2 December 2012

Ethiopia: Private Equity Influx Rises in Africa, but Ethiopia Stays Idle - Hurtful!


There is a silent revolution that seems to be going in Africa, a continent once hailed as 'hopeless', and it relates to a rising interest for investment in the region. Investment interests originating from regions of capital saturation, ranging from United States to the Middle East, are converging in Africa. The continent is being considered as the last frontier for high rate of return on capital.

Institutions with diverse financial instruments are showing historical interest to pitch their money into African opportunities. The breed ranges from purely governmental initiatives to public private partnerships and on to purely corporate entities. They all seek for a higher return on their investment.

It is all happening at the very time that the world is witnessing an overall decline in return on capital. The windows of opportunities are closing in the developed world.

A combination of piling sovereign debts, an eroding purchasing power, a slumping consumer confidence and unabated market risk sensitivity have combined to reduce the viability of investing in Western capital markets. Investors looking for better opportunities are, then, scavenging for them across the world.

By and large,Africapresents them with huge breaks. It has a rare combination of rich natural resource base, cheap labour, growing economies, a rising middle-class, revitalised states and a large market size. It is indeed a wild land forgreenfieldprojects with only little risk for failure.

The influx of capital is not happening at a speed comparable to the opportunities, however. It instead lags behind.

The lag has a lot to do with the negative image of the continent that the global media has been propagating for decades. Despite the provisions of the market, then, investors perceive high risks whenever they think of coming toAfrica.

It is only lately that the old, negative image starts to fade. Investors having risk-resistant capital in their pockets are arriving at the markets of the 54 countries of the Continent under the guidance of advanced risk and uncertainty analysis instruments. Even the most volatile countries are feeling the heat, although the higher bet goes to commodity-exporting countries.

Ethiopiais no different. It sees its own share of the convergence. Yet, the way the convergence plays out closer is a bit different.

On the one hand, there is a rising interest from private equity funds to invest inEthiopia. Their bet embraces both push and pull factors. Whereas the disguising market situation in the US and Europe stands on the push side, the sprinting economy of Ethiopia and the related benefits that it brings along with constitute the pull factors.

On the other hand,Ethiopiaseems not be ready to absorb the interest as cordially as possible. Its investment climate is not conducive as it is marred with a complex set of problems. Hence, investing remains risky.

Effective influx of investments could not be realised without reliable financial intermediaries.Ethiopia, nevertheless, lacks such institutions for its financial sector is heavily suppressed. Its suppression is caused both by policy decisions and lack of competition.

Living under policy protection, Ethiopian financial institutions fail to provide effective financial intermediation that could have provided confidence for foreign private equity firms. Their traditional instruments could not handle the structural advancements of private equity.

Partly, that relates to the absence of capital market. Financial institutions may have remained passive in adopting advanced financial instruments for they see no demand for it. But, it is puzzling that they remained as such even with the ever-increasing influx of private equity.

By way of protecting the industry and avoiding foreign investment in it altogether, the government contributes to the problem matrix. Little creativity happens in the sector for there is no competition. And there is no denying that settling for local minds only has made the environment all the more complacent.

A glimpse at the size of the private equity influx happening inAfricacould rightly show the magnitude of the debate. Total private equity inflow toAfricahas reached to three billion dollars in 2011, a significant leap from the 890 million dollars inflow the previous year. Major beneficiaries of the inflow includeSouth Africa(720 million dollars),Ghana(420 million dollars) andEgypt(410 million dollars).

It is easy to see how much the process is benefiting from the rising capital market trading of the Continent that has shown a steep rise in the last five years, to reach at a total capital base of 17.4 billion dollars in 2011.

Tapping such a huge resource certainly calls for creating a favourable policy environment. But whatEthiopiaoffers in this term is far from that.

A policy environment that is marred with passivity continues to hatch bureaucracy. The latter has grown too cumbersome to discourage advanced investment portfolios that seek transparency.

To worsen the case, government regulation has become increasingly unpredictable. Regulatory surprises have become the new trends of the policy regime. Coupled with hierarchic state structure, the whole set up increases the risk of investment.

It is not the whole story, though. Contributing to the lagging inflow of private equity toEthiopiais the relative caginess of Ethiopian firms towards outside capital. There is a wholesale suspicion towards it, to say the least.

Of course, lack of information about the incoming capital would obviously contribute towards the culture of resistance. Equally important is the operational and accounting opacity of most of the available opportunities in the country that disguises potential private equity investors.

Showcasing such a scenario is the lagging deployment of capital by existing international private equity funds, such as Schulze Global Investment, the UK-based equity contributor that has recently opened its office inEthiopia, and the International Finance Corporation (IFC), the private sector arm of the World Bank Group (WBG).

It all would have changed if the government could initiate a reasoned debate over the possibility of establishing capital markets and opening the financial sector for foreign companies. A careful look at the existing policy framework would show that the policies preventing these developments from happening are devoiding the nation of an important opportunity - an opportunity of obtaining capital resources from the rising influx of equity funds.

A visit to any of the Western capitals or a discussion with an Ethiopian Diaspora would easily help understand the rising interest of private equity firms to invest inEthiopia. What is required to tap the interest is, then, to change the domestic policy and business spheres to be more open, responsive and transparent to accommodate advanced finance and its requirements.

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