Private Equity in emerging economies

The global private equity market currently sits comfortably at $8.2 trillion in assets under management (AUM) as of 2023 increasing by 8%, despite the drop in fundraising. Private equity firms help companies grow and prosper by acquiring a controlling interest or becoming full owners, effectively managing them, and selling them at a profit. This lucrative method of profiting through value creation enables companies to reach their full potential, drastically improving welfare and promoting economic growth. Despite the US representing around 60% of global AUM, the rapid economic growth and industrialisation in emerging markets offers a lucrative, yet largely untapped, opportunity for further returns. As markets evolve and mature, the question still remains: how can private equity shape the future in emerging markets?

Growth in sectors like healthcare, technology and consumer goods is just one of the many drivers that promotes investing in these economies. In Southeast Asia, where there is rapid and accelerating digital transformation, fintech and technology have shown to be high-growth sectors due to the surge in employment, salaries and start-up funding. With tech investments increasing tenfold between 2010 and 2022, opportunities for exponential growth in the sector are more prevalent here than more developed economies where growth rates are significantly lower. Lower company valuations, caused by the perceived relative risk of a less mature economy, drives affordable investments with higher returns due to the ability to capture market shares in an expanding economy. Overall, the large growth potential and the rapid adoption of technology in developing economies results in exponential return on investments that is rare in developed economies where revolutionary change is limited.

Policy changes that promote foreign investments are another method many developing countries are adopting. For instance, in 2020, Vietnam enacted the revised Law on Investment which cites “new investment incentives, additional measures to streamline investment procedures, and additional rules on outbound investments” as well as many new methods to promote investments. Other cases like India simplifying their tax structure and China’s efforts in opening their financial markets to international investors results in a reduction in the barriers for foreign funds to investment in developing economies.

However, the high return from investing in developing economies is accompanied by the risks that come while doing so. Political instability can disrupt business environments and strategies, private equity firms reduce their risks by engaging with local experts and diversifying their portfolios to spread their risks to more countries. Besides this, private equity firms struggle with scaling businesses in markets where infrastructure in transportation, energy or telecommunication is underdeveloped. This largely reduces the growth potential of businesses despite having a sufficient investment fund. Furthermore, the risks that come with lower transparency in the markets and potential of corruption forces private equity firms to conduct in-depth due diligence regarding external factors when considering businesses to invest in.

Case Study

African Infrastructure Investment Managers (AIIM) is a local private equity firm specialising in investing in infrastructure improvements in Africa. Focusing strongly on providing essential services and closing the continent’s infrastructure gap, AIIM has firmly solidified their expertise in the energy, transport and digital infrastructure sectors. AIIM’s heavy investments in renewable energy companies bring accessibility of clean energy to thousands of homes across Africa. One of many examples include their 50/50 joint venture with Hydroneo Afrique to make the AIIM Hydroneo project in Cameroon and Guinea. The project uses run-of-river hydro power plants, which have less social and environmental impact than large-scale hydro power projects to better serve the growing energy needs across the continent. AIIM’s investments not only bridge the infrastructure gap, but also actively boost economic growth by improving energy access and creating jobs along the way.

To contrast, Carlyle Group, one of the largest private equity firms with more than $400 billion AUM, actively invests in Africa through its Carlyle Sub-Saharan Africa fund. The fund is aiming to support the growth in emerging middle class across Sub-Saharan Africa, targeting the consumer, logistics, telecommunications and financial services sectors. One of the investments the fund made was to J&J a logistics company based in Mozambique. This investment allowed J&J to expand their operations, boosting regional trade and improving access to essential goods and services.

The importance of a local fund that has strong connections to local expertise and partnerships cannot be understated, AIIM has successfully aided in developing infrastructure across Africa through their strategic investments. That being said, the global expertise and experience of an international private equity firm like Carlyle Group provides meaningful insights and sector expertise that is invaluable to developing the infrastructure landscape in an emerging economy.

The Future

As markets continue to mature and the gap between emerging economies and developed economies narrow, private equity firms are necessary in supporting growth and development. Dominant investment sectors like technology and healthcare are expected to remain the main focus for funds amidst rapid digital transformation and the adoption of new technology. The increase in focus on renewable energy allows for countries to meet their ESG goals. The creation of ESG funds and impact investing will allow firms to leverage green technologies whilst emphasising on renewable energies, sustainable infrastructure building and responsible governance. Local PE firms are expected to establish themselves in a more prominent role with their expertise in navigating complex country-specific regulations and cultural landscape. International and regional partnerships will also grow to be more common, transferring valuable knowledge and experience and facilitating larger deals.

In conclusion, private equity firms operating in emerging markets not only carry huge potential for profits but also aid in driving economic and social growth. By promoting investments to reform infrastructure, generate employment and accelerate economic growth in a sustainable and responsible way, private equity has paved the way for emerging economies to prosper.

Investors finding the right balance between innovation and risk management is crucial for creating both impactful returns and lasting economic growth.

Author: Wai Kin