Predicating the future has never been an easy task and it has gotten no easier today. Charlatans with crystal balls are in ample supply however, especially when it comes to the lifeblood of the region. Last year when the price of oil was at around $150 a barrel, Merrill Lynch was predicting that the price would reach anywhere between $180 to $200 a barrel. Last December their figure was around $25 per barrel. According to Business Monitor International (BMI) and OPEC, the 2009 average for oil prices will level out at around $50 a barrel. All of this ‘shooting in the dark’ leaves private equity (PE) firms — and everyone else for that matter — at a loss with regard to how much cash flow will be generated in the region in the near future.
Therefore, ignoring the predictions is probably the best way to go about handling the issue of oil prices. Nevertheless, “Oil will remain the backdrop on which we exist,” said Arif Naqvi, CEO of Abraaj Capital, while speaking on a panel at last month’s PE investment international conference in Dubai. “Everyone is happy with $60 to 80 per barrel,” he went on to say. While the intrepid CEO may be wrong about what everyone’s satisfaction levels are pertaining to the price of oil — even if the budgets of countries around the region are positioned well below the $50 a barrel mark — there can be little doubt that he is right in that without an ample supply of petrodollars, the PE industry’s prospects for growth are not promising.
The average fund size in 2008 registered at around $258 million, up from around $177 million in 2006, according to research conducted by Zawya Private Equity Monitor (ZPEM) and the Gulf Venture Capital Association (GVCA).
That said, there has been much debate within the industry regarding where future investment will be targeted and how the landscape of the industry will look.
“We expect this trend [of larger funds] to continue, with a smaller number of larger general partners leading the industry through its next phase of evolution,” wrote Vikas Papriwal, partner private equity and sovereign wealth funds at KPMG, in the annual GVCA Private Equity and Venture Capital in the Middle East report.
In support of the argument that larger and more diversified firms will rule the day, many observers point to the prospects of mergers and acquisitions between funds that seem to be in the pipeline.
“There are growing signs that a cooling market, tightening liquidity and rising borrowing costs could prompt a wave of consolidation in the region,” says James Tanner, head of Placement and Relationship Management.
Imad Ghandour, executive director of Gulf Capital, notes that “there has been an increase recently in funds buying from each other.”
On the surface things may look to be stagnant, but things are happening out of sight. “There are quite discrete asset sales and processes going on. Every week someone says, ‘officially we are not really selling, but unofficially here is what’s available,’” says Yahya Jalil, senior executive officer and head of private equity at The National Investor in Dubai. This may not seem surprising given that worldwide the value of companies PE firms are holding has decreased by around 50 percent, according to The Economist. Moreover, only half of the funds announced since 2006 have so far been raised and approximately $11.7 billion of announced funds in 2006 to 2008 have failed to make a close, according to ZPEM and the GVCA. Clearly the number of PE funds in the region will need to be consolidated greatly.
This new makeup of funds, however, does not necessarily predicate the fact that these consolidated funds will be attractive to investors, who are becoming more prudent and concerned with specialization as opposed to reputation.
“When investors begin to deploy money again it is going to be less to general funds that have generic purposes and more to specific opportunity funds. They will begin to ask the PE firms about the specific opportunities present where the firm wants to invest their money,” says Hisham El Khazindar, managing director and co-founder of Citadel Capital.
Ammar Al-Khudairy, managing director and CEO of Amwal Al Khaleej Investment Co., remarks that, “the asset accumulation firms are less in fashion than they were a year ago. The pure dedicated type of firms are more in fashion; this is the new paradigm without a doubt.” He adds that “institutional investors much prefer to deal with people who do nothing but PE. They are being much more selective and a larger size is not one of the selection criteria; they see it as a negative aspect.”
What will the future hold? The argument seems to be far from over, but given the two opposing forces in the market and the eventual equilibrium that will have to be met, in all likelihood “there will be a ‘happy medium’ and funds will not want to go over $10 billion,” concluded one senior PE executive.