PE in Africa is fast-growing and investing in a variety of sectors. So what challenges do investors face?
The diligence process can be much more hands on, as information is not necessarily readily available in the form required. We think sponsors increasingly will expect their advisers to be more creative in the way they diligence businesses. Desktop reviews of documents, which might be sufficient for a European buy out, will not always be enough. Often, direct engagement with a regulator or key government stakeholder is required to understand their approach to key issues impacting the business, as opposed to just reviewing the letter of the law. Also, financial records are often inadequate, requiring advisers to conduct more in depth or innovative diligence (for example inventory checks, or checks with port authorities).
And how does the diligence landscape flow into deal terms? Unlike the trend in European leveraged buyouts for locked box pricing, we think that for most deals in sub-Saharan Africa, some form of completion accounts price adjustment will be the prevalent mechanic for some time. Locked box mechanics will be suitable only for the deals where there is sufficiently robust data on historic financials.
Other deal protections for investors in Africa provide good and bad news. The bad news (at least for now) is that warranty and indemnity insurance, increasingly used in the European and US markets, is difficult to obtain outside of South Africa. In the short term, we expect to see this product increasingly available on other sub-Saharan Africa deals to fulfil demand from investors.We would expect higher premiums reflecting the perceived higher risks associated with these jurisdictions.
The good news is other risk mitigants which are used frequently on infrastructure deals are available to PE investors, such as bilateral investment treaties (BITs). A BIT is an agreement between two countries regarding protection of investments made by investors from one country into the other. BITs provide protection against expropriation, creeping expropriation (e.g. taxes or other levies imposed on the business) and other actions of the signatory that undermine the economic interest of the investor, and are enforceable through international arbitration.
BIT protection will not be relevant on all deals, but it is certainly worth considering for businesses which are of strategic importance to a country or have a significant interface with a government or regulator, as is the case on financial services (in particular banks) or resources deals, for example. On these deals we expect to see sponsors increasingly structuring investments through certain jurisdictions not just for tax purposes, but also to take advantage of BITs.