Following the 2008-2009 global economic crisis, investors have slowly woken to a new dawn, which has presented them with a glimpse of the future. G8 economies have now broadened their group to include the world's 20 major economies; a development mirrored in other leading global policy institutions such as the World Bank and IMF. The governments of countries formerly labelled 'developing nations' or 'emerging markets' have found a voice at these leading forums. Their prior timidity has disappeared, as a result of a new phenomenon Pimco CEO Mohamed El-Erian has described as a "cross-border wealth hand-offs... empowering a new set of actors and products when it came to global influence". Among these formerly shy and reserved siblings of the global economic family, the BRIC economies of Brazil, Russia, India and China have taken a lead. Increasingly, global growth is being driven by these fast-moving economies, rather than by the elder statesperson of the G8. What has surprised many investors however, has been the steady rise of the forgotten sibling, the Last Born, Africa. Pioneer investors, who have quietly been building wealth and have long enjoyed an arbitrage from the negative perception of Africa, have found their advantage steadily being eroded. These days, this Last Born story is becoming a real recreation to the ongoing sad stories of 'Austerity' in Western Markets. In order to fully grasp this story and its ramification, it is essential to first capture Africa in absolute terms, then in relative terms, before assessing both broad and specific opportunities for wealth owners and managers.
Africa, In Absolute Terms
A confluence of positive factors is transforming Africa from a cursed continent into an attractive investment destination for international emerging market investors.
Africa's Balance Sheet has essentially 5 main elements.
First a Superior Asset Base: The continent holds 30% of the world's proven mineral resources, and Sub-Saharan Africa is home to 90% of the world's platinum and chromium reserves; over 40% of gold and 30% of uranium. Much of which remain underexploited. Second, Africa is endowed with a large and younger population, to develop a labour force strong enough to rival low-cost manufacturing hubs such as China and India. This population is also revitalized by the 'brain gain' from Diaspora returning back home in the aftermath of the crisis.
Third, Africa also has an unprecedented level of restructuring with political stability, profound fiscal reforms, significant multilateral debt elimination are paying off.
Fourth, the growing equity base of africa is amazing. Africa's annual flow of foreign direct investment increased from US$9 billion in 2000 to now about $80bn in 2012, should reach $150bn by 2015.
Finally, the continent has a Superior Equity Performance: Prior to the global crisis, Africa delivered the best return on equity of any emerging economy (including China and India) in 2006-2007. Kenya, Nigeria, and Egypt were last year (2012) ranked in the Top 10 best performing stock exchanges.
Africa's Income Statement
Astrological alignment seem to be favorable. Africa is in a period of growing economic ascendancy, having achieved strong economic growth of 5% since 2000 (adjusted for purchasing power parity). According to World Bank projections, 9 of the 15 countries in the world with the highest rate of five-year economic growth are in Africa. This is being primarily driven by greater and higher commodity and natural resource prices, explosive Consumer Demand both globally and locally indeed on the quantity side, Africa's middle-class (defined as those with incomes of $20,000 or above) is now greater than that of India. According to McKinsey, in 2000, roughly 59 million households on the continent had $5,000 or more in income--above which they start spending roughly half of it on nonfood items. By 2014, the number of such households could go beyond 106 million. Consider simply that with the potential for 500 million new urban residents across African cities by 2050 (up from roughly 200 million today), income growth could spur greater demand for infrastructure.
In the income statement there is more and more the Untapped Prospective Revenue Next Door: Local businesses are increasingly investing elsewhere in SSA. As early as 2009, a database of Monitor included 111 deals worth $7.2 billion originating within the subcontinent, with South Africa, Nigeria, and Kenya the most active investors and Uganda, Ghana, and Nigeria the major destinations. By sector, much of this type of investment is flowing into essentially in financial services, ICT, and hospitality and tourism. Intra-trade to be one of the biggest stories in the coming years. Moreover Africa has better income generating structures: More than half of African countries are "net short" commodities with increase in aggregate cost of imported commodities exceeding increase in aggregate value of exported commodities.
Africa's Cash Flow Statement
In terms of Africa's Cash Flow Statement, we see that there has been a change of the Terms of the Trade: Over the period 1990-2008, Asia's share of African trade has doubled to 28%, while Western Europe's share has shrunk to 28% from 51%. This change comes with not only better negotiated terms but also with larger facilities for the required working capital of the Continent. One may think that this angle of providing better terms is exploited exclusively by the Asia. This angle is actually broadly adopted these days. There is a large pool of non-Chinese mining industrial players securing African natural resources with local governments and providing in exchange financing for infrastructure projects. Vale plans to spend $5billion to $8 billion on mines, ports, and railways in Guinea and Liberia. Tullow Oil and its partners plan to spend $8 to $10 billion dollars on infrastructure projects and to putting together an oil refinery in Uganda.
From the absolute to the Relative
Vis-à-vis the West
According to Boston Consulting Group (BCG), Africa is outperforming the US and Western Europe in Productivity Gains. Furthermore, many African countries have levels of debt to GDP at 5 to 10 times better than EU members or the UK. The increasing gap in terms of absolute GDP growth rate, post crisis, is already widely covered by western media.
Vis-à-vis the BRIC nations
Africa is comparable to the BRIC nations in many respects.
1. The continent's collective GDP of US$1.6 trillion in 2008, is roughly equivalent to that of Brazil or Russia.
2. Africa is also home to a billion people, and while its total population is comparable to that of India, since 2010 its middle-class population is greater.
3. Africa is also nearly as urbanized as China, and has as many cities of >1 million inhabitants as Europe.
4. Capital flows to Africa now exceed those to three of the four BRIC countries, all except China. Capital flows and remittances to Africa more than doubled over just a three-year period (2005 to 2008), according to the United Nations Conference on Trade and Development (UNCTAD).
However, it is important to remember that these statistics are comparing a continent with individual countries. Africa consists of 54 independent countries, including one with a population of 150+ million (Nigeria), and more than 20 countries with populations of less than 5 million. There are more than 20 economies producing less than $5 billion per annum, and 15 landlocked countries. Such disparate statistics have provided a smoke-screen, deterring investors from embracing opportunities to unlock value through PE investment.
Opportunity to Capitalize from "Bottle-Neck Breakers" within Africa
The mounting modern African leadership in partnership with institutional and sovereign investors have understood that Africa's business model and infrastructure was outdated. The continent can be described as a casualty of history, having to deal with the legacy of its colonizers. Existing infrastructure, supply chains and trade channels were designed to facilitate the trade of goods, sharing of intellectual property and repatriation of dividends to European imperialists - the parent company. The subsidiaries, or African colonies, were developed to serve the interests of their foreign rulers, not to trade and develop with each other. As Africa regained its independence in the second half of the twentieth century, its new leaders subscribed to the belief that the easiest way to succeed was to leave things unchanged. Meanwhile, the imperialists had effectively swapped equity for debt. They no longer 'owned' the country however they had craftily secured substantial off-take agreements with preferential terms for the last 50 years.
Today however, an ever-increasing number of African nations subscribe to a new model, having abandoned ill advised 'management buy-outs' (commonly viewed as 'independence processes'); they must have come to realize that these 'independences' or 'buyouts' were actually financed with debt from the underlying seller. Thankfully, over time African nations have improved their balance sheets with a new set of lenders providing better terms. Many African countries also control significant reserves of natural resources for which there is fantastic demand on international markets. Fiscal policies have been redesigned, with new multilateral trade agreements and a committed effort to improve corporate governance. Africa is increasingly comfortable with its independence, and has emerged as a fertile field for investments, which is beginning to attract the global attention it deserves. Today, the opportunities with greatest potential are those associated with improving communications networks efficiencies, trade systems, logistics service providers, consumers' channels of distribution and critical infrastructure plays between these fast growing distinctive markets. Africa includes some of the most attractive countries in the world in terms of GDP growth, tradable asset base, low leverage levels and other metrics. The efficiencies and returns that can be generated from investing in African intra-trade enablers are significant. Huge infrastructure projects building bridges, ports, airports, roads, as well as power stations will help propel growth in these markets even further, thus breaking significant 'bottle-necks' in place.
Current State of Affairs in Private Equity Investments in Africa
While limited integration with the global economic community and a steady inflow of capital and aid has helped Africa weather the recent crisis, Private Equity investors have continued to gain from positive developments in the continent.
Development Finance Institutions (DFIs) constitute by far and away the largest group of Limited Partner's (LPs) backing Africa focused private equity practitioners. Having considered the risks of private equity investment, the DFIs apply their development mandates by backing private equity General Partners (GPs), and have begun to reap the benefits. For example, the International Finance Corporation (IFC) has announced that across its emerging markets portfolio, which has a strong development focus, Africa has historically produced some of the best returns on a comparative basis. From 2000 through March 2010, IFC has seen a 21.73% return on its Africa private equity portfolio. In fact, they have recently reported that since the crisis, "Africa has been the best performing region for our investments in private equity funds" throughout the world. This is despite the fact that 78% of these investments are typically with first-time fund managers.
However a new breed of LPs is coming onboard. It includes Western, Middle East and Asian family offices, insurance companies, pension funds and SWFs. The Africa macro story helps but the track record of past investments to evaluate is getting better. According to Private Equity Africa, private equity sellers delivered 14 exits in 2012, the highest number recorded since 2006 and 40% more than the eight recorded in 2011. The total value of exits in the year stood at $1.65bn, a 13% rise over the $1.43bn reported at the end of 2011. In 2012, the bulk of Africa's private equity sellers chose to offload companies to trade buyers, accounting for almost 65% of the volume.
There are plenty of macro level risks involved when investing in Africa (from country specific to currency related, going through nationalization risks). Some of them can now be mitigated by political risk products structured by MIGA (from World Bank) or OPIC. However at the micro level, success over time in private investments in Africa depends on capitalizing from cultural proximity and adhering to three essential investment rules:
1. Due-diligence - more the 'who' than the 'what', given that impaired assets are easier to repair than weak management with poor governance.
2. Price and Terms - aim to achieve the best price and most favorable terms, prioritizing consistent return of capital invested, over promises for excess return on capital.
3. Exits - always seek to strategically capture returns when the opportunity arises. With the aim being to secure initial target returns whenever liquidity is available.
With regards to our third and final rule regarding exits, as African public markets are still relatively illiquid, trade sales will consequently remain the leading exit avenue over IPOs. Even the Africa Development Bank (AfDB) suggests trade sales as a more feasible mechanism for funds to relinquish their holdings in portfolio companies, revealing that a good number of vehicles it has backed have followed this route. This is also reflected by M&A data from the region and throughout emerging markets. Nigerian M&A activity was lifted into the emerging markets 'Top 10' starting 2010 and volumes are only increasing. We expect additional trade activity to continue to rise in the near-term across the continent and to facilitate the emergence of emerging-market giants. To that effect, Nirmalya Kumar, of the London Business School, says that two things are allowing emerging-market giants to rewrite the rules of M&A: money and flexibility. He adds that "the combination of rapid growth and extensive internal restructuring has left many companies with plenty of cash in their pockets. Profit margins of 10% are common, double the average in the West. And because ownership is concentrated, companies find it easier to take risks. Business families and founding entrepreneurs, with large shareholdings in their companies, are willing to make long-term bets on growth and do not have to worry about losing control of their companies if their stocks take a nosedive."
In the end, the key point to take home is that as Africa continues to improve its story, the sources of capital for investments are dramatically changing. Africa is progressively diminishing its reliance on old funding source. The continent is attracting a new set of clients, and these clients include Africans themselves. According to Capgemini's 2012 World Wealth Report, Africa's HNWI (High Net Worth Individuals) population rose 3.9% over the last two years while the global increase was at 0.8 %. The rise in local wealth is occurring in tandem with the capital managed by pension funds and other fund managers. More wealth will continue to be built in the African soil and one should expect local Business families to play bigger roles.
As more wealth owners and managers look to increase their investment exposure to this so-called 'Last Born of the Global Economies' and actively diversify their emerging market strategy, we believe that unique opportunities can be provided with tailored capital structures, alongside the standard blind commitments provided by PE funds. Beyond everything, African private investments transactions going forward should actively focus on building value-driven long term partnerships and pushing the envelop of transparency. We like to say that "transparency is what you see is what you get, and what you do not see ...gets you."
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