio companies that they acquire has been studied in the literature from several angles, including impact on labor, wages and employment (Kearney 2007), productivity (Litchtenberg and Siegel 1987), performance and growth (Taylor and Bryant 2007), innovation, in the form of investments in research and development (litchtenberg etal 1990), and governance (Jensen 1989). Hellmann and Puri (2002), and Kortum and Lerner (2000) show that private equity backed companies are more efficient innovators. Belke et al. (2003) and Fehn and Fuchs (2003) prove that they create more employment and growth than their peers. Levine (1997) documents well the role of PE funds in fostering innovation and competitive firms, and indeed, there now exists a broad consensus that a strong PE market is a cornerstone for commercialisation and innovation in emerging economies. The overarching hypothesis in this type of research is that private ownership of companies by private equity funds affects their behaviour and performance, compared with public ownership in the form of publicly-traded corporations. Historically, this research has been motivated by a vigorous debate in developed countries with a long history of private equity transactions on whether private equity ownership, especially in leveraged buyout (LBO) situations, has a positive or negative impact on the portfolio companies. On the one hand, proponents argue that private equity ownership improves the governance and increases the productivity and profitability of otherwise distressed or low-performing companies. (Rappaport 1990) argues that private equity ownership provides a short-term shock therapy that improves the performance and governance of distressed or low-performing companies. (Jensen1989) argues that the concentrated ownership of private equity firms in LBO
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situations provides a superior ownership and governance structure over the long term, compared to the public corporation model. On the other hand, opponents argue that private equity firms capture significant financial profits by taking a short-term approach by aggressively cutting costs, reducing employment through layoffs, and reducing investments in the future of the company (for example in research and development). The most comprehensive look at the impact of private equity on portfolio companies came in a recent set of working papers on the globalization of alternative investments and the global economic impact of private equity, published by the World Economic Forum 2008, which examined these effects through several large-scale econometric studies using a data set of global private equity transactions executed over the past three decades, and through six case studies of private equity transactions in Europe, China and India. In addition to the literature covering the LBO model, there is an extensive literature covering venture capital in developed countries, and its role in supporting entrepreneurial ventures (Hellman etal 2002; Gompers and lerner 2004); however, there is limited literature covering venture capital in emerging markets. Even though, the urgent need for capital in emerging markets is evident. The growth potential is enormous and deserves capital to be exploited. This capital can be provided by financial institutions that specialise in risk capital investments in SMEs or young firms. Hence, Da Rin,M Nicodano and Sembelli (2006) argue that policymakers should focus on the creation of an adequate setting for a prospering PE market to support investment, growth, competitiveness, and entrepreneurial activities, especially in emerging countries . However, the risk capital supply is rather small in emerging markets, even if institutional investors are increasingly looking internationally for new investment opportunities. Armour and Cumming (2006) confirm this rationale and show that government programms often hinder rather than develop of PE markets. One would expect emerging regions to attract PE investors due to the assumed economic growth rates, and the proportionate need for financing, especially for non-quoted corporations. Gompers et al (1998) examines the forces that affect independent PE fundraising in the US. They conclude that regulatory changes affect pension funds and overall economic growth, while fund specific performance and reputation affect fundraising. They point out that there are more attractive opportunities for entrepreneurs if the economy is large and growing. Wilken (1997) argues that economic development facilitates
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entrepreneurship, as it provides greater accumulation of capital for investment. Romain and Van Potterlsberghe de la Potterie (2004) find that PE activity is related to GDP growth. 2.6 Private Equity Investments in Emerging Markets While this body of empirical literature provides an understanding of the impact of private equity on portfolio companies, some of the findings are primarily based on transactions data from developed countries, and it is not clear if they can be extended to emerging markets. Most of these studies are based on transactions in the United States and the United Kingdom, and even when the data set includes global transactions, the majority of these transactions are still in developed countries. These large-scale empirical studies cannot be replicated for emerging countries private equity in the near future because of the limited number of transactions, and the fact that most of these transactions were initiated over the past few years and have not yet been exited (Lerner, Stromberg and Sorensen 2008). From a theoretical point of view, the researcher expects the outcomes of these studies to differ between developed countries and emerging countries due to several factors. Among these factors are the different market conditions and stages of development; the different value creation strategies used by the private equity firms; and, the difference in the companies acquired in terms of their size, business challenges, governance, and management capabilities. For example, the typical business model for private equity funds in developed countries, especially in leveraged buyout transactions, is to acquire companies that are suffering from financial, operational or management problems, and to restructure them to become more profitable and hence, increase their value. The restructuring process, more often than not, is associated with replacing management, changing the financial structure to include higher leverage, aggressively cutting costs and reducing labour, downsizing or closing less profitable business units and, sometimes, breaking up the company into smaller entities that may be more valuable separately, or divestment of some assets, especially real estate assets that maybe of high cash value on their own. However, analysts observe that private equity transactions in emerging markets show different value creation strategies, with a greater emphasis on growth. For example, changes in management are focused on strengthening and professionalizing the management team; changes in governance are focused on establishing a board where it did not yet exist
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(especially in recently privatized state-owned enterprises, or family-owned businesses) or adding stronger members to existing boards; changes in financial structure, while still benefiting from high leverage, are focused on providing capital for new investments in new facilities or on regional/global growth. For example, Fang and Leeds (2008d) cite a similar trend in India and extend this argument to other emerging economies at similar stages of development. Like most private equity transactions in India, as well as other emerging markets, it is noteworthy that these cases do not fit the profile of US and European buyouts both involved minority investments rather than control, leverage was not a factor, and although major financial and operational restructuring was extremely important, neither transaction involved disruptive layoffs, management changes or other features that have been targeted by critics of Western buyouts. On the contrary, the cases illustrate that for economies like India that are in the midst of major structural changes, there are ample opportunities for more traditional growth capital investments in companies that are expanding rapidly, especially in sectors like retail and telecoms that are undergoing consolidation. By contrasting the differences between the private equity value creation strategies in developed countries versus emerging markets, this study hypothesize that the impact on the portfolio companies is substantially different, and likely to be positive and entrepreneurial. 2.6.1 Defining Entrepreneurial Schumpeter (1961) puts the entrepreneur at the core of economic growth, as the innovator of new ideas, the risk taker, the agent of change, and the creator of new businesses. In this study, the research approach focuses on understanding these entrepreneurial value creation strategies used by private equity firms in emerging markets and how they impact the portfolio companies. Specifically, the study hypothesize that private equity firms have a positive impact on the companies that they acquire in emerging economies because they act as catalysts for initiating, growing and globalizing portfolio companies. In other words, when private equity firms adopt these growth-oriented value creation strategies, they are likely to create positive outcomes for their portfolio companies as well as the broader economic development. Private equity funds initiate new companies through green field investments, venture capital investments, or by financing new joint ventures; they grow these companies by investing in new operations, manufacturing facilities, or systems; and they expand their scope of operations from domestic markets to regional and global markets. By doing so, they

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contribute to economic competitiveness in emerging markets. In this context, private equity firms play the role of a Schumpeterian entrepreneur. While initiating new ventures has often been in the realm of individual entrepreneurs; an analysis of the model used by Ayman Ismali (2010) to investigate the entrepreneurial impact of private equity investment in Egypt from 2003 to 2008 shows that private equity firms are actively engaged in initiating new companies as well as in supporting local entrepreneurs. He suggested that there are three different business models used by private equity firms to initiate new companies: venture capital, green field investments, and joint ventures. Ismali (2010) expressed his model to fit the econometric function as follows: PEIEM = f (VC,JV,GFI) where PEIEM is private equity investment in emerging markets, VC is venture capital, JV is joint venture and GFI is greenfield investment. His results showed that the above mentioned variables are significant to be used by private equity firms for initiating new ventures, growing and globalising the existing firms. 2.6.2 Initiating new ventures through venture capital Just to add to what have been discussed about this variable, Ismali (2010) define venture capital (VC) as the typical business model used in developed countries to invest in start-up companies. Venture capital firms undertake risky investments in unlisted start-ups or companies with high growth potential. Venture capital can be broadly classified based on the stage of development of the venture: Seed capital is used by start-ups to finance the early stages of product innovation and company building; second round financing is used by young companies to further develop or expand the range of products; and development financing is used by established companies to develop alternative products or expand through acquisitions. The venture capital business model is based on a portfolio approach, where the fund invests small amounts of money in a large number of start-ups, with the expectation that many of them would fail or have limited success, and the hope that one of them would become a blockbuster success that would provide significant profits on exit. Start-ups supported by venture capital are usually based on innovative business models or new technologies, where the market potential has not been proven or sized yet. They are usually risky and carry a high potential for failure. Large private equity buyout funds rarely invest in early-stage ventures that have not yet proven their success.

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2.6.3 Green field investments Another business model that some of the large private equity firms in emerging markets have adopted is initiating large green field companies in capital-intensive industries. These are industries where the private equity firm identifies an attractive opportunity; however, there are no existing companies operating in this area that they can acquire and grow, so they proceed to initiate a new business. 2.6.4 Creating new companies through joint ventures Another business model used by private equity firms to initiate new companies is through joint ventures (JV), which are partnership agreements between two or more companies to embark on a new business. In many situations, one of the companies is a multinational corporation that brings a specific product or manufacturing knowledge to the venture and the other partner is a local partner with market knowledge, distribution network, or privileged market access. Private equity firms join this venture as a provider of capital and business knowledge. These three business models venture capital, green field investments, and joint ventures highlight how private equity is initiating new companies in emerging economies, where private equity funds act as both the financier and risk taker. Throughout the past years, where the private equity model showed rapid growth, these funds were part of the creation of scores of new businesses in technology, infrastructure and other industries, with clear contribution to employment and economic growth. Absent the private equity model, it is unclear which, if any, of these ventures would have been initiated. 2.6.5 Growing and globalizing portfolio companies Growing a business seems like an intuitive goal that all companies would aspire toward, but that is not always the case. There are three reasons why companies do not always try to grow their business: (i) lack of will to grow, (ii) lack of skill to grow, or (iii) lack of capital to grow. The first is a matter of risk aversion, especially in many small and medium family businesses, where the owners may be satisfied with the profits generated, and may not be willing to take additional risk to grow the business. For example, Donckels and Frhlich (1991) compare objectives, values and strategic behaviour of family and nonfamily businesses using observations of 1,132 small and medium enterprises in eight European countries. They find that family businesses are typically risk averse, inwardly-focused, and demonstrate a conservative strategic behaviour. Risk aversion and fear of losing control of
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the business lead many family businesses to seriously limit their growth potential by not adopting generally accepted financial management policies. This risk averse behaviour is often compounded by the limited skills and human capital, especially in technical, marketing, or product design areas, and the limited access to capital to finance the growth opportunities. 2.7 Private Equity activity in Emerging Markets So why is there such a strong market for PE in the United States, or the United Kingdom, and why is activity zero or close to zero in many emerging countries for example Zimbabwe? Spatial variations in PE activity result from numerous factors. Partly, they can be explained by built-in bias mechanism. The whole investment process from institutional investors (the Limited Partners or LPs) to the finally-backed corporations is geographically biased: the largest, most prominent and most active institutional investors in the PE asset class are located in the United State PE market. However, and not only in the US, institutional investors allocate their capital via chains of agents and networks in certain regions, and among countries. These allocations follow, in principle, a simple rationale: First, there is a professional community required to support transactions and to establish the capital supply side. Second, there must be expectation for demand of the committed capital. The last elements along the chain of agents are private equity funds (the General Funds or GPs). They prefer spatial proximity in their investments to facilitate the transaction processes, monitoring and active involvement. It is popular for GPs to focus on a particular region, or just on one single country when searching for ideal opportunities. Hence, the geographical source of PE is generally not very distant from the demand. This built-in bias mechanism is intensified by the institutional investors international allocation approaches. Diversification needs urge the LPs to commit capital of funds that cover a particular country or region. Therefore, LPs make a geographical selection of promising spots. The selection follows in principle their expectations of the demand for PE, and their evaluation of the host countrys professional finance community.

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2.8 Summary Private equity ownership of portfolio companies affects companies in many ways. This has been demonstrated by many empirical studies using data sets of completed private transactions in developed countries. Changes are often made to employment, wages, productivity, performance, growth, innovation and governance. However, regardless of the country or culture, successful entrepreneurs share numerous traits, particularly during the critical start-up phase of launching a new business. They tend to have an uncompromising, single-minded persistence, a fierce determination to overcome adversity, and unbridled optimism, regardless of the odds. Private equity investing in emerging markets is akin to a start-up company, and successful practitioners must be endowed with a similar arsenal of personal characteristics not unlike the U.S. venture capital pioneers in the sixties. They too were hard pressed to convince skeptical investors to commit capital in high-risk companies with no track records; they also complained about ill-prepared and secretive entrepreneurs; and, long before the NASDAQ emerged as an IPO outlet for small companies, they had difficulty planning profitable exit opportunities.

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CHAPTER THREE: RESEARCH METHODOLOGY

3.1 Introduction This chapter seeks to explore the research methodology used by the researcher. A linear regression model will be used to present the relationship that exists between private equity investment in emerging markets and the explanatory variables in question. The variables under consideration are PEIEM, LBO, VC, GFI and JV. A statistical E-views package is used to fit a regression model for the data and an econometric investigation will be carried out to obtain the final results. 3.2 Unit root test Before estimating the model, it is necessary to examine the order of the integration series. By so doing, the researcher avoids the existence of spurious correlation between variables in a regression equation. The Augmented Dickey Fuller (ADF) test is employed to test for stationarity. Non stationary variables are made stationary by differencing and if the time series is differenced once to become stationary, then the original time series integrated to order one, that is 1(1). 3.3 Cointergation analysis Co-integration is relevant to the problem of determining the long run or equilibrium relationships. It allows the researcher to describe the existence of long run relationship among variables. The method to be used in this study is testing the stationarity of the residual. If the residual term is stationary at level that is 1(0), it implies that there is co-integration among variables. 3.4 Specification of model In modeling a PE investment function for EM, a linear econometric function was used on the basis of yearly data covering period 1990-2010 and a sample of ten emerging countries from Southern Africa (Zimbabwe and South Africa), Emerging-Asia (China and India), MENA (Egypt and Nigeria), latin-America (Brazil and Mexico), East and Central Europe (Russia and Tuckey). Two countries were randomly selected from each region just as shown on the preceding statement. The data for all the above listed countries was aggregated accordingly with relevant variables to form a solid value that will represent emerging markets.

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The researcher is going to adopt one model used by Ayman Ismail (2010) who investigated the entrepreneurial impact of private equity investment in Egypt from 2003 to 2008. The model can be specified as follows: PEIEM = f (VC, GFI, JV, LBO) Where : PEIEM VC GFI JV LBO Private equity investment in emerging markets Venture capital Greenfield investment Joint Venture Leveraged Buyout

The error term is included to capture the effects of other variables omitted from this model. Therefore the functional econometric model in this study is:

Where = autonomous level of investment and 1, 2, 3 and 4 are coefficients, which measure the changes in investment per unit change of the explanatory variable. 3.5 Estimation procedure The researcher adopted Ordinary Least Square (OLS) method in estimating the equation parameters. To justify the OLS, estimators are expressed solely in terms of observable quantities such that they can be easily computed. The strength of OLS method lies in its properties of best, linear, unbiased estimator (BLUE).The fact that it stresses linearity among variables; such variables are usually linearly related. Estimation of parameters using the linear specification form makes the parameters unbiased and significant. OLS is the best estimator for the research model because it minimises the sum of squared residuals and it maximises the coefficient of determination (R2).The model used is also a time series analysis and all the regressions or estimation of the model will be done using E-views.

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3.6 Justification of the variables While initiating new ventures has often been in the realm of individual entrepreneurs; an analysis of private equity transactions in emerging markets shows that private equity investors are actively engaged in initiating new companies as well as in supporting local entrepreneurs. There are four different business models used by private equity investors to initiate new companies: venture capital, green field investments, joint ventures and leverage buyouts. 3.6.1 Venture Capital In VC, the emphasis is on providing capital and management support to start-up firms/ventures and small businesses which do not have access to capital markets and cannot raise funds by issuing debt due to their limited operating history. As a result, VC should be considered as a variable because it does not only initiate new ventures but also grow and globalize the existing ones. 3.6.2 Green field investments In GFI, private equity firms act as the entrepreneur and initiate new capital-intensive companies. GFI constructs new operational facilities from the ground up. It occurs when multinational corporations enter into the country in form of FDI to start new ventures. Hence, there is a need to consider GFI as a variable because creation of more firms could result from an increase in FDI inflows. 3.6.3 Joint Ventures In JV, the emphasis is on supporting existing underperforming companies that have reached financial closure, (be it a private or public firm) as they start a new line of business through a joint venture. By so doing, the private equity investors commit their investment facilities in new facilities or expansion and modernisation of existing companies. As a result, forming a joint venture is a good way for growing existing firms and initiating new ventures so it must be considered as a variable.

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3.6.4 Leveraged Buyout This is a source of capital for underperforming entity with a proven product and stable cash flow. LBO investor seeks to improve the companys internal processes, structure and investments in growth projects. Hence, increase of high yield portfolio investment bonds may result to growth and globalisation of firms so LBO should be considered as a variable. 3.6.5 Error term in the function The error term is important for it captures the influence of all independent or exogenous variables that are excluded in the model. This is due to factors such as data unavailability, inaccuracy in estimation of the data and more just to mention a few. In this case the error term captures all the macro-economic factors that influence entrepreneurship activities of private equity investment in emerging markets. 3.7 Data types and sources The data set used in this research is purely secondary annual data obtained from various sources, which include publications and internet facilities. The study uses aggregate time series data for the following emerging markets; Zimbabwe, South Africa, Egypt, Nigeria, China, India, Brazil, Mexico, Russia and Turkey and other macro-economic variables for the period spanning 1990 through 2010. Most of the data used in this research are from World Bank, EMPEA publications and IMF. 3.8 Summary This chapter has given the methodological outline to be adopted in this study. The analysis set out the route for modeling specification and econometric procedures used in the study. The nature of this study provokes the use of comparative analysis thus the series of equations to consolidate the different aspect of determining the choice of currency into our comprehensive study. The estimation of the model and other tests were carried out using econometric views (E-views version 3.1).

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CHAPTER FOUR: RESULTS PRESENTATION AND ANALYSIS

4.1 Introduction This chapter will mainly focus on the presentation of the results of the estimated model and interpretation of results of the regression equation estimated using Econometrics Views (Eviews) computer package. When interpreting the results, the researcher will link results obtained to know theory and empirically tested models from other countries. 4.2 Unit root results Table 4.1 Variable ADF Statistic PE Investment in EM V C Investment Greenfield Investment Joint Ventures Leverage Buyouts Residual Term -4.736032 -3.828883 -2.580278 -2.697230 -3.294832 -5.717345 Critical 1% -2.2889 -2.2889 -2.2889 -2.2889 -2.2889 -2.2889 Critical 5% -1.9592 -1.9592 -1.9592 -1.9592 -1.9592 -1.9592 Critical 10% -1.6246 -1.6246 -1.6246 -1.6246 -1.6246 -1.6246 Order of Integration 1(0) 1(0) 1(0) 1(0) 1(0) 1(0)

Full set of these results is on appendix 2 to 7 The results in the table above show that all variables have been not differenced hence they are integrated of order I(0).All variables are stationary because the absolute ADF statistic is greater than the critical values at all levels. The results for the residual depict that there is no co-integration because the ADF t-statistic is greater than the critical values at I (0). All variables were tested for stationary using the Augmented Dickey-Fuller test (ADF) and the hypothesis used was as follows: H0: H1: (there is no stationary in the variables) (there is stationary in the variables)

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Table 4.2 Correlation Matrix GFI GFI JV LBO VC 1.000000 0.684618 0.731296 0.353000 JV 0.684618 1.000000 0.218928 -0.006947 LBO 0.731296 0.218928 1.000000 0.192831 VC 0.353000 -0.006947 0.192831 1.000000

Full set of these results is on appendix 8 The result on the table above shows that there is no severe multicolinearity problem. With reference to Gurajati (2004:372),if the use of high pair-wise or zero-order correlation between two regressors is high, for example if the coefficient is or greater than 0.8,then there is multicolinearity problem. 4.3 Econometric model results After testing unit roots of variables, all were found to be integrated of the same order, the researcher then proceeded to run an ordinary least squares regression (OLS) to determine the impact of the variables on investment. Based on the model estimated in the preceding chapter, the following results were obtained. Table 4.3: Presentation of results Variable INTERCEPT VC GFI JV LBO R2 = 0.988185 Adjusted R2=0.985232 DW = 2.133946 F-Statistic= 334.5654 The equation is as follows: PEIEM = 1.240595774e+10 + 0.7147228974*VC + 0.3949245565*GFI + 0.4693453752*JV + 1.266875614*LBO
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Coefficient 1.24E+10 0.714723 0.394925 0.469345 1.266678

Standard Error 5.05E+09 0.097543 0.066484 0.147339 0.451589

t-Statistic 2.455257 7.327285 5.940123 3.185476 2.805372

Probability 0.0259 0.0000 0.0000 0.0058 0.0127

The full data is on appendix 1

4.4 Interpretation of results From a statistical point of view R2 shows the goodness of fit of the model. Hence, a multiple coefficient of determination (R2) of 0.988185 implies that the explanatory variables explain almost 98% of how the model variables impacted on private equity investment in emerging markets between 1990 through 2010 and the other 2% is captured by error term. Statistically, the zone of no autocorrelation lies in the range of 0.93 to 2.19. Hence, a DW statistic of 2.133946 suggests that there is no autocorrelation since it lies in-between 0.93(du) and 2.19(dL). In essence, the fact that DW is greater than the multiple coefficient of determination rules out the possibility of spurious regression (Rule of thumb, DW>R2). The model reliability is strong for the f-statistic is very high with a figure of 334.5654. Theory suggests that any f-statistic value of at least five is significant (Gujarati 2004). The results show positive coefficients among all explanatory variables. This supports the positive relationship between PE investment in EM and venture capital, Greenfield investment, joint venture, leveraged buyout. These findings are consistent with findings of Ayman Ismali (2010). Thus, private equity investors act as financial entrepreneurs in emerging markets and have a positive impact on their portfolio companies because they act as catalyst in initiating large number of venture capital backed start-ups, joint ventures, Greenfield companies and last but not least leveraged buyout. In other words, when private equity investors adopt venture capital, Greenfield investment, joint ventures and leveraged buyout as growth creation-oriented value creation strategies, they create positive outcomes for their portfolio companies as well as broader economic development for emerging economies. All variables were found to have a significant impact on private equity investment in emerging markets, for a t-statistic of above 2 was depicted after carrying out the test. This means that private equity investors play the role of a Schumpeterian Entrepreneur. In this context, private equity funds initiate new companies through Greenfield investments, venture capital investments, or by financing new joint ventures and leveraged buyout. They grow their portfolio companies by investing in new operations, manufacturing facilities, or systems and expand their scope of operations from domestic markets to regional and global markets. By so doing, they contribute to economic competitiveness in emerging markets. Hence, private equity investors in emerging markets are entrepreneurial.
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4.5 Summary Results suggest that private equity investors participation in emerging markets promote the formation of new companies. They also grow and expand the existing firms. These private equity firms initiate or participate in the initiation of a large number of venture capital, joint ventures, green field companies and leveraged buyout. In venture capital, the emphasis is on providing capital and management support to individual entrepreneurs. In joint ventures, the emphasis is on supporting existing companies as they start a new line of business through a joint venture. In green field companies, private equity firms act as the entrepreneur and initiate new capital-intensive companies. And in leveraged buyout, they act as a source of capital for underperforming entity with proven product and stable cash-flow. Lastly, private equity firms increase the value of their portfolio companies through growth and regional/global expansion. Hence, private equity firms in emerging markets are indeed entrepreneurial.

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CHAPTER FIVE: SUMMARY, CONCLUSION AND RECOMMENDATIONS

5.1 Introduction Having evaluated and presented results of private equity investment in emerging markets. In this Chapter, the study shall be wrapped up by looking at four issues. First, an outline or a summary of all the work contained herein from Chapter one to Chapter four is provided. Second, it provides conclusions to this paper based on the objectives which were set and the results presented in the preceding Chapter. Third, it provides recommendations for all relevant stakeholders based on the results of the research objectives. Last, the paper will provide suggestions to future researchers on the areas which were not addressed by this research paper. 5.2 Summary of the study This study evaluated private equity investment in emerging markets. In chapter one, a brief background of the study and the statement of the problem identified were outlined. The objectives of the study and the research hypothesis to be tested were also given. A comprehensive review of both theoretical and empirical Literature was carried out in the second chapter. It traced the definition of private equity, structure of private equity industry and the structure of private equity market. Overview of emerging markets was also provided. A discussion on how the literature reviewed relates private equity investment to emerging markets was undertaken. The methodology adopted was then discussed in chapter three, specifying the private equity investment model and the estimation procedure. The variables used in the model were also stipulated and justified in this chapter, which include PEIEM, VC, GFI, JV and LBO. In chapter four, hypothesis was tested using E-views version 3.1 and findings were presented which showed that private equity investment in emerging markets is the principal financier of entrepreneurship. That is, through venture capital, Greenfield investment, joint venture and last but not lease leveraged buyout private equity investors can participate in financing risk capital for creating new firms or growing and globalizing the existing ones which in turn add value to their portfolio companies and promote economic development to the country.

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5.3 Conclusion As matter of conclusion, private equity is an alternative investment business vehicle, which provides interesting opportunities in emerging markets. This study has examined the role that private equity plays in spurring development by measuring outcome in terms of venture capital, Greenfield investment, joint ventures and leveraged buyout. While there is evidence supporting high levels of private equity new venture creation and growth of existing firms, results presented here suggests that as investors seek growth opportunities and high returns around the world, private equity capital is flooding into the emerging markets in the form of venture capital, Greenfields investment, joint venture and leveraged buyout. On the whole, it appears that private equity model has several attributes which makes it an attractive route to wealth acquisition and development. Private equity invests is highly scalable businesses that have the benefit of directly impacting the lives of millions of stakeholders and private equity investment encourages entrepreneurial activity, a primary catalyst of economic growth. Moreover, private equity is a logical choice, offering many attractive advantages to both the suppliers and users of investment capital. As the private sector expands, an increasing number of firms needed to move beyond their traditional reliance on so-called friends and family for financing if they are to continue to grow and be competitive. By virtue of their size and track record, however, many have risk profiles that are unappealing to banks and securities markets. Private equity offers these firms an attractive mid-point along the financing spectrum. 5.4 Recommendations Basing on the results from the study, there are various recommendations that can be made to policy makers in emerging markets. As policy makers in Zimbabwe and other emerging markets address the question of a new financial architecture, they should consider private equity investment as an alternative investment, an exercise of financial engineering and ownership model capable of producing sustainable improvement in business. Hence, as long as there is a consensus on the private sectors preeminent role in the development process, alternative financing techniques such as private equity must remain on center stage.

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The results of this study puts the idea that venture capital, Greenfield investment, joint ventures and leveraged buyout fosters new business creation to the test. This hypothesis is highly relevant to policy makers in emerging markets especially Zimbabwe. They should perceive private equity finance as a virus for entrepreneurship and growth engine. In essence, they should take note that an important element of entrepreneurship is the willingness and ability to mobilize private capital from both domestic and foreign sources.

It is generally accepted that access to credit is an important determinant of firm entry and growth. However, banks are often reluctant to finance small and new firms because of high uncertainty, information asymmetry, and agency costs. Back home, in Zimbabwe Banks are facing liquidity problems that they cannot finance even those big firms with good historical financial records of stable cash flows. Private equity investors are specialized to overcome these problems through the use of staged financing, private contracting, and active monitoring. Hoping to rival this success, EMPEA stimulates private equity investment in an attempt to make emerging markets a hotbed for entrepreneurship.

The wealth and poverty of emerging countries has been linked in modern times to the entrepreneurial nature of their economies. Where it has existed in plenty, private equity investment has played an important role in initiating new firms, growing and globalizing the existing ones through venture capital, Greenfields investment, joint ventures and last but not least leveraged buyout. It may also play a role over time in economic growth, innovation, competitiveness and poverty alleviation.

Private equity investment is particularly important for growth-oriented entrepreneurs in emerging markets, because it aligns the incentives of entrepreneurs and outside investors. Each is properly motivated to maximize economic value of the enterprise, rather than playing zero-sum games designed to benefit at the expense of the other. Such zero-sum games are typical of commercial bank lending to entrepreneurs in emerging countries. Hence, policy makers specifically in Zimbabwe are encouraged to construct policies that enhance supply of private equity from within the country and even from external sources.

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Globalization, with its emphasis on open markets, lower barriers to trade and investment, and cross border competition, will reinforce this trend by fostering intense competition among countries as well as firms. There can be no greater incentive for local political leaders to adopt reforms that strengthen the enabling environment than awareness that they are in a fierce global contest for scarce financial resources. Some governments already are responding by passing legislation to better protect the rights of minority shareholders and by liberalizing onerous tax regulations that discouraged foreign investors. This new environment also favors so-called new economy companies, with managers who are less resistant to third party investors and more accepting of international standards of corporate governance.

Then as now, during the inevitable period of trial and error in the formation of a new industry, failures out-number successes and naysayers appear more credible than the innovators and risk takers. But the successful private equity capitalists rapidly ascended the learning curve, demonstrating an uncommon capacity to make creative adjustments along the way in response to their early, often difficult experience. Zimbabwe as one of the pioneering generation of emerging market private equity managers must follow a similar trajectory, and not permit early failures and disappointments to obscure a number of favorable factors that bode well for the future.

5.5 Suggestions for further research This study evaluated private equity investment in emerging markets using time series aggregate data. Further researchers may utilize more disaggregate data and should possibly try to employ the upcoming econometric techniques on both secondary and primary data and use panel data to compare different observations between emerging countries. In essence, future researchers can look at the entrepreneurial impact of private equity investment in a specific emerging country for example Zimbabwe and there is also need for further research to be carried out on the evaluation of private equity investment in particular sector of economy, say for example private equity investment in Zimbabwean financial sector.

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APPENDICES
APPENDIX 1 REGRESSION RESULTS

Dependent Variable: PEIEM Method: Least Squares Date: 03/17/12 Time: 20:48 Sample: 1990 2010 Included observations: 21 Variable C VC GFI JV LBO R-squared Adjusted R-squared S.E. of regression Sum squared resid Log likelihood Durbin-Watson stat Coefficient 1.24E+10 0.714723 0.394925 0.469345 1.266876 0.988185 0.985232 1.26E+10 2.52E+21 -515.2560 2.133946 Std. Error 5.05E+09 0.097543 0.066484 0.147339 0.451589 t-Statistic 2.455257 7.327285 5.940123 3.185476 2.805372 Prob. 0.0259 0.0000 0.0000 0.0058 0.0127 1.39E+11 1.03E+11 49.54819 49.79689 334.5654 0.000000

Mean dependent var S.D. dependent var Akaike info criterion Schwarz criterion F-statistic Prob(F-statistic)

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APPENDIX 2 UNIT ROOT TEST FOR PEIEM AT 1(0)

ADF Test Statistic

-4.736032

1% Critical Value* 5% Critical Value 10% Critical Value

-2.6889 -1.9592 -1.6246

*MacKinnon critical values for rejection of hypothesis of a unit root.

Augmented Dickey-Fuller Test Equation Dependent Variable: D(PEIEM) Method: Least Squares Date: 03/17/12 Time: 20:12 Sample(adjusted): 1991 2010 Included observations: 20 after adjusting endpoints Variable PEIEM(-1) R-squared Adjusted R-squared S.E. of regression Sum squared resid Log likelihood Coefficient 0.040517 -0.062371 -0.062371 7.78E+10 1.15E+23 -529.4174 Std. Error 0.113925 t-Statistic 0.355646 Prob. 0.7260 1.94E+10 7.55E+10 53.04174 53.09153 2.973217

Mean dependent var S.D. dependent var Akaike info criterion Schwarz criterion Durbin-Watson stat

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APPENDIX 3 UNIT ROOT TEST FOR VC AT 1(0)

ADF Test Statistic

-3.828883

1% Critical Value* 5% Critical Value 10% Critical Value

-2.6889 -1.9592 -1.6246

*MacKinnon critical values for rejection of hypothesis of a unit root.

Augmented Dickey-Fuller Test Equation Dependent Variable: D(VC) Method: Least Squares Date: 03/17/12 Time: 20:20 Sample(adjusted): 1991 2010 Included observations: 20 after adjusting endpoints Variable VC(-1) R-squared Adjusted R-squared S.E. of regression Sum squared resid Log likelihood Coefficient -0.450751 0.105553 0.105553 6.56E+10 8.19E+22 -526.0178 Std. Error 0.272417 t-Statistic -1.654636 Prob. 0.1144 1.03E+10 6.94E+10 52.70178 52.75157 2.059418

Mean dependent var S.D. dependent var Akaike info criterion Schwarz criterion Durbin-Watson stat

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APPENDIX 4 UNIT ROOT FOR GFI AT 1(0)

ADF Test Statistic

-2.580278

1% Critical Value* 5% Critical Value 10% Critical Value

-2.6889 -1.9592 -1.6246

*MacKinnon critical values for rejection of hypothesis of a unit root.

Augmented Dickey-Fuller Test Equation Dependent Variable: D(GFI) Method: Least Squares Date: 03/17/12 Time: 20:23 Sample(adjusted): 1991 2010 Included observations: 20 after adjusting endpoints Variable GFI(-1) R-squared Adjusted R-squared S.E. of regression Sum squared resid Log likelihood Coefficient 0.053827 -0.076439 -0.076439 5.40E+10 5.55E+22 -522.1204 Std. Error 0.072235 t-Statistic 0.745159 Prob. 0.4653 1.67E+10 5.21E+10 52.31204 52.36182 2.228350

Mean dependent var S.D. dependent var Akaike info criterion Schwarz criterion Durbin-Watson stat

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APPENDIX 5 UNIT ROOT TEST FOR JV AT 1(0)

ADF Test Statistic

-2.697230

1% Critical Value* 5% Critical Value 10% Critical Value

-2.6889 -1.9592 -1.6246

*MacKinnon critical values for rejection of hypothesis of a unit root.

Augmented Dickey-Fuller Test Equation Dependent Variable: D(JV) Method: Least Squares Date: 03/17/12 Time: 20:28 Sample(adjusted): 1991 2010 Included observations: 20 after adjusting endpoints Variable JV(-1) R-squared Adjusted R-squared S.E. of regression Sum squared resid Log likelihood Coefficient -0.133373 0.066753 0.066753 2.71E+10 1.40E+22 -508.3215 Std. Error 0.114264 t-Statistic -1.167230 Prob. 0.2576 -3.53E+08 2.81E+10 50.93215 50.98194 1.190409

Mean dependent var S.D. dependent var Akaike info criterion Schwarz criterion Durbin-Watson stat

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APPENDIX 6 UNIT ROOT TEST FOR LBO AT 1(0)

ADF Test Statistic

-3.294832

1% Critical Value* 5% Critical Value 10% Critical Value

-2.6889 -1.9592 -1.6246

*MacKinnon critical values for rejection of hypothesis of a unit root.

Augmented Dickey-Fuller Test Equation Dependent Variable: D(LBO) Method: Least Squares Date: 03/17/12 Time: 20:32 Sample(adjusted): 1991 2010 Included observations: 20 after adjusting endpoints Variable LBO(-1) R-squared Adjusted R-squared S.E. of regression Sum squared resid Log likelihood Coefficient -0.062952 -0.038324 -0.038324 2.05E+10 7.95E+21 -502.6950 Std. Error 0.213518 t-Statistic -0.294832 Prob. 0.7713 4.06E+09 2.01E+10 50.36950 50.41929 2.263320

Mean dependent var S.D. dependent var Akaike info criterion Schwarz criterion Durbin-Watson stat

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APPENDIX 7 UNIT ROOT TEST FOR RESIDUAL AT 1(0)

ADF Test Statistic

-5.717345

1% Critical Value* 5% Critical Value 10% Critical Value

-2.6889 -1.9592 -1.6246

*MacKinnon critical values for rejection of hypothesis of a unit root.

Augmented Dickey-Fuller Test Equation Dependent Variable: D(B) Method: Least Squares Date: 03/17/12 Time: 20:34 Sample(adjusted): 1991 2010 Included observations: 20 after adjusting endpoints Variable B(-1) R-squared Adjusted R-squared S.E. of regression Sum squared resid Log likelihood Coefficient -0.062952 -0.038324 -0.038324 2.05E+10 7.95E+21 -502.6950 Std. Error 0.213518 t-Statistic -0.294832 Prob. 0.7713 4.06E+09 2.01E+10 50.36950 50.41929 2.263320

Mean dependent var S.D. dependent var Akaike info criterion Schwarz criterion Durbin-Watson stat

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APPENDIX 8 CORRELATION MATRIX

GFI GFI JV LBO VC 1.000000 0.684618 0.731296 0.353000 JV 0.684618 1.000000 0.218928 -0.006947 LBO 0.731296 0.218928 1.000000 0.192831 VC 0.353000 -0.006947 0.192831 1.000000

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APPENDIX 9 DATA SET

Year PEIEM 1990 4144661684 1991 27126212565 1992 53893145714 1993 80803386342 1994 1.20595E+11 1995 53416793165 1996 1.13662E+11 1997 1.61329E+11 1998 1.09296E+11 1999 1.00263E+11 2000 88473940687 2001 84501868562 2002 80329029436 2003 1.04456E+11 2004 1.34575E+11 2005 1.92175E+11 2006 1.36838E+11 2007 3.71075E+11 2008 2.24673E+11 2009 2.89345E+11 2010 3.91957E+11

GFI VC LBO JV 9179630846 -3364318805 1445589000 7062900000 12316838278 17011815254 5000979000 7723700000 21265478621 39933711563 4548916000 7631100000 37471016049 49740666938 20565607000 8096400000 53727090007 71625677440 14133851000 10076200000 58371514594 1969081662 7512645000 10205720000 69419405517 48294575497 20381862000 25700520000 92339412957 78731257137 15539419000 53003825000 97828876471 20579941690 21107410000 65673300000 91091770228 17238969667 11004440000 37769550000 99935935322 -3356939999 12080679000 50097150000 1.17094E+11 -22641596896 10109309000 39012880000 1.03877E+11 -12781458201 3610278000 32696220000 90475390647 27990247377 17599382000 32686570000 1.25741E+11 42738269033 15797016000 35192350000 2.03903E+11 26338310655 25484694000 58260023000 2.47892E+11 -10976683070 14704503000 72444831030 3.50393E+11 1.22551E+11 63918770000 91548145870 4.11802E+11 -34392819688 24509651000 1.03528E+11 2.56727E+11 1.37868E+11 29223284000 1.07003E+11 3.42608E+11 2.0333E+11 82657241000 7512645000

World Bank annual statistics economic indicators (1990-2010)

xxi