Private equity in Africa maturing quickly
Our second annual study of value creation in Africa reveals an industry that is developing quickly, but in a measured way.
There is now little doubt that PE firms in the region are creating value, particularly through hands-on involvement in the companies they back. In fact, African PE outperforms the North American and European markets when calculating relative returns.
Although exits were down in 2013, the pipeline is filling as investments made in recent years become ready for sale. Those exits will provide further evidence of African PE’s value-creating potential.
Exits by the numbers
PE realizations declined from 35 in 2012 to 27 in 2013, bringing the total number of exits in our study population to 207. US Federal Reserve policy and slowdowns in China and India, Africa’s key trading partners, contributed to the decline. However, total entry enterprise value (EV) for exits continues to increase year-on-year, a highly encouraging sign.
PE is operating well across the continent, sourcing investments, working with management and exiting portfolio companies. South Africa, not surprisingly, saw the highest number of exits at 47% of entry EV. West Africa was also strong at 26% of entry EV. Central Africa was the only subregion where activity lagged.
Financial services topped the sector list, accounting for one-fifth of exits. Other top sectors by entry EV were telecommunications, agriculture/forestry, business services and industrial goods.
Given the relative nascence of many of the region’s economies, smaller deals tend to dominate. Nearly half of exits had an entry EV of US$10m or less. However, from a different viewpoint, this means over half of exits were valued at more than US$10m, and nearly one-fifth of all exits had an entry EV of US$75m or more.
Top five sectors by entry EV (US$m)
Local offices key to strong performance
Overall, local offices completed 70% of the exits in our study. Deals managed through local offices generated the highest returns, and average holding periods were a full year shorter than deals managed via regional hubs or in other ways.
It’s a relatively recent tendency. For deals completed in 2004 or before, performance was strongest when exits were managed via regional hubs or further afield.
What accounts for the outperformance? PE firms that have successfully tapped into local markets have access to advisors and other external support. They are able to devote more hands-on time to portfolio companies and create value more quickly than those faced with collaborating remotely or travelling to work with management.
Organic revenue growth driving profit growth
Given Africa’s fast-growing markets, it’s not surprising that organic revenue growth is the most important driver of EBITDA growth. In our sample, organic revenue growth accounts for 67% of profit growth.
Breaking down the numbers, sector growth remains the predominant driver, although its influence has waned slightly in the last 10 years. Factors that have seen their influence grow over the last decade include new products/offerings and price increases.
The trends underscore the value of hands-on work by PE to implement tangible improvements in portfolio companies.
Entry multiples increasing
As the African market has grown, transaction multiples have risen in tandem. Multiples on entry for PE deals completed from 2005 onward averaged 33% higher than those done up to 2004.
There were variations by region and by deal size. Bigger companies and more mature markets, in general, attracted higher entry multiples.
Shift from proprietary deals
Deals have become increasingly intermediated in Africa, a sign of the market’s development. For PE deals completed through 2004, nearly four out of five were proprietary, with just 2% of companies acquired through auction.
As capital has entered the region since 2005, the situation has changed significantly. Fewer than half of post-2004 deals were proprietary, while 7% underwent a formal auction process. Semi-proprietary deals (i.e., those subject to some degree of market testing) were as common as proprietary ones.
Perhaps counter-intuitively, deals acquired via auction outperform those bought through proprietary or semi-proprietary sourcing. One possible explanation is that transactions sourced through auctions are the strongest available assets.
Exit routes opening up
Although sales to strategic buyers continue to be the most prevalent exit route, exits via public markets tend to outperform the alternatives. Currently these exits take longer to achieve, but we expect this route to become more important as African public markets develop further.
Exits to other PE houses are also increasing as the industry matures. As more global players look to invest in the region, we expect secondary buyouts to further increase as a share of exits.