Activity in SA's private equity (PE) market plunged in 2009, bringing to an end a period of headline-grabbing mega-deals that had ramped up total transactions in the previous two years to a record R47,4bn.
"Activity was way down last year," says John Bellew, co-head of law firm Webber Wentzel's private equity practice group. Indicative of the state of play, he says, is that the industry has been unable to select a 2009 deal of the year.
Bellew's view is echoed by Roddy McKean, head of Webber Wentzel's Africa Group, who says the financial crisis had "a huge impact on the [PE] market". Though the total value of PE deals in 2009 will be announced by the SA Venture Capital & Private Equity Association (Savca) and professional services firm KPMG only in May, comments by market participants suggest that, at best, it was around half the R21,3bn recorded in 2008.
SA was not unique in a dismal global PE market in 2009. For example, in India, one of the largest PE markets in the developing world, the value of deals slumped 68% compared with 2008, to US$3,44bn, according to consultancy Grant Thornton. Even harder hit was the world's second-largest PE market, the UK, where the Centre for Management Buy-Out Research reports that PE buy outs in 2009 fell 72%, to £5,5bn, the lowest level since 1995.
It was not that private equity firms in SA were short of cash in 2009, having begun the year armed with R29bn in funds earmarked for investment. Rather, the slump in deals was mainly the result of the sellers' reluctance to accept the reality that their companies were not worth what they were at the investment cycle's peak, says Warren Watkins, KPMG's Africa region PE markets head.
As in 2009, a focus of PE fund managers this year will be on managing existing portfolio companies, says Watkins. For some fund managers it is likely to be a tough task; a quarter of the delegates polled at an SA Private Equity Congress (Sapec) meeting in Cape Town in February expect that over 15% of PE portfolio companies will breach their bank debt covenants in the next 24 months.
Fortunately, Watkins does not believe that breaching bank covenants will result in a foreclosure surge by banks.
The general view is that SA companies have weathered the financial crisis well. "I would have expected more [PE] portfolio companies to have experienced capital stress," says Bellew.
With the worst of the financial crisis now over, PE firms are again looking to build up cash resources in readiness for the next investment phase.
Though raising funds has become a difficult process, some funds have already closed significant fund-raising exercises, says Savca CE JP Fourie. Other big funds might close fund-raising exercises by the end of 2010 or in early 2011.
Bellew notes that Webber Wentzel is also seeing a lot of fund-raising activity and new local and foreign market participants. He believes players targeting foreign direct investors and having a broader pan-African or sub-Saharan investment strategy will be the most successful in raising funds.
Fund-raising exercises are not expected to spark a major revival in deal activity in 2010, however. Fourie says the focus is likely to be on follow-on investments in existing portfolio holdings rather than on new holdings. Recovery will be a slow process, with the first real signs of the market's recovery expected only in 2011, he adds.
Seemingly more upbeat than Fourie, more than 70% of Sapec delegates polled by KPMG at last month' s congress expect deals in excess of R3bn to make their reappearance in 2011.
Deals of R3bn and more would herald at least a partial return to the exuberant market conditions of 2007 and 2008, when the six highest deals all topped the R3bn mark. But a return to deals such as the largest ever in SA, when US PE firm Bain Capital bought out retailer Edcon for R27,13bn, remains to be seen.
More probable would be deals of the scale of SA PE firm Brait's R6,6m buyout of glass manufacturer Consol in 2007 and the buyout by UK-based emerging market PE firm Actis of financial services group Alexander Forbes, for R9bn in 2007, and boiler manufacturer Alstom, for R5,2bn in 2008.
Taken across the PE industry as a whole, potential deal targets are spread across a broad spectrum. A Deloitte survey indicates that manufacturing and services are the most popular target sectors, having each been selected by 15% of PE fund managers as their top choice.
Also high on priority lists are construction and retail, each backed by 11% of managers; telecoms and health care at 10%; and financial services at 9%.
Better returns from the next wave of investments are also expected to be generated by many PE portfolios with a far broader African exposure than at present.
"Private equity in Africa is a far more exciting story than it is in SA," says McKean. "Africa is the single most important initiative for Webber Wentzel," he stresses.
Many Sapec delegates share his view; 58% plan to raise funds focused on sub-Saharan Africa over the next three years and to invest in the region over the next 12 months, says Watkins.
Boosting this objective is planned reform of exchange control regulations, mentioned in the national budget, a move that Fourie says is "very positive" for PE in sub-Saharan Africa.
There is certainly scope for investment. According to Savca, other African investments held by SA private equity funds at the end of 2008 totalled a mere R1,6bn, or 2,2% of total invested funds of R73,9bn.
Local PE funds are not alone in their new found interest in investments north of the border.
"There is an increased appetite among foreigners for African investments," says Chris Derksen, one of Investec Asset Management's $150m Africa Frontier Private Equity Fund's four investment principals. "It's all about high growth potential," he says. "You just have to look at the significant growth rates being achieved in Africa by multinationals such as Unilever, Standard Chartered and MTN to see why."
Indicative of interest in Africa, SA pan-African PE firm Kingdom Zephyr Africa Management has just closed its second fund with total commitments of $492m from investors in Africa, Asia, Europe, the Middle East and the US.
There is no shortage of suitable investments in Africa, says Derksen. But, he cautions, securing them requires an in-depth knowledge of each country and a highly developed network of contacts. The Africa private equity fund uses these networks to target privately negotiated investments in African businesses of $15m and more, he adds.
WHAT IT MEANS
 The financial crisis had a "huge impact"
Expected deals for 2009 are put at half the R21,3bn recorded in 2008
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Unfortunately, increased attention from local PE fund managers on African investments could hold negative implications for companies in SA, where PE plays a key role. This was emphasised in a 2009 Savca survey of PE portfolio companies in which 47 of the 327 respondents said their company would have not existed or survived without private equity investment.
PE is also a key element in black economic empowerment (BEE) deals, with 54% of respondents saying that the introduction of BEE was possible only because of PE investment.
If SA's PE asset cake is to be sliced into more pieces, the solution must be to increase the size of the cake. This may be easier said than done. "Foreign investors interested in Africa do not focus on the more familiar investment themes in SA, but on the less discovered markets of Africa outside SA," says Derksen.
Economic growth prospects are a key consideration among the influences at play.
Underscoring this, McKean points to GDP growth across Africa's 53 countries which, in 2009, in the face of the global crisis, remained positive at an average of about 2%. SA's GDP shrank by 1,8% in 2009 and finance minister Pravin Gordhan says it will grow by 2,3% in 2010.
"Africa's GDP growth is predicted to be 5% in 2010, and that's conservative," says McKean.
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