Private life

With growing investor appetite for alternative investment strategies in the region, Mena Fund Manager investigates current investment trends.


With growing investor appetite for alternative investment strategies in the region Mena Fund Manager investigates the issues facing the private equity sector and current investment trends

Regional private equity strategies have continued to draw interest in recent years, as investors continue to look at the alternatives space for returns. Private equity holds an appeal for many investors in the region, who see a number of investment opportunities in local markets.

According to data provider Preqin, there were more than 100 private equity firms headquartered in the Middle East as of October 2014, raising more than $14bn over the past decade. Indeed, during the first three quarters of 2014, six fund closures by private equity fund managers headquartered in the region amassed $1.7bn in capital, almost double the amount secured by Middle East-based managers throughout the whole of 2013.

Highlights of last year included a $750m final close by Gulf Capital of its GC Equity Partners III, according to the Emerging Markets Private Equity Association (EMPEA), and $310m raised by NBK Capital for its NBK Capital Equity Partners Fund II.

A report into the region's private equity market by EMPEA in April noted solid performance  by Mena private equity firms, which had been able to source high quality investments locally. However, the report also highlighted the small scale of the industry, with private equity investment representing just 0.02% of regional GDP last year.

The challenge of attracting greater inflows is a multi-faceted one with fund managers facing a number of issues. Limited track records can deter potential investors, while significant gaps in the regulatory and legal framework also poses difficulties.

Yet, there have been some positive signs with the exit environment showing signs of improvement more recently. The EMPEA report noted a more diverse range of exit options for investors including a burgeoning secondaries market.

Where's the money going?

Investment has been concentrated in the consumer services and industrials sectors, says Shailesh Dash, CEO & founder of Dubai-based Al Masah Capital Management, although large scale government spending and favourable demographics have created significant potential in healthcare services, education and consumer-related businesses. Dash estimates that healthcare and consumer services now each account for approximately 20% of private equity investment in the region.

Initiatives to establish free zones in many Gulf countries - such as Dubai Internet City - has encouraged new start-ups, which could also promote private equity investment.

Meanwhile, Christopher Day, head of private equity at Apex Fund Services (Dubai) says investment is also moving towards the logistics and infrastructure sectors, while more mature economies are seeing increasing amounts of cash being invested in the food & beverages and hospitality sectors.

"UAE, Saudi Arabia and Egypt are of most interest," he explains. "Egypt's new political stability and clear economic policy means it is the country most likely to see an influx of foreign capital.

"With the opening up of Saudi Arabia's capital markets enabling foreign investment, Saudi will also experience increasing interest in private equity investments."

Dash accepts that limited accessible investment ticket size has previously limited most private equity activity to funds based in the region, but says this is changing as international firms such as KKR and Carlyle are partnering with local funds.

He says building relationships with local family and government-owned firms is important for local fund manager, not just to cultivate personal ties and trust, but to also gather information in what can be a "relatively discrete region".

Dash says some local professionals lack skills in areas such as due diligence, which is particularly important given the high proportion of potential target companies that are privately-held and lack transparency.

The Al Masah Capital founder adds that while regulatory challenges remain, the environment has improved in recent years.

"There is room for improvement and alignment with global best practices, but the ease of starting a business in the Mena region is definitely conducive to entrepreneurship and deal fl ow in private equity," he adds.

Investing locally

One of the more interesting developments in the region has been the increased investment activity of locally-managed funds backed by Middle East investors that would previously have invested cash raised from local sovereign wealth funds and family offices in European or North American companies.

Middle Eastern companies favour investment from local private equity firms, particularly where they have established relationships, says Day. Due to the socially integrated nature of the private equity business in the region, successful local firms will normally appoint well-connected board members to ease the exit strategy process, locate investors and source deals.

"Local firms and individuals are also socially and ethically motivated to ensure their projects succeed. The success of the investment directly benefits their economies and communities," says Samer Sarra, partner and UAE country head at private equity investor Amwal AlKhaleej's Dubai office. He says local private equity firms benefit from a better understanding of the local market and its nuances.

"The regulatory framework in the region is still nascent and there is a need for bankruptcy laws and better enforcement rules to ensure that minority investors are protected," he explains.

"From a resource perspective, the region still suffers from a shortage of qualified human capital that can be tapped into to assist private equity firms in enhancing the management teams of their portfolio companies. These are not new issues and they are improving, but more time is needed to get to the required levels."

Taimoor Labib, regional head of Mena private equity & head of global private equity portfolio management at Standard Chartered Private Equity, says the extent to which Middle Eastern companies favour investment from local private equity firms depends on the ambition of the investee.

"For entrepreneurs looking to eventually list their companies internationally or sell the entire business, their preference will most likely be an international private equity firm which has had experience listing companies outside the region," says Labib.

"If the investee is looking for assistance in a regional expansion story, it may choose a regional firm with a limited partner base that can add value and partnership throughout the expansion."

Labib points out that the process of obtaining foreign ownership licences and foreign shareholder taxes represent additional layers of operational complexity.

The fact that some countries have separate financial centres with their own set of regulations and policies is a challenge, although Day believes regulators are starting to get a grasp on what is required for investors to gain comfort to invest in their region. In addition, caps on foreign holdings (which are below 50% in many sectors) can make it difficult to accumulate sufficient capital to launch large private equity projects.

Day says that uncertainty around oil prices has encouraged companies to hold off on IPOs until the economic environment is more stable. Yet, Sarra describes the region's bullish capital markets as conducive to exits and say the UAE in particular has undergone some regulatory changes that make it more attractive to use the IPO as an exit route.

"Additionally, strategic sales continue to be strong and remain a viable option for investors," he concludes.

© MENA Fund Manager 2015

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