DealMakers - Q1 2023 (released May 2023)
SA Private Equity market is ripe for global capital
by Jacci Myburgh
SA private equity returns are poised for growth and to outstrip that of listed equity, but you need skin in the game now.
At a time of slowing global growth, high-interest rates and rising uncertainty, private equity in developed markets is facing a difficult macro-environment in the short to medium term, and returns are likely to be impacted. In South Africa, the reverse is true. The macro-environment is more conducive than it has been in a long while.
Perspective is very important in investments in general, and also in private equity. In order to gain a global perspective on private equity trends across geographies, I try to attend the SuperReturn International Private Equity Conference in Berlin every year. This conference is one of the world's largest private equity events, attracting experts from around the globe.
My observations from last year’s event include the fact that, firstly, private equity and alternative assets, in general, continue to attract large amounts of capital. However, the key takeaway from last year's "big show" is that private equity in developed markets is at a seminal juncture. Private equity returns are underpinned by the fundamentals of the asset class: selecting the right companies and sectors to invest in, active ownership of those companies, alignment between shareholders and management (often elusive in listed equity) and a long-term value focus. Returns are also inevitably impacted by the environment, or the macro – that which you cannot control.
Private equity returns in the US, as well as Europe and the UK, have been very strong over the last decade. According to Cambridge Associates, US private equity has outstripped the listed market (MSCI World) by over 5.5% over the last decade, and by over 8% in the last three years, and according to the British Private Equity and Venture Capital Association, private equity in the UK has outperformed the listed market (FTSE All Share Index) by nearly 10% over the last 10 years. These markets have, over the last decade, been characterised by strong economic growth, rising valuations and low cost of debt. In the US, for instance, GDP growth between 2010 and 2020 was robust, multiples/valuations were increasing, and debt was cheap and readily available. This resulted in outsized returns, especially in the last three years.
However, the outlook today is very different. The US is experiencing declining growth and record inflation, while in Europe, a recession seems probable due to energy shortages and sustained elevated inflation. This, coupled with a substantial rise in interest rates and declining valuations, will put pressure on private equity returns in developed markets over the next few years.
A Case for the South African Private Equity Market
While I don't expect the recessive trend in other parts of the world to last for too long, the outlook for private equity in SA is positive. Indeed, the local macro-environment has been a challenge for SA private equity over the last decade. Returns in SA private equity leading up to 2015 were very strong, outperforming listed equity as expected. However, between 2015 and 2021, SA faced the ramifications of the state capture years, where we went through various recessions with negligible GDP growth – south of 1% – and numerous downgrades by rating agencies. We attracted virtually no foreign interest in SA assets and, consequently, private equity returns receded during this period.
Fast forward to today: the current shift in geopolitics and macro outlook has made SA look promising for strong private equity returns on a relative basis.
Interest rates in SA have increased, and perhaps there may be a few increases left. However, we are not far off pre-COVID-19 levels. Despite a very long to-do list for the SA government, our economist, Johann Els, believes that GDP will grow at around 2% this year. The Johannesburg Stock Exchange, which serves as a benchmark for valuations, was nowhere near the frothy levels of US equity markets and has, therefore, not experienced such a severe pull-back. In addition, further changes to the regulatory framework of the Pension Funds Act will allow for increased allocation to alternative assets, such as private equity.
Economically, we are moving into a more stable environment. On a relative basis, SA is again becoming a reasonably attractive investment destination. Foreigners are similarly interested in buying SA assets, seen by our recent sale of Consol Glass to Ardagh, and a portion of Distell to Heineken. Considering that developed markets’ economic prospects are looking uncertain – investment in Russia is off the list, Latin America is unexciting, Turkey is challenging, and China is difficult to navigate – on a relative basis, SA is a reasonable investment destination over the medium term.
Having been in the game since 2000, Old Mutual Private Equity has witnessed many market cycles. I’ve personally been in the business since 2005 and witnessed many of these cycles, and we are investing our fifth fund at the moment. The current environment is the most conducive it has been for almost a decade and is bearing out in the returns in our current funds. Investors who want to exploit these favourable conditions to produce returns that will outstrip that of listed equity very handsomely should consider backing an experienced manager. Now is the time to get skin in the game. n
Myburgh is Co-Head | Old Mutual Private Equity.