Over the last five years, MENA’s private equity industry has experienced remarkable growth. As of March 2007, the market is estimated to have crossed the $24.5 billion mark, reporting a 22-fold increase over 2002 figures. This continuing growth constitutes the building block for the development of a secondary market. Expected to emerge in the medium run, the secondary market will contribute to the long-term growth of the industry.
Private Equity in MENA has grown in scale, depth and reach. It has risen as an attractive option to capital markets and real estate investments. The industry is also growing in sophistication, as more institutional investors have been investing in private equity funds, or as a matter of fact, launching and managing their own funds. In addition to regional managers, some prominent international players have already ventured into the region through direct investments or co-branding, while others are planning to enter at a later stage as the industry further matures. According to a recent Emerging Markets Private Equity Association (EMPEA) survey, limited partners (LPs) planning to invest in the Middle East increased to 11% in 2007 compared to 5% in 2006 and to 20% in Africa in 2007 compared to 4% for the previous year.
While the industry progresses from fund raising to the deployment and investment stages, investment managers will experience a new set of challenges. The breakdown of the market reflects that only few managers have proven their ability to successfully source deals, add value and profitably exit investments. Today, some 2% of total funds are fully vested and only two funds are at the liquidation stage. On the other hand, 40% of total funds are currently investing while 28% are still at the fund raising stage. Competition is a challenge not to be taken lightly. It will certainly create an overheated environment giving way to the costly bidding process and reducing proprietary deals. Most importantly, investors’ patience over a six- to eight-year period is yet to be tested in the MENA region. Investors were accustomed to making high returns over a short period of time. In that sense, the market is undertaking a transition in terms of investment horizon, risk levels and asset class diversification.
The rise of the secondary market offers a valuable opportunity supporting the long-term growth and attractiveness of private equity as an alternative asset class in MENA. First and foremost, it addresses the liquidity issue that LPs might face over the life of the fund. Secondary funds offer to buy LPs’ interests in the event that LPs’ needs change or in case they prefer to deploy their capital in more attractive opportunities. The secondary market will also empower investment managers with the flexibility to shift their strategies, change their investment policy or rebalance their portfolio allocations. In a fast changing environment such as emerging markets, managers may seek opportunities in a new sector, or opt to focus on a specific number of opportunities to improve their results.
For secondary funds, secondary markets represent a channel to confidently access one of the most promising emerging markets, overcoming obstacles faced by first movers, while managing vintage year exposure and diversification. Typically, secondary funds recoup their investments faster than primary funds. Not only do they have access to more information by monitoring the performance of primary funds, but they are more flexible in terms of diversification. They have access to a pool of company portfolios with concrete results and evident operational and structural improvements.
While the growth in private equity has been remarkable, the potential for future development is even more impressive. It is developing at a faster pace than anywhere else in the world. Driven by regional and international macroeconomic factors and an enticing regulatory environment, we believe that the growth cycle may even be extended over the medium and long run by the surfacing of a secondary market. Secondary markets will undoubtedly attract international private equity houses and prompt the development of local or regional secondary funds.
Rami Bazzi is principal of private equity at Injazat Capital.
