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Strong growth potential in Africa’s lesser-known cities

Africa’s lesser-known cities still hold significant potential for growth, according to Sev Vettivetpillai, a member of the executive and investment committees at private equity firm The Abraaj Group.

Sev Vettivetpillai, from The Abraaj Group, said that we've only seen the start of Africa's economic growth.

Sev Vettivetpillai, from The Abraaj Group, said that we’ve only seen the start of Africa’s economic growth.

“There are only a few countries in Africa that is benefiting from direct investment. Even in [those countries], it is only the major cities. We have not even touched the other cities within those countries. If you take Nigeria as a good example, most of us are investing out of Lagos in the city, we have yet to go to Kano or Kaduna or Jos, all major cities,” said Vettivetpillai during a presentation at this week’s African Venture Capital Association conference in Cape Town.

He noted that most of Africa’s economic growth is yet to be seen. “We are just at the starting end.”

Vettivetpillai said that although many individual African countries might not present large enough markets for investment, the various economic blocs – such as SADC, EAC and ECOWAS – offer a more attractive proposition. “The growth in many of these countries on a standalone basis may not necessarily provide the right critical mass, but as a bloc, they provide a critical mass. They provide the necessary ingredients to grow companies and invest.”

Still early days for private equity

Also speaking at the conference was Haydee Celaya, co-founder and CIO of Avanz Capital. She noted that the continent’s private equity industry is just starting to walk.

Comparing Africa’s private equity industry to those of other markets such Latin America and emerging Asia, Celaya said that these regions are “a good five to ten years ahead”.

She pointed out that the penetration of private equity relative to GDP is still low in Africa. “South Africa, being the most developed market in the region, just has 0.05% in private equity investments compared to GDP, which tells you that the rest of the continent has a lot less. And I guess the good news is that the industry has a lot of growth potential.”

She said that local institutional investors are critical for the development of Africa’s private equity industry. “We are in the early stages in Africa with the entrance of the pension funds.”

Celaya explained that most private equity funds in Africa are small (about 66% of funds in the region are below $250 million), and that this poses a challenge for international institutional investors. “Many of them have trouble making an investment in very small funds, because many of them have minimum tickets sizes, that are large… So they tend to wait until the funds are larger, and then they can come in…”

A private equity fund’s ultimate goal is to sell or exit its stakes in the companies in which it invested. One popular exit strategy, especially in the US, is the initial public offering (IPO), in which an investor sells at least part of its stake when the company puts its shares up for sale on a stock market. But African stock markets tend to be underdeveloped, and so IPOs have been relatively rare. A trade sale, where the private equity firm sells its stake to another company, has however been a popular exit strategy.

Despite the challenges, Celaya remains positive about the continent’s prospects for private equity investment. “We do think that there is a good opportunity in Africa to make high-growth investments in a region that is still enjoying reasonable pricing due to relatively low competition… But the challenge really is to find the best investments, whether it is in a fund or in companies, in a vast and diverse geography covering multiple sectors…”

Private equity firms need to offer more than just capital

During his presentation, Dapo Okubadejo, a partner at professional services firm KPMG in Nigeria, said that an increasing number of global private equity houses are showing an interest in Africa.

“You have got to be on the streets of Lagos, you have got to be in Nairobi and Accra, to feel the pulse of what is going on across Africa,” he said.

According to Okubadejo, private equity investors need to offer African companies more than just capital – such as value uplift and earnings growth.

He added that management capacity in Africa is a challenge, and that private equity firms need to bridge this gap.

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