Investment Trends and Opportunities in Private Equity in the African Regional Economy

Held at 15 on Orange Hotel, Cape Town, on Wednesday 15th August 2012

Opening Remarks It is an increasingly popular belief that the time to invest in African economies is now. Private equity funds which already have exposure to Africa have further increased their investment on the continent based on the superior returns on offer. The shift into the rest of Africa which has gained momentum over the past five years has, however, had implications for the funding structure of South African private equity firms, which have been traditionally financed by development finance institutions (DFIs). While private equity in Africa is still being driven by commodities and infrastructure, the effect of an increasingly affluent middle class is creating investment opportunities, especially for more risk tolerant angel investors. The private equity industry in Africa has been driven by the commodities and infrastructure sectors. New Greenfield investment opportunities evident by the emergence of consumerism in Africa will attract investors with a greater risk appetite. The importance of exiting an investment through a listing is often overstated. There are a number of instruments available to private equity firms in Africa to exit investments despite the lack of stock exchanges with liquidity. The Western Cape and, in particular Cape Town, is an important centre for private equity and the broader asset management industry on the continent. The creation of this hub can be explained by cluster economics.

Chair and Panellists Mr Guy Lundy, Deputy Chairman, Wesgro Mr Keet van Zyl, Partner, Knife Capital Mr Brett Commaille, Chief Executive Officer, Angelhub Mr Rory Ord, Head of Fundamentals, RisCura Fundamentals Mr Chris Derksen, Head of Frontier Markets, Investec Asset Management Holdings

While private equity (PE) firms have notably increased their investment in Africa, PE is itself a relatively new investment vehicle to the continent. This shift of funds to Africa has been largely underwritten by an attractively high growth performance sub-Saharan Africa (SSA) is the fastest-growing region in the world after developing Asia as well as newlyformed perceptions of the continent. It was mentioned by Mr Derksen that throughout the continent, the lions share of potential corporate value is in the private sphere as opposed to being listed on public stock exchanges; thus PE will have longevity. Across the continent, the PE industry is being driven by commodities and infrastructure, however, the rising age of consumerism as a result of Africas emerging middle class is now creating a plethora of new investment opportunities, especially in the technology space. As these new Greenfield investment opportunities are at an early stage of development and due to the absence of a track record, investment will have to come from investors with a larger risk appetite, such as angel investors. Mr Commaille argued that the trend which has been set in the rest of the world, where angel investing has outpaced venture capital, will follow suit in Africa.

The Focus of Discussion The sources of private equity funding have included development finance institutions (DFIs) as well as the African diaspora. Following recent regulatory changes, pension funds from South Africa as well as Nigeria could play a greater role in the industry going forward.

The sources of PE investment are vast, with the African diaspora playing a large part in investing back into Africa. Further, the regulations that guide the investment processes of vehicles, such as pension funds and other institutions, have considerably broadened the investment landscape and there is an increasing trend of financing sourced from African government institutions and state-affiliated pension funds. In South Africa, for example, recent regulatory changes to pension funds have allowed these, for the first time, to explicitly invest in private equity funds, and for those funds to invest a greater deal into the rest of Africa. Indeed, there are similar changes transpiring in other parts of the continent which will bring gradual confidence and stability to these markets. Going forward, it is expected that large pension funds, particularly in Nigeria, are going to be allowed to invest into unlisted investments, and as a result, will have a strong impact on the development of the countries they invest in. Meanwhile, the traditional financiers of South African PE, development finance institutions (DFIs), are now instead deploying their capital throughout the rest of the continent. The reasons for this, as Mr Ord mentioned, is the recognition of the developmental need right through Africa where funders can achieve both an attractive investment return as well as recognise other goals, such as making social and environmental impacts. Although DFIs play the role of being the first-time catalyst of a fund, dealing with them is characterised by complex procedures and bureaucracy. However, given that there are more projects in Africa than there is capital to invest, DFIs certainly still play an important role within private equity investing, particularly in large infrastructure investments. Noting that Africa is not a single entity to invest in, a key challenge facing private equity investors is understanding the risks involved in pursuing an investment. With 54 countries on the continent, each with a distinct regulatory environment, the challenge lies in overcoming the diverse nature of regulatory hurdles between countries. In the earlier stage, high-growth segment of these types of investments, Mr van Zyl noted that there are three elements to consider in order to overcome these risks: i) the skill set of the entrepreneur and professional services teams one has hired to navigate the regulatory landscape; ii) ones personal access to networks in the market that one is operating in; and iii) investable capital. Exit options are an important consideration when investing in African companies. With only four stock exchanges in Africa having a market capitalisation of greater than US$50 billion, the option for PE firms to sell their investments, at least via a listing, is somewhat limited. However, Mr Ord noted that this does not deter PE investments in Africa. This comes, as most of the time a private equity firm will sell a company it holds via a

trade sale to a company looking to expand into a different market, instead of listing it on a stock exchange. Bringing the discussion to South Africa, Mr Lundy noted, the role that Cape Town plays in the private equity and broader asset management industry and that a significant amount of the global portfolio flows into the continent is allocated from the city. Mr Derksen used the concept of cluster economics as a basis to explain why Cape Town has become a hub for asset management companies in the country. A significant amount of the global portfolio flows into the continent is allocated from Cape Town and the city arguably also serves as the gateway out of Africa for companies looking to set themselves up for an exit. However, early-stage investment funds, such as angel investors, have tended to be based outside of South Africa, with Mauritius often being touted as an alternative entry point into Africa. One of the main reasons for this is the South African Reserve Banks strict control of the movement of funds a significant disincentive for investors operating out of South Africa. Mr Commaille further noted that there are no incentives to invest into early stage businesses in South Africa, citing examples in the UK, where angel investors who invest into SMEs and early stage businesses, receive a 50% tax rebate on their investment. This has ultimately driven a considerable amount of private money into early stage investments. The session was closed on the note that Africa is fast-losing its status as the best-kept secret for private equity investment. As a result of the increased competition for deal flow on the continent, prices are being driven higher. As such, entering investments at the right price will become all the more important to realising a superior return going forward.
Disclosure This summary was prepared by John de Villiers and Hannah Edinger. The views expressed are those of certain participants in the discussion and do not necessarily reflect the views of all participants or of Frontier Advisory (Pty) Ltd.

Brought to you by

In partnership with