Garrett Black October 15, 2014
PE investment in emerging markets is on pace to match last year’s tallies, according to PitchBook, prompting the question: As quality opportunities in developed markets rise in price, will PE firms increasingly target riskier yet comparatively cheaper deals in emerging economies?
The sustained activity in emerging economies reflects an intensification of typical PE deal-making strategies; many past investments have not performed quite as well as could be hoped, leading to PE firms taking a more cautious investment strategy focused on value creation. PE investors have usually taken more of a hands-on approach in assisting companies in fledgling markets, yet such growth-focused partnerships seem set to accelerate even more, if anything, what with the number of add-ons increasing by 11% in 2014 to date. In some ways, it’s a souped-up version of the current PE trend in developing markets of growing extant portfolio companies rather than making new investments. The key difference is that as quality investments decrease in the U.S. and European scene, driving market prices up, PE firms can still look toward cheaper, albeit riskier, targets in emerging markets. Even as the IMF observed a recent slowdown in emerging market growth, there are still plenty of opportunities for PE to supply crucial capital and operational support.
Let’s take a look at some key sectors and trends:
The $750 million buyout of Grupo Fermaca, as well as Sierra Oil & Gas’s $525 million investment, highlight Mexico’s status as a source of profitable energy plays, contributing to bullish predictions of Mexican energy growth. Proximity to the U.S. and continued economic growth help drive investments across a variety of sectors in Mexico, and energy in particular benefits from government support. Determined to boost its oil industry and retain its status as one of the top suppliers to the U.S., the Mexican government has recently spearheaded key legal changes that could attract even more investors. And as the hefty sums invested in the Grupo Fermaca and Sierra Oil & Gas deals illustrate, PE firms are more than willing and able to afford the prices extensive energy projects command.
There have been several notable African B2C deals in 2014: the $20 million investment in Universite Privee de Marrakech, GNFoods’ $15 million backing, and the recent purchase of Liberty Star Consumer Holdings by The Abraaj Group. Africa’s swelling middle class may not match Asia’s for sheer growth, but particularly in sub-Saharan regions it serves as the engine of economic growth and, consequently, a major attraction for PE firms. Education, food production, consumer loans and more should remain popular, with infrastructure slowly building up as GPs build relationships with governments and political frameworks stabilize.
Likewise, South America’s B2C outpaces even B2B (although by just a few percentage points), with prominent deals including investments in pharmacy chain Farmacias Ahumada and Abril Educacao. With a relatively stronger infrastructure investment track record also bolstering the region as a whole, there are still hurdles to overcome, which PE capital can take advantage of by infusing both private and public companies with a much-needed boost.
Fundraising in Asia
News of Baring Private Equity Asia’s latest vehicle reaching a first close at $3.2 billion came on our radar recently, reflecting continued interest in Asia-targeted fundraising from the top echelon of PE investors with enough experience in the region to stay confident despite lower-than-expected returns as of late. Morgan Stanley, CVC Capital Partners and TPG have all closed multibillion-dollar vehicles focused on the region thus far. However, as the IMF report above shows, growth in China and India in particular may be slowing (of course, this is in comparison to prior years of staggering growth rates). This comes as the PE market in Asia shows signs of maturing, with competition for quality targets heating up somewhat, as the scene becomes more amenable to outside control investments. Consequently, competition may drive prices up, yet comparably to the U.S. and Europe, valuations may still be low enough to draw PE interest. Fewer funds may be raised, yet they will be of higher quality and managed by the most experienced investors, who will be able to navigate increasing competition among currency fluctuations and the region’s transition to catering to domestic demand.
Given their risky-yet-still-alluring nature, investments in developing economies call for a higher degree of pre-diligence and stress testing, as well as close cooperation with the public sector. Carefully paying heed to local cultures is also key. Given these factors, it makes sense that more PE firms will open local offices (much as Riverstone did earlier this year in Mexico), channel money into publicly traded companies, and focus on building relationships with governments. It may take more work than playing on the home field of Europe and North America, yet it could be cheaper and, in the end, pay off richly.
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