African pension funds with growing asset bases, due to rising incomes, will need to look beyond traditional asset classes to diversify their portfolios. Given private equity’s long-term nature – the typical life cycle of a fund is 8-10 years – the asset class is an obvious choice.
In Nigeria, the pension fund industry has grown from USD7bn in 2008 to USD25bn in 2013 while Ghana is expected to see growth of 400% in assets under management (AUM) over the four years to 2018. In Namibia, pension assets are around 80% of GDP and 40% for neighbouring Botswana.
It is estimated that there is at least USD29bn in funds available for African pension funds to channel into private equity investments. This number is based on the findings of a study of the assets under management (AUM) of only ten African countries’ equity.
Funds could invest US$29 billion in PE
According to the Commonwealth Secretariat and Making Finance Work for Africa (MFW4A) Partnership report, the ten countries listed in the table below have a combined AUM of approximately USD380bn. Based on the amounts that pension funds are allowed to invest in private equity in each country there is capacity for USD35bn to be invested. Of this figure, between USD3.8bn and USD5.7bn is currently invested in private equity. This equates to a shortfall of around USD29bn invested in private equity. In practical terms, it is likely that only a portion of this will actually be invested, as pension funds are unlikely to use their full allocations.
As this sample consists of only ten African countries, it suggests there are even more funds available for private equity investments across the continent.
In developed markets, private equity has become a key component of pension fund portfolios. This is due to increasingly favourable pension fund regulations and private equity’s historically high returns.
For the ten-year period through 30 September 2013, the Europe Developed Private Equity and Venture Capital Index (15.9%) and the US Private Equity Index (14.2%) outperformed both the Russell 2000 (9.6%) and the S&P 500 Index (7.6%).
Like hedge funds, real estate, and other smaller asset classes, private equity is considered an alternative investment. Today, alternative investments make up between 10% and 30% of developed market pension fund allocations.
African markets have not yet seen similar allocations from local pension funds. Development Finance Institutions (DFIs) have been the main source of capital to stimulate the creation of the African private equity industry. Approximately US$300bn was raised for private equity globally in 2013 and of this only 3% or US$1.2bn was earmarked for funds with an African focus. A lack of well-established fund managers with a good track record deters potential global institutional investors, particularly when there is little evidence of investment from local institutions.
In addition, regulations often still inhibit Africa’s ability to attract both foreign and local capital.
Pension regulations revised
Several major African countries have revised pension regulations in recent years, with many either considering or actually revising rules around investments into private equity. These changes have yet to cause a significant change in allocations of African pension funds, but there have been some allocations by larger funds, particularly from South Africa, and more recently from Namibia, Nigeria, and Kenya.
Despite the challenges of Africa’s nascent private equity industry, it has seen a growing inflow of investment funds as institutions realise the real growth opportunities the continent offers as the next frontier. This change in perception is reflected strongly in a recent Market Attractiveness survey performed by EMPEA. This survey ranks the relative attractiveness of various emerging markets to global institutional investors.
A move by African pension funds to increase their private equity allocation would benefit the private equity industry immensely. The emergence of pension funds as limited partners (LPs) in Africa would give private equity funds an even larger fund base to draw from.
PE funds can play developmental role
This point is even more pertinent given that many African countries have developing capital markets and limited long-term financing. This makes private equity an attractive alternative to companies seeking capital. In addition, there is the active role general partners (GPs) can play in managing portfolio companies and the increasingly important economic developmental role private equity funds can play as a by-product of achieving commercial returns.
The hands-on nature of private equity funds provides strategic assistance to businesses helping them grow and develop, which has many positive side-effects to an economy. These include job creation, an increased tax base, and economic growth.
About Craig Metherell, Analyst, RisCura Independent Valuations:
As an analyst in the RisCura Fundamentals division Craig has worked on Private Equity valuations across a wide variety of industries and a number of different African economies. Sector focus has included the retail industry, oil and gas, as well as the farming and agri-business industry. Having previously been a part of the RisCura Analytics team the relationship between private equity and pension funds is an area of interest. Metherell has BBusSci (Finance) and MCom (Finance) degrees.
RisCura provides independent valuation, risk, and performance analysis to investors in unlisted instruments in Africa. We partner with clients to deliver the transparency and accountability demanded by investors and auditors. Our clients include private equity funds, pension funds, credit funds, banks, and other investors in Africa, and cover industries as diverse as agriculture, retail, manufacturing, and the extractive industries. Our success is built on our reputation for rigorous, research-based, and results-driven investment decisions that benefit our clients.