African Private Equity: The Tipping Point

African private equity has finally arrived after so many years of promise. This was the consensus around the table when Trident Trust sat down with three of the continent’s leading mid-market general partners.

The fundamentals underpinning the African private equity story have been well celebrated: high GDP growth rates, a bur­geoning middle class, a young population, opportunity to scale businesses quickly and an underpenetrated investment landscape. Equally talked about, however, are the perceived risks, with corruption and political instability high on global investors’ lists of concerns. Until relatively recently, these risks had dissuaded the traditional limited partner community from commit­ting capital to Africa-focused strategies in any great volume.

In the last few years, however, things have changed. 2014 was a record-breaking year, with more than $4 billion being raised for Sub-Saharan Africa-focused funds, according to the Emerging Markets Private Equity Association, and a number of managers, namely Helios Investment Partners, Abraaj Capital and Development Partners Interna­tional, closing funds near to the symbolic $1 billion mark. Alongside these Africa-focused pools of capital, we have seen funds with a global mandate, such as those man­aged by KKR and TPG, putting money to work on the continent.

Long-standing African general partners could be forgiven for having concerns about the arrival of global private equity brands with money to spend. Might they, after all, commod­itise what has until now been a relatively under-competed market? Not so, says Jean-Marc Savi de Tove, a partner of Cauris Management, which has since 1996 pioneered investment in growth businesses in Francophone West Africa. “What do I think of the global firms? I love them,” he says, “and not just because I know them as people. The fact is, we around this table have been doing this here for 20 years – trying to educate investors and entrepreneurs – but the reality is private equity in Africa only really started when Carlyle and KKR came. We are in a world where it is all about the quantum of capital.”

Far from competing with regional and country-focused fund managers, the arrival of global firms to the continent has validated the work done by smaller funds and, in turn, helped them raise money. This, says Karine Seguin, one of Trident's senior fund services business development professionals, has been clearly reflected in Trident’s client base, which includes a range of mid-market funds. “If you look back 10 years, the average size of our Africa-focused clients’ funds was between $10 million and $150 mil­lion,” she says. “If you look at our current client base, the average fund size is now $200 million, with the largest being close to $1 billion.”

Changing investor profile
Behind this growth in fund size is a change in the type of institutions backing Africa-focused managers. “The landscape has changed,” says Albert Alsina, managing partner and CEO of Mediterrania Capital Partners, a private equity firm which is headquartered in Barcelona and invests across North Africa. “Whereas previously it was dominated by development finance institutions [DFIs], there are now more com­mercial investors: funds of funds, pension funds and family offices.”

This evolution is evident in the investor base of African Capital Alliance, a Lagos-based manager now raising its fourth fund with a target of $600 million. “We have had com­mitments from pension funds, sovereign wealth funds and endowments; we are pro­gressively seeing fewer DFIs and more com­mercial investors,” says Bunmi Adeoye, vice president and investment officer at the firm. “We as GPs have the responsibility to get investors comfortable and understand that managing investment risk is not that differ­ent in Africa to anywhere else.”

DFIs are still an integral part of African private equity, but as Cauris Management’s de Tove points out, they are no longer the only port of call for small and mid-market funds. “Our ambition next year is to tap into more private capital,” he says. “There are a number of funds of funds in the market and those are the ones we are going to.”

Some of the larger pension funds, such as the New York State Common Retirement Fund, have begun allocating part of their private equity pro­gramme to Africa-focused funds. These pensions, however, typically have a minimum ticket size for their fund commitments that rules out many African mid-market funds. “The funds we are managing are so small,” says Cauris’ de Tove. “We tell them we have a $60 million fund and they say ‘What am I supposed to do with that?’”

Mediterrania’s Alsina agrees: “Fund of funds will more likely take a $10 million or $15 million ticket size, whereas a pension might want to commit $50 million or $100 million.”

The advent of a new breed of institutional investors is bringing enhanced process and professionalism to the market, says Alsina. Firms that achieve success on the fundraising trail tend to have two things in common, he says: a well organised in-house fundraising function and demonstrably good governance. “If you have good governance, such as the right reporting mechanisms and a good administrator, then you have a good chance of success. Investors can like your investment team, but if they don’t have the confi­dence that you will give them the right information in the right way, they will not be able to convince their colleagues they should be committing capital.”

Trident’s Seguin concurs: “The number and diversity of investors backing Africa-focused funds is growing significantly; we are seeing more investors coming to do due diligence on us as administrators.”

This, adds Seguin, is partly due to the fact that the legal framework with which LPs need to comply is changing. “The UK’s CDC Group, for example, has to comply with the UK Bribery Act and has to ensure the fund manager has these systems in place. They look to us as admin­istrators to implement this level of compli­ance and have done the due diligence to check we have the processes in place to track these requirements.”

Differentiating the African private equity brand
The arrival of global firms on the continent brings more than just affirmation of its position as a destination for private capital; it gives its practitioners the chance to show how it is different. “Because of who they are, and how big they are, they will be able to convey the message that private equity in Africa is very much a growth capital business. It creates jobs and is a force for good,” says Cauris Management’s de Tove.

Unlike in Western markets, African private equity has economic development at its roots. Each of the GPs around the table has DFI money in their funds and so develop­ment – and a programmatic approach to environment, social and governance (ESG) issues – is knitted into their DNA.

As a result of this DFI-influenced history, there is an easy consensus around the table that ESG improvements are a vital part of value creation in African private equity. “When you think about selling or listing a business, the benefit of having better ESG standards is that you attract a better valua­tion,” says African Capital Alliance’s Adeoye.

Each investor around the table cites examples in their portfolio of improved ESG leading to a more valuable company. Frequently these relate to improved safety conditions for employees or a reduction of a company’s impact on the environment.

For African Capital Alliance’s Adeoye, ESG frequently starts with the ‘G’. “We are typically investing in growth companies where a family has sometimes been in charge from the start,” he says. “So when you go in and tell them they need to have a remunera­tion committee and an executive committee; these are alien concepts to them.” The key, says Adeoye, might be to draw a straight line between ESG and financial success. “We at times need to convince our new partner that installing ESG procedures is one way to get on the Forbes List.”

Given that formalised ESG reporting is becoming increasingly important to limited partners, not only in the DFI community but throughout the private equity industry, do the GPs around the table feel they have something to teach their peers in Europe and the US about ESG compliance? Not so, says Mediterrania’s Alsina: “The DFIs have done a great job, particularly in the area of safety issues, but the fact is ESG has a long way to go in Africa. When we invest in a company there is always so much work to do in terms of safety and environmental work. Our work is like a small drop in the ocean in that regard and it would be pretentious to say we could export that elsewhere.”

Governments must try harder
Cauris Management’s de Tove puts the idea into context: “We have to remember why ESG is so important in our market. In the West, there are laws that businesses fear and pay attention to. We have laws in Africa – a lot actually – but it is enforcement that tends to be the issue. I think that the DFI com­munity has been a force for good when it comes to that, instilling that positive way of working into the way we do business.”

There are a number of ways that governments around the continent could do more to foster the right economic and entrepreneurial con­ditions to aid investment and growth, say the panellists. These include reviewing the behav­iour of central banks with respect to exchange controls, reducing government involvement in strategically important industries and generally taking a longer term approach to public spending on investment.

This latter point relates to the current boom in infrastructure investment, which is com­ing, say our panellists, at the expense of other vital areas. “We are at a point in the cycle now where governments have decided they are to invest in infrastructure; that is not enough. In my country, Togo, people say: ‘Do I eat the road?’” says de Tove, who adds that education of Africa’s vast youth must take priority.

However, says Alsina, where public spending is lacking, the private sector is increasingly stepping in. “We have seen a huge shift for the middle class that have multiplied by four the money they spend on education,” he says. “In our industry you see a huge opportunity, because when the public doesn’t play a role, private money comes to fill the gap.”

Trident’s Seguin points out that the govern­ments’ role is to encourage investment, not to take the lead role in it. “They are not technical investment professionals, they are policy makers. Good examples for that are the Nigeria’s Federal Ministry of Agriculture and Rural Development which is working with the Fund for Agricultural Agricultural Finance in Nigeria and the Tunisian Enter­prise American Fund which is receiving fund­ing from USAID to work with the SME sector in Tunisia.”

The overall message of the discussion is that the arrival of global brands and a significant quantum of capital into African private equity will certainly act as a catalyst, both for the growth of the fund business at a regional and domestic level and for contin­ued economic development. There are still numerous challenges to overcome, most notably relating to government and the rule of law, but there is a tangible feeling that the tipping point for African private equity has been reached.