What investors think about private equity in Africa

In 2010, private equity firm The Abraaj Group, through one of its funds, bought a stake in Ghana’s HFC Bank. During Abraaj’s investment, HFC greatly expanded its lending and branch network. Last year, Abraaj sold its stake in HFC to a Caribbean bank. It didn’t disclose details of the sale, but one would assume it was for much more than it bought the stake for originally.

Private equity firms usually try to improve the financial results and prospects of the companies in which they buy a stake, in the hope of reselling the business to another firm or cashing out via an initial public offering (IPO). The value created is then passed on to the investors in the fund.

However, private equity managers, such as Abraaj, live and die by their ability to convince investors – such as pension funds, development finance institutions, sovereign wealth funds or high-net worth individuals – to back their funds. These investors, also known as limited partners (LPs), generally have a variety of other options in which to invest their money, including stock exchange-listed companies, bonds and properties. Private equity fund managers therefore need to provide a compelling case to attract their capital.

Supported by strong economic growth, Africa’s private equity industry is fast evolving and a number of new fund managers have emerged in recent years. But how willing are LPs to invest in African-focused private equity funds?

Recent research by Riscura, AVCA and SAVCA seeks to answer this question. The authors spoke to a diverse mix of 48 LPs based across four continents, from pension funds to insurance companies to development finance institutions. The resulting report, titled The search for returns: Investor views on private equity in Africa, aims to provide stakeholders with views on private equity in Africa from the LP’s perspective.

Below are some key takeaways from the report.

1. Growing interest in African private equity: African private equity fund managers have reason to be optimistic about the future, as 85% of LPs indicated they plan on increasing their percentage exposure to private equity on the continent over the coming two years. It should however be noted that Africa-based LPs have a greater appetite to increase allocation to African private equity than international respondents.

2. Africa vs. other emerging markets: Seventy percent of respondents indicated that they think Africa is more attractive compared to other emerging markets. However, 10% of LPs believe Africa is less enticing due to the relatively nascent stage of the private equity industry.

3. Backing the consumer story: LPs believe the consumer goods and financial sectors will be the most attractive over the next three years. Some respondents also highlighted energy and power/utilities as appealing sectors.

4. Outperforming the stock market: Some 80% of LPs believe African private equity will outperform locally listed equity over the next decade.

5. Barriers to investing in African private equity: When asked about the specific challenges facing African private equity, the relative youth of the industry was the main concern.

LPs are also worried about the weak exit environment. Elsewhere in the world, many private equity funds exit their investments by putting their shares in a company up for sale on a stock market, an IPO. However, because of Africa’s relatively undeveloped stock markets, this has been a less attractive option.

Political risk in Africa was only cited as the third biggest challenge.

6. The preferred route to accessing African private equity: Just over half of LPs listed regional funds as their preferred route in the near term, followed by funds-of-funds (23%) and country-dedicated funds (13%).

7. Factors affecting the selection of fund managers: When evaluating an African private equity fund manager, LPs consistently cited track record and operational expertise among the most important considerations.

However, the majority of the respondents said they would be willing to back a first-time fund manager in Africa, especially if the team had other experience to draw on or if the team has a background in executing transactions from investment through to exit.