Buyers Equity Guide - Last updated on - Webmaster: bartho@barthosmith.com
Profile
Survey: Private Equity and Venture Capital
A powerful engine for economic growth and job creation.
Private equity may be the way to go, writes Ciaran Ryan
The private equity industry in South Africa accounts for 2.9% of gross domestic product (GDP) which is better than many European countries but well below countries such as Israel and Malaysia.
Malcolm Segal, chairman of the Southern Africa Private Equity and Venture Capital Association (Savca), believes private equity could account for 6% or 7% of GDP if given the right stimulus. Experience elsewhere in the world shows that private equity is a more powerful engine for job creation and economic growth than investment in listed companies.
The latest survey on private equity from KPMG and Savca puts the industry funds under management at R40.6 billion in 2002, though there was no growth over the last year. Funds under management grew from just R1 billion in 1995 as private equity became recognized as an asset class in its own right, alongside equities, bonds and cash.
Annual returns well in excess of 30% a year, versus the 8% compound annual growth in JSE share prices over the last decade explain why private equity's share of the economy is on the up.
Interestingly, foreign institutional fund managers are more enthusiastic about South African private equity than local managers. Largely because of regulatory hurdles such as Regulation 28 of the Pension Funds Act which limits pension funds exposure to alternative investments such as private equity.
US investment rules are less restrictive pension and endowment funds account for more than 60% of private equity funds there. More than a third of the cumulative funds raised by South African private equity funds came from abroad, mostly the US.
While capital flows to the JSE from abroad and bond markets are prone to flight at the merest whiff of trouble, foreign private equity investors are prepared to commit for five or even ten years. This is the kind of foreign investment the country needs to achieve its economic growth targets, says Segal.
One of the attractions of private equity for pension and endowment funds is that the investments can be realized at about the same time that liabilities fall due.
Historically, institutional investors in South Africa have been reluctant to invest in private equity because returns are hard to measure and take several years to realize.
But this may change as institutional fund managers stare down a dark tunnel of collapsing returns and possibility of a prolonged bear market.
Private equity may be a light at the end of this tunnel. Private equity fund managers are active rather than passive investors, a concept now being replicated in the listed environment.
Private equity funds bring specialized skills to companies in which they invest, from strategy to marketing and manufacturing. They typically occupy a seat on the board, along with certain veto rights, and tighten corporate governance and reporting standards.
The funds typically invest in fast growing, unlisted companies and are prepared to nurse there investments for five years or longer. This frees them from the short term reporting pressures of the listed environment.
Private equity funds frequently facilitate management buy-outs and they help companies that wish to delist from the JSE Securities Exchange, often by way of leverage buy-outs which include an element of debt.
Though government sponsored bodies such as the Industrial Development Corporation and Khula Enterprises have allocated substantial funds to private equity, a number of regulatory hurdles inhibit the growth of the sector, says Para Naidoo, executive director of Savca.
Countries such as Australia and Malaysia offer tax incentives for inward private equity investors from capital gains tax. Private equity fund managers want to see greater clarity on the tax treatment of their investments, particularly the capital gains realized in different investment vehicles.
In contention is the R250 000 minimum fee charged by the Competition Commission each time a deal is announced. The fees are charged on a sliding scale according to the funds total assets, even though the deal may be small and have no competitive implications.
Perhaps the most serious impediment is South Africa's high cost of capital, aggravated by punishingly high interest rates, the new payroll and capital gains taxes and the switch from source to residence based tax. These reduce the internal rates of return on investment and discourage new investment.
"Another issue we would like to see addressed is the difficulty in obtaining exchange control approval for outward investments." says Naidoo.
The venture capital boom of the late 1990's has fizzled out, with a tiny volume of money committed to new ventures, though Gensee's BioVentures fund and the Treacle fund demonstrate that South Africa has a treasure trove of business ideas waiting to be discovered.
BioVenture recently acquired an interest in Electric Genetics, for software which is able to decode the human genome and is now used in universities around the world.
Last year Treacle acquired a minority stake in Parsec, a multiple winner in the President's Award for Export Achievement and the Technology Top 100 Awards. Parsec is at the cutting edge of technology, designing customised circuit boards and software for the telecommunications and defence industries.
Both companies earn substantial hard currency revenues, demonstrating that South Africa has homegrown technology capable of competing with the best in the world.
The absence of venture capital in South Africa is a volt government may have to do if it is to generate the kind of jobs needed to shrink the country's lengthening job queues.
Only a tiny fraction of business plans receive private equity or venture capital funding. One reason for the low hit rate is the poor quality of business plans, something that Savca intends to address through educational programmes aimed at entrepreneurs.
Entrepreneurs in the UK can get help in preparing business plans from goverment-funded consultants, something many would like to see introduced in South Africa.
Naidoo says Savca intends to commission studies on private equity and venture capital's role in the South African economy, similar to a recent study completed by the British Venture Capital Association (BVCA).
"We want to present a kind of white importance of this sector and suggesting ways to stimulate it." he says.
The BVCA study holds some important lessons for South Africa. It shows that employment in private equity-backed UK companies grew an average of 23% a year since 1996, against a national private sector average of just less than 1.5%. Virtually all of this growth was organic rather than by acquisition, according to the study. The Economic impact of Private Equity in the UK.
About 2.9 million people are employed in UK private equity-backed companies, about 16% of the private sector workforce. The rate of growth in private sector-backed employment was four times that of FTSE 100 and three times that of FTSE companies.
Private equity-backed companies grew sales by 30% a year since 1996 more than three times that achieved by FTSE 100 companies, Exports grew 20% a year while investment rose 25% a year versus the UK national increase of 2.3%.
About 83% of UK private equity-backed companies said their businesses would not exist or would have developed loss rapidly without backing from the private equity funds. The assistance they received ranges from financial advice to guidance on strategic matters, management recruitment and sharing contacts and market information.
Private equity backing helped energise mature UK companies by vesting part ownership in the hands of management and staff. Once private equity backers came on board, even well-established businesses recorded sales, profit and employment growth rates above the national average.
A powerful engine for economic growth and job creation.
Private equity may be the way to go, writes Ciaran Ryan
The private equity industry in South Africa accounts for 2.9% of gross domestic product (GDP) which is better than many European countries but well below countries such as Israel and Malaysia.
Malcolm Segal, chairman of the Southern Africa Private Equity and Venture Capital Association (Savca), believes private equity could account for 6% or 7% of GDP if given the right stimulus. Experience elsewhere in the world shows that private equity is a more powerful engine for job creation and economic growth than investment in listed companies.
The latest survey on private equity from KPMG and Savca puts the industry funds under management at R40.6 billion in 2002, though there was no growth over the last year. Funds under management grew from just R1 billion in 1995 as private equity became recognized as an asset class in its own right, alongside equities, bonds and cash.
Annual returns well in excess of 30% a year, versus the 8% compound annual growth in JSE share prices over the last decade explain why private equity's share of the economy is on the up.
Interestingly, foreign institutional fund managers are more enthusiastic about South African private equity than local managers. Largely because of regulatory hurdles such as Regulation 28 of the Pension Funds Act which limits pension funds exposure to alternative investments such as private equity.
US investment rules are less restrictive pension and endowment funds account for more than 60% of private equity funds there. More than a third of the cumulative funds raised by South African private equity funds came from abroad, mostly the US.
While capital flows to the JSE from abroad and bond markets are prone to flight at the merest whiff of trouble, foreign private equity investors are prepared to commit for five or even ten years. This is the kind of foreign investment the country needs to achieve its economic growth targets, says Segal.
One of the attractions of private equity for pension and endowment funds is that the investments can be realized at about the same time that liabilities fall due.
Historically, institutional investors in South Africa have been reluctant to invest in private equity because returns are hard to measure and take several years to realize.
But this may change as institutional fund managers stare down a dark tunnel of collapsing returns and possibility of a prolonged bear market.
Private equity may be a light at the end of this tunnel. Private equity fund managers are active rather than passive investors, a concept now being replicated in the listed environment.
Private equity funds bring specialized skills to companies in which they invest, from strategy to marketing and manufacturing. They typically occupy a seat on the board, along with certain veto rights, and tighten corporate governance and reporting standards.
The funds typically invest in fast growing, unlisted companies and are prepared to nurse there investments for five years or longer. This frees them from the short term reporting pressures of the listed environment.
Private equity funds frequently facilitate management buy-outs and they help companies that wish to delist from the JSE Securities Exchange, often by way of leverage buy-outs which include an element of debt.
Though government sponsored bodies such as the Industrial Development Corporation and Khula Enterprises have allocated substantial funds to private equity, a number of regulatory hurdles inhibit the growth of the sector, says Para Naidoo, executive director of Savca.
Countries such as Australia and Malaysia offer tax incentives for inward private equity investors from capital gains tax. Private equity fund managers want to see greater clarity on the tax treatment of their investments, particularly the capital gains realized in different investment vehicles.
In contention is the R250 000 minimum fee charged by the Competition Commission each time a deal is announced. The fees are charged on a sliding scale according to the funds total assets, even though the deal may be small and have no competitive implications.
Perhaps the most serious impediment is South Africa's high cost of capital, aggravated by punishingly high interest rates, the new payroll and capital gains taxes and the switch from source to residence based tax. These reduce the internal rates of return on investment and discourage new investment.
"Another issue we would like to see addressed is the difficulty in obtaining exchange control approval for outward investments." says Naidoo.
The venture capital boom of the late 1990's has fizzled out, with a tiny volume of money committed to new ventures, though Gensee's BioVentures fund and the Treacle fund demonstrate that South Africa has a treasure trove of business ideas waiting to be discovered.
BioVenture recently acquired an interest in Electric Genetics, for software which is able to decode the human genome and is now used in universities around the world.
Last year Treacle acquired a minority stake in Parsec, a multiple winner in the President's Award for Export Achievement and the Technology Top 100 Awards. Parsec is at the cutting edge of technology, designing customised circuit boards and software for the telecommunications and defence industries.
Both companies earn substantial hard currency revenues, demonstrating that South Africa has homegrown technology capable of competing with the best in the world.
The absence of venture capital in South Africa is a volt government may have to do if it is to generate the kind of jobs needed to shrink the country's lengthening job queues.
Only a tiny fraction of business plans receive private equity or venture capital funding. One reason for the low hit rate is the poor quality of business plans, something that Savca intends to address through educational programmes aimed at entrepreneurs.
Entrepreneurs in the UK can get help in preparing business plans from goverment-funded consultants, something many would like to see introduced in South Africa.
Naidoo says Savca intends to commission studies on private equity and venture capital's role in the South African economy, similar to a recent study completed by the British Venture Capital Association (BVCA).
"We want to present a kind of white importance of this sector and suggesting ways to stimulate it." he says.
The BVCA study holds some important lessons for South Africa. It shows that employment in private equity-backed UK companies grew an average of 23% a year since 1996, against a national private sector average of just less than 1.5%. Virtually all of this growth was organic rather than by acquisition, according to the study. The Economic impact of Private Equity in the UK.
About 2.9 million people are employed in UK private equity-backed companies, about 16% of the private sector workforce. The rate of growth in private sector-backed employment was four times that of FTSE 100 and three times that of FTSE companies.
Private equity-backed companies grew sales by 30% a year since 1996 more than three times that achieved by FTSE 100 companies, Exports grew 20% a year while investment rose 25% a year versus the UK national increase of 2.3%.
About 83% of UK private equity-backed companies said their businesses would not exist or would have developed loss rapidly without backing from the private equity funds. The assistance they received ranges from financial advice to guidance on strategic matters, management recruitment and sharing contacts and market information.
Private equity backing helped energise mature UK companies by vesting part ownership in the hands of management and staff. Once private equity backers came on board, even well-established businesses recorded sales, profit and employment growth rates above the national average.