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On the Challenges and Opportunities we see in Private Equity in the Middle East (MENA) Region

By : Ziad K. Abdelnour| 5 May 2010
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Private equity in the MENA region is a relatively new phenomenon, although it has been an attractive funding avenue for international firms for decades.

Since the oil shock of the 1970s, petrodollars have found their way back into the West, often as investments in private equity funds. The investors ranged from wealthy merchant families in Kuwait and Saudi Arabia to the nascent sovereign wealth funds of the region. There are many family businesses based in the Gulf, and many have made direct principal investments in companies or are even limited partners in private equity firms. Yet for some time the region was mainly known as a good place to raise funds, not to do deals.

As oil prices stagnated in the 1980s and 1990s, economic growth and bureaucratic governments dampened private sector opportunities. Then in 2002 the price of oil started steadily climbing again, causing a renewed stream of surplus liquidity to search for profitable investment outlets. This, coupled with broad economic and regulatory reforms by many countries in the region, including Saudi Arabia, Egypt and the UAE, led to newfound interest in investing within the region. During previous cycles, most of the surplus capital had been recycled back into Europe and the United States, but after 9/11, many Middle East investors started investing in their domestic markets.

Initially, most of the surplus capital was invested in local equities and property, but gradually some found its way into the region’s embryonic private equity funds. When oil prices later began to soar they caused capital to gush into the Gulf at an unprecedented rate, and private equity rose sharply in popularity. Now, there are nearly 100 funds focused on the region that have raised close to US$20 billion in capital, according to Preqin, a private equity data provider.

The attractions of the asset class are clear. Stoked by rising oil revenue, the MENA region’s annual real economic growth rate has comfortably averaged above 5% every year since 2000, according to the International Monetary Fund (IMF), far exceeding rates in most developed countries. While the recent drop in hydrocarbon prices heading into 2009 will shave capital inflows, most countries in the region, particularly in the Gulf Cooperation Council (GCC), are nevertheless expected to enjoy healthy current account surpluses. According to the World Bank, the region’s joint current account surplus rose from 17.2% of gross domestic product in 2007 to 18.7% in 2008, though it will likely fall to 8% last year and then 5.4% this year.

What’s most disturbing today though is that there hasn’t been a single bad news story about any major private equity firm in the Middle East since the start of the financial crisis, except of course the news coming out of a few publicly listed investment groups such as Investcorp or high profile sovereign backed entities like Istithmar. Investcorp described the recent trading period as the most challenging since the firm was founded in 1982, yet no other privately held firm has come out with any bad news about staffing, portfolio, access to credit, fundraising or deal pipeline. Instead most industry commentators have painted a picture of ‘opportunities abound’ with falling valuations, $13 billion of dry powder and solid portfolio performance.

While we believe there will always be opportunities, we also expect to see a lot of pain. One of the most candid admissions came from David Rubenstein, the co-founder of Carlyle Group, when he said at the recent SuperReturn Middle East private equity conference that Private Equity firms helped inflate the credit bubble by buying companies at high prices whilst relying on cheap debt. “We contributed to the problem. We tended to invest near the bubble peak at very high multiples.” Surprisingly no such admission is forthcoming from private equity leaders in the Middle East.

We strongly believe the industry is still in a major crisis, and when it is over, you can expect 70+% of the region’s 100 firms to have disappeared. Why?

Well, despite the favorable economic backdrop and recent proliferation of funds, the deal flow is very small. Most of the private equity funds in Dubai are actually investing in the non-Gulf region. Further, it is a fact that one in every four merger and acquisition deals of just over 200 deals tracked by us between January 1 and April 15, 2010 involved a partner outside of the MENA region (inclusive of Turkey) though most of these deals related to assets located within MENA.

Also, even at its peak, the regional private equity market was worth only $2 – $3 billion per annum; so you still can’t logically make a case for so many firms.

While the local funds that know the region intimately are still staffed with lots of financial engineers; graduates of the best Ivy League schools in the world, they still have real few operators on board truly capable of taking portfolio companies to the next level; when and if needed.

So at the end of the day, we believe that even survivors will need to seriously rethink their business models, most likely opting for increased specialization, smaller funds, greater emphasis on earlier stage investing, improved economics for investors and more operationally focused teams.

One of the most important factors for most firms to consider when repositioning themselves will be their relationships with family businesses, who in most cases are also clients or investors. In the Middle East, these family groups constitute more than 70% of the regional economy and control hundreds of billions of dollars in corporate assets. They are the most sophisticated and proven entrepreneurs in the region with adequate investment capital, deep operational know how and privileged market access.

It is ironic that these family groups have inadvertently funded one of the biggest entrepreneurial experiments the region has ever seen: the establishment of the regional “Private Equity Firm”. This new breed of entrepreneur claimed unique insight into matters of corporate governance, succession planning and unlocking financial value from conglomerates, which were all pressing issues for family groups. In reality many Private Equity groups were, knowingly or unknowingly, evolving into cleverly disguised competitors of their investors rather than value adding partners.

It is highly unlikely that family businesses will continue to bankroll Private Equity firms without forcing them to transform into effective partners. The alternative will be to seek new capital from other institutional sources.

We at Blackhawk believe that even survivors will need to drastically rethink their respective value propositions, most likely opting for increased specialization, smaller funds, etc….

Despite the challenges articulated, it is our view that private equity has a very bright future for those who adapt and will play an increasingly pivotal role in the development of the private sector. Based on our internal estimates we think it likely that private equity will grow into at least a $7 – $10 billion per annum industry by 2016 which bodes well for those who are willing to persevere through the crisis. For those still clinging to their old traditions of doing business, be prepared for a rude awakening.

Looking forward to doing business with you and to continue being your resource for deals, capital, relationships and advice.

Your feedback as always is greatly appreciated.

Thanks much for your consideration.


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  2. jbassamjbassam

    Thanks for the well analyzed artcle. I guess your lebanese roots helped you to diagnose the prospect. In fact, it is absolutely true when you said: 1.” Most of the private equity funds in Dubai are actually investing in the non-Gulf region”. 2. “While the local funds that know the region intimately are still staffed with lots of financial engineers, they still have real few operators on board truly capable of taking portfolio companies to the next level; when and if needed” 3. “So at the end of the day, we believe that even survivors will need to seriously rethink their business models, most likely opting for increased specialization, smaller funds, greater emphasis on earlier stage investing, improved economics for investors and more operationally focused teams” 4. “Despite the challenges articulated, it is our view that private equity has a very bright future for those who adapt and will play an increasingly pivotal role in the development of the private sector” All of the above tells that there are great opporutunites that can be fullfilled mainly by those a) who comprehend the local culture, b) speak the industrial/specalization lanugauge, and c) have the MBA skill. In every advanced economy, the lead begins with the local enterpreuners.. and hopefully we are taking the lead. Thanks much for your insight.

  3. Syed Azizur RehmanSyed Azizur Rehman

    The banks and investment companies in middle east are experts in preparing only and only one dish and that is real estate. More than that they do not want to think.Its high time they capitalise on clean technology related investment not only in their countries but also in China and India. Finally i really wonder what type of advice the so called the top notch business school consultants have been pouring to the banks and other business establishments !

  4. MaMa'moun

    Dear Ziad BH, Excellent background, analysis of the situation abd conclusion (bottom line). I would say, pateince for the right deal is important in the region but there will be tough competition from family business them selves for those opportunities. Probably, one of the niches of potential success is a) looking for 3-5 yr’s old business that has a seed for sucess and needs GROWTH CAPITAL & Operations/ Process “Know How” to expand 2) New technolgy/ doing it faster/better/cheaper where current players can not shift to due to investment in current business or just do not see it … might be some of the best ways/least risky opportunities in MENA. Good Luck, Mamoun

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