April 12, 2010 5:38 pm

Hopes rise for return of private equity deals

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Last year, many regional private equity executives, though shocked at the scale of the financial crisis, were confidently forecasting a “vintage year” for investments in the Middle East.

Firms, after all, had plenty of “dry powder” to take advantage of the economic downturn and subsequent drop in asset valuations. Between 2006 and 2008, 85 funds concentrating on the Middle East and north Africa raised $18.2bn, according to Preqin, a data provider, and much of it had yet to be invested when the crisis struck.

Yet a bumper crop of transactions failed to materialise. Apart from a few smaller deals – such as Investcorp, Eastgate Capital and The National Investor’s club deal to acquire a 70 per cent stake in Saudi jeweller L’Azurde – regional private equity houses largely stayed on the sidelines.

Now, however, private equity executives are forecasting that 2010 will be a busier year for the regional industry as economic conditions improve and risk appetite picks up.

Last month, the Carlyle Group, the US buy-out behemoth that launched a $500m regional fund in 2007, acquired a 30 per cent stake in General Lighting Company in Saudi Arabia – its first stake in a Gulf company after two investments in Turkey.

“In 2009, things started to change and we saw a healthier pipeline of potential deals with more reasonable valuations,” says Walid Musallam, Carlyle’s Middle East chief. “They’re not cheap, but at least at a level where we can look at. I anticipate more deals this year.”

Local houses also plan to start investing again. Saudi Arabia’s Amwal AlKhaleej is closing in on four potential investments in Egypt and Saudi Arabia. Ammar Al-Khudairy, the firm’s chief executive, forecasts the region will see “more deals in 2010 than last year, but still fewer than we saw in 2008”.

Saudi Arabia, Turkey and Egypt are likely to be preferred for investments because of their large populations and relatively healthy economies.

The dominant regional private equity model – acquiring large minority stakes rather than buy-outs, and relatively little use of leverage to enhance returns – has also been reinforced by the crisis, experts say.

“Carlyle learnt in Asia that the classic leveraged buy-out model isn’t always the best fit, and has adapted to the Middle East,” Mr Musallam says.

Nonetheless, some funds may still struggle with the legacy of assets acquired in the boom years, and many have had to focus on managing existing investments rather than seeking new ones.

“There wasn’t much visible activity in 2009 in terms of transactions or exits for the industry, but firms were exceedingly busy with their portfolios and dealing with the challenging environment,” admits a senior private equity executive at a regional firm.

The reluctance of many merchant families to sell stakes in their companies on the cheap – even when under financial pressure – was another factor that hindered private equity activity last year.

“Because of the risks and uncertain economic and financial environment, buyers wanted compelling valuations,” says Mr Khudairy. “But the reality was that a lot of people didn’t want to drop their prices even close to the drop we saw in public equity markets.”

Capital has also been scarcer than the headline fund sizes might suggest, some private equity executives concede. Banks have been reluctant to lend to private equity firms, and some investors who had signed up for funds before the crisis were later unable to meet their commitments.

Many firms had to shelve fundraising plans last year and, although investor interest has begun to recover, executives say that only the top-tier firms with good records will be able to raise funds.

Indeed, some regional investors are looking to offload their stakes in existing funds. Triago, a private equity advisory boutique, estimates that there is up to $150m of Gulf private equity funds for sale on the secondary market, and about $500m in total for sale in the region, mostly stakes in US funds.

“Some sell because they need to raise cash, some sell to rebalance their portfolio, and some are selling out of private equity because they feel it shouldn’t be part of their portfolio any more,” says Antoine Drean, chief executive of Triago.

However, executives say investors in private equity might become more positive once funds start returning money. While regional equity markets remain well below their peak, a gradual recovery has sparked optimism that some funds may be able to start exiting their investments this year.

“Fundraising was impossible in 2009. This year it is still difficult, but not impossible,” says Mr Khudairy. “We’re looking to exit two or three companies within the next 12 months through trade sales and initial public offerings.”

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