Private Equity explained

Osman Badat FCA McMillan Woods, Chartered Accountants

Private equity (PE) is a ‘medium to long-term’ type of financing for potentially high growth private companies in return for an equity stake. All PE transactions are structured with an exit strategy in mind and they are generally designed to generate capital profits from the sale of investments in future rather than income from dividends. Sometimes, the transaction is partly financed by bank debt and is termed a ‘leveraged’ transaction.

There are three main players in any PE transaction: the investors comprising of General Partners (GP) and Limited Partners (LP); the Fund Manager who is the promoter, investor and manager; and the Targets i.e. the investee companies.

In contrast with a bank financing transaction whereby the company would approach the bank for financing, with PE, it is the Fund Manager who searches for potential targets.

A PE fund is normally formed as a limited partnership comprising of a GP who acts as the promoter and fund manager and several LPs who are mainly pension funds, insurance companies, banks, high net worth individuals, family offices, etc. The main advantage of a limited partnership structure is for tax benefit: the partnership is not taxed but each partner is taxed on his share of profits.

The duration of the investments varies between 5 to 7 years on average. There are a number of alternative exit routes, the most common ones being sale of the business to a corporate acquirer or (trade sale); flotation on the stock exchange via an Initial Public Offering (IPO).

Private equity backed companies have been shown to grow faster than other types of companies. This is made possible by the unique combination of capital and experienced personal input from private equity executives.

Fund Managers have a key role to play in any PE transaction. They act look for investors and search for potentially high growth businesses. There are two main factors Fund Managers look for in a potential target: businesses that can offer the prospect of aboveaverage growth within five years or so; and businesses that are managed by experienced and ambitious teams capable of turning their business plans into reality. They also manage the investments through board representation and covenants which limit certain actions of management without the consent of the investors. They would normally exercise voting control over all significant transactions. They tend to favour a culture and incentive system that rewards success highly.

Africa-focused PE funds

There are approximately 100 private equity firms headquartered in Sub-Saharan Africa. According to a recent report prepared by the Emerging Market Private Equity Association (EMPEA), Sub-Saharan Africa climbed into fifth slot on the survey’s emerging markets attractiveness index in the first half of 2012, from seventh place in 2011. The region was ranked eighth in 2010. Approximately US$ 1.2 billion were invested in Sub-Saharan Africa by PE funds in the first half of 2012.

Advantages offered by Mauritius

Mauritius is well-positioned to take advantage of the increasing appetite of Fund Managers for Sub-Saharan Africa. A number of PE funds/managers have been very active in Mauritius in recent years, e.g. Actis, Kibo Fund (structured as a Limited Life Company), Aureos/Abraaj Capital, etc. Mauritius counts a mature stock market, a pool ‘value- adding’ finance professionals and an emergence of a growing SME sector.

The recent promulgation of the Limited Partnership Act will enable funds to be structured directly in Mauritius as LPs, hence lessening the need for complex structures to achieve optimal results. GPs need full access to IFRS financial statements before investing. Contrary to many African countries, Mauritius has adopted IFRS since 2001.

Private equity is very much a people’s business in Africa. It is very difficult to address without the element of trust and local knowledge.

There is still a need for more professionals with the necessary skills to source, negotiate, structure and manage investments.

Bank financing in Africa is relatively expensive so some other form debt financing may be more suitable in leveraged transactions.

Although the limited partnership structure is the most common, we have seen recently the emergence of ‘holding company’ structure for PE type transactions. TLG Capital, Brait and Chayton Capital have all recently abandoned the PE mantle in favour of an investment company structure. The main advantage of a holding company is PE funds are able to exit with increased flexibility (which may be more suited to Africa).

About McMillanWoods (McMW)

McMW is a member of McMillan Woods Global, an international network of accountants and business advisers present in 25 countries.

Our understanding of market fundamentals and long-standing local relationships can uncover new opportunities for fund managers seeking potential targets in the region. We can assist throughout the whole PE lifecycle: pre-deals, transactions, post-deals and exits. Our services include: identifying qualifying investment opportunities, due diligence, valuations, investor reporting and IPO.