In Africa, between 2012 and 2017, 953 private equity (PE) deals – worth US$24.4 billion – were reported.1 The main sector focuses for PE investments in 2017 were consumer discretionary and IT; others included financial services, education, healthcare and agribusiness.2 Although the total value of African PE fundraising decreased from US$3.4 billion in 2016 to US$2.3 billion in 2017, this was largely due to the fact that a number of big funds had achieved final closes in prior years.3
Nigeria accounts for 73 percent of the US$10.7 billion value of private equity funding in the West-African region.4 This is not surprising, considering a number of PE deals concluded in the country between 2012 and 2017 – such as the US$350 million private equity investment in Japaul Oil, the flurry of PE firms that participated in the bid for 9mobile, and the proposed US$100 million investment into Nigerian mid-cap companies by Arkana Partners.
The Nigerian government has made concerted efforts to ease doing business in the country and increase foreign direct investments into the economy. These include the introduction of e-registration of companies, business names and incorporated trustees by the Corporate Affairs Commission; the establishment, by the Central Bank of Nigeria, of the investors’ and exporters’ foreign exchange (FX) window to improve liquidation in the FX market and facilitate timely execution and settlement for eligible transactions; and the reform of the Nigerian Pension Commission Regulation on Investment of Pension Fund Assets to allow for greater flexibility in the investment of PE funds. All of these led to an influx of foreign investment into the economy, estimated at a value of over US$4 billion at the end of Q3 2017.5 In addition, the proposed Companies and Allied Matters Act Bill is expected to further reduce the complexities of doing business in Nigeria.
According to the Southern African Venture Capital and Private Equity Association (SAVCA), the total size of PE investments in Southern Africa more than doubled in 2017, from ZAR15.5 billion to ZAR31.3 billion,6 and well above the annual average of ZAR14.7 billion over the preceding ten years. SAVCA further reported that, in 2017, South Africa’s private equity capital penetration rose to 0.7 percent of GDP.7 Notably, the Financial Sector Regulation Act,8 which took effect on April 1, 2018, is a new piece of legislation expected to bring about a major transformation of South Africa's financial services regulatory and risk management framework. However, it is yet to be determined what actual impact the Act will have on PE activities in South Africa.
AVCA ranks Kenya as the second most attractive country for PE investments in Africa over the next three years, after Nigeria.9 This is apt, considering that Kenya already accounts for KES70 billion of the KES100 billion PE fund inflows into East Africa in the first seven months of 2018. Investor confidence and interest in Kenya is heightened following the outcome of the past presidential election and the PE market is on standby to witness bigger deals and attract more funds into the economy.
Value created by the private equity industry
By providing funding for African companies, PE investments generate a multiplier effect. Not only does the industry yield profits for its investors (including general partners, limited partners and portfolio companies), it also creates socio-economic benefits for consumers. Businesses backed by PE investments have been shown to grow faster than other types of companies. This is largely due to the hands-on style of ownership played by PE partners and investors in these businesses. Moreover, PE injects international capital into Africa and strengthens economies. In this way, there is an indirect effect on the stability, strength and vibrancy of both local and regional economies.
An improved investment climate is essential for attracting investments and fostering economic growth. One effective way of improving the investment climate of an economy is by strengthening corporate governance principles in both the private and public sectors. Private equity funds, as providers of capital to businesses in emerging markets, work towards improving governance standards to optimize the management of and return on investments made, which, in turn, fosters greater investment flows to the economies concerned. Therefore, with an increasing acceptance of PE capital, the likelihood of adoption of best practices in the management of private companies greatly increases.
FAFIN: A private equity success story
The Nigerian government’s initiative of creating vibrant private-sector-led agricultural financing has received a boost with the successful US$65.9 million final close of the Fund for Agricultural Finance in Nigeria (FAFIN), which was managed by Sahel Capital and co-sponsored by the Federal Government of Nigeria (through the Federal Ministry of Agriculture and Rural Development, and the Federal Ministry of Finance), the German development bank KfW, and the Nigeria Sovereign Investment Authority (NSIA).
In 2014, FAFIN was launched, with US$32.8 million, as a private equity fund for investing in small and medium-sized enterprises (SMEs) in Nigeria’s agribusiness sector. It has been reported that between the period of FAFIN’s launch and its final close in 2017, Sahel Capital assessed over 100 companies and invested in the diary, edible oils, poultry and cassava value chains of four indigenous high-growth companies in Nigeria. FAFIN is also reported to have created over 500 new jobs (50 percent of which are occupied by women and youths) and improved the lives of over 1,000 smallholder farmers by supporting innovative business schemes. As part of this close, the African Development Bank, CDC Group and the Dutch Good Growth Fund have jointly committed US$31 million to FAFIN to further drive agricultural growth and development in Nigeria. Sahel Capital intends to invest in more companies with the additional capital raised and, consequently, create more jobs and improve the livelihoods of more farmers in Nigeria.
Risks and challenges for private equity firms and investors
Currency risks, and more specifically, foreign currency shortages and exchange rate fluctuations, have been identified as a major challenge facing private equity investors in Africa. For instance, in response to the fall in oil price, the Central Bank of Nigeria ended the naira’s peg to the US dollar in June 2016, prompting the Nigerian currency to lose a third of its value in a short time. This situation resulted in a shortage of dollars in the country, making it difficult for many companies to convert their naira earnings into dollars.
Based on research studies carried out in Kenya10, another identifiable challenge for PE investors in Africa is the difficulty faced by fund managers in finding businesses with proper operational and management structures in which to invest. Thus, though there may be available capital for deals, there is a lack of quality deals available. This may be as a result of the attitude of African companies towards ownership stakes in their businesses. African companies are more prone to borrowing than giving up majority equity stakes in their companies. In addition, PE investors in Africa are usually faced with the same kind of deals, because most intermediaries are able to source deals only from their confined geographic and professional networks.11
Political risks and macroeconomic instabilities have also been cited as major factors deterring PE investments in African markets. The termination of the PE-backed Rift Valley Railways’ concession in 2017 by the Kenya and Uganda governments, due to the company's alleged failure to meet the conditions under the concession agreement, is an example of a failed deal as a result of political risk pertaining to a project of national importance.
One pertinent challenge faced by African dealmakers is the long period of time spent in concluding PE deals. This could be attributed to a number of reasons, including insufficient due diligence, the involvement of too many middlemen, and wrong deal connections.
Mitigating the risks
According to AVCA research,12 the most important strategy for managing currency risks in Africa is investing in resilient businesses, including those concerned with consumer staples, healthcare and energy. Another option open to PE investors seeking to hedge FX risks is portfolio diversification across sectors and geographies. Although reported to be the least important strategy, currency risk hedging is an additional option for managing currency risks. For instance, in order to protect investors against losses arising from currency risks, the Overseas Private Investment Corporation (OPIC) – a US government development finance institution – has been providing insurance for its investors since 2011.
With respect to managing political risks, one major approach is to diversify across regions and countries. Investors may also build important and strategic relationships with policymakers in order to monitor political developments. Although not considered a popular strategy in Africa, political risk insurance presents a viable option for protecting investments from political risks. Again, OPIC offers political risk insurance to US businesses taking advantage of commercially attractive opportunities in emerging markets. By providing protection against risks such as political violence and civil disturbance, OPIC has helped to stimulate the growth of FDI across emerging markets, including Africa.
Promises and opportunities
In spite of the risks and challenges for investing in Africa, the continent’s growing population and landscape continues to provide both attractive and viable investment opportunities for PE firms. These opportunities can be seen in the sectors of agriculture, energy, financial services, consumer goods and real estate; these sectors are relatively protected from the economic risks arising from a fall in commodity prices and local currencies. PE firms with a deep understanding of the African market and dense networks are in a better position to benefit from the opportunities presented by the economy.
More specifically, agriculture is Africa’s largest economic sector, representing 15 percent of the continent’s total GDP, or more than US$100 billion annually. The World Bank reports13 that agribusiness is projected to be a US$1 trillion industry in Sub-Saharan Africa by 2030. This is apt, considering that the continent has a huge domestic market, owns 60 percent of the world’s unused arable land, and has abundant labor resources and, in most parts, a favorable climate. PE firms can key into agribusiness as a viable source of the Africa’s growth, support SMEs involved in agriculture, and aid in the development of local value chains.
The financial services sector also plays a fundamental role in expanding economic growth in Africa. Banking, investment insurance and debt and equity financing help to build credit and enable businesses start up, grow, expand, increase efficiency and compete fairly in both local and international markets. As such, a vibrant financial services sector is essential for Africa’s growth and economic development. PE firms may invest in Africa’s financial sector to bring about financial innovation, efficient payment and clearing systems and a healthier credit financing system.
However, to keep PE investors interested in the African market and enable the continent to actualize its full potential, African governments need to be in close partnership with PE stakeholders, adopting policies and strategies that are both investor- and business-friendly. For African private equity to be effective in the long run, both the public and private sectors must be in constant dialogue to grow capital markets and stock exchanges, thereby providing greater liquidity, security and access for investors and increasing their networks and market connections. Policies should also be geared towards changing Africa’s perceived weak exit environment. Private equity fund managers must actively engage the existing local captains of the industries in which they choose to invest. Fund managers who are likely to succeed in the long run are those who have successfully adapted to the particular needs of the evolving African market.
2Jeff Buckland, Sibongile Solombela and David Harrison, “Sector Overview – Private Equity," African Law & Business
3AVCA, footnote 1
6SAVCA 2018 Private Equity Industry Survey
7Ibid, page 9
8Act No 9. of 2017
9AVCA, 2017 Annual Limited Partner Survey, page 7
10Dhriti Bhatta, Rise of Private Equity in Africa: Changing Landscape and Imminent Challenges with Cases from Kenya, The Fletcher School, Tufts University
11AVCA, Dealmaking in Africa: The top challenges investors face
12AVCA, Volatility and Uncertainty: How Private Equity In Africa Navigates Through Turbulent Times
13The World Bank, Growing Africa: Unlocking the Potential of Agribusiness