Private Equity and VC Investing in Muslim World

islamic investing in private equity and islamic venture capital

IMPROVING GLOBAL MARKET FOR ISLAMIC PRIVATE EQUITY AND VENTURE CAPITAL

Islamic private equity (PE) remains a very small component of the global PE market but showed signs of strength last year with an increase of mergers and acquisitions (M&A) activity in the Middle East hitting a four-year high. Islamic venture capital (VC) continues to face an uphill battle in the region but demonstrated signs of improved market perception and attention. SUHAIL AHMAD writes.

Global alternative investment assets reached US$7 trillion in 2014 according to Preqin’s 2015 Global Alternatives Report. PE including VC was the largest component of alternative assets with US$3.8 trillion under management, an increase of 12% over the previous year.

Review of 2014

Aggregate capital raised by PE and VC firms worldwide in 2014 was a strong US$495 billion, with 85% of the activity in North America and Europe. PE returns as measured by public pension fund holdings reviewed by Preqin Performance Analyst remained strong at just under 20% for the year and clearly beating other alternative asset classes such as real estate and hedge funds with the latter closing out 2014 with a measly 2.9% average investment return as measured by the Barclay hedge fund index.

The Middle East witnessed some strong deal-making with publicly announced M&A across the Middle East increasing 23% to reach US$50.3 billion last year, the highest amount since 2010. Despite the strong M&A activity in the region, international private equity firms were not as aggressive as expected and inbound M&A activity declined 30% last year to US$4.2 billion, according to Thomson Reuter’s data.

One of the region’s largest PE firms, Dubai-based Abraaj Capital had an active year teaming up with the US-based TPG Capital to bid for Saudi fast-food chain Kudu, although it lost out to multinational cereal giant Kellogg in a bidding war for Egyptian biscuit maker BiscoMisr.

The sector in 2014 also saw the successful fundraising of the largest PE fund since 2011 with Gulf Capital of Abu Dhabi closing its largest and third private equity fund; GE Equity Partners Fund III with a US$750 million raise. Although Gulf Capital is not a dedicated Islamic PE firm, the closing is a positive development for the region and should spur more activity in PE in the coming years.

In the VC space we expect 2014 investment levels to improve over the US$29 million in funds raised in 2013 according to the MENA Private Equity Associations 4th Venture Capital in Middle East and North Africa Report. Similar to the regional PE data, it is unclear how much of the VC deal flow was Islamic but nevertheless the VC sector in the region continues to remain embarrassingly low compared to the rest of the world which had total VC investments of US$86 billion last year including the closing of 273 new VC funds!

Preview of 2015

PE firms will be increasingly interested in the Middle East region as investors look at diversifying geographically, better valuations than in the US, and capitalizing on the growth opportunities of the young demographics of the region.

Interestingly, a series of interviews of 75 corporate executives across the Gulf Cooperation Council (GCC) in the GCC Investment Outlook report late last year revealed only 45% of respondents think that the opening up of GCC stock markets to foreign direct investments will be one of the main drivers for investment in the region. However, 51% of respondents do believe PE transactions will increase significantly in 2015.

Small mid-sized enterprises (SMEs) and start-ups that do not have access to traditional Islamic banking credit options for a lack of collateral or operating history are desperate for an increase in venture capital options in the region. The 10th World Islamic Economic Forum (WIEF) held in Dubai last year had a lively panel discussion on the role and future of crowdfunding to fill the VC void in Islamic finance. The discussion and increased interest in crowdfunding is a positive step and will help increase awareness of VC as an important tool for positive socio-economic development in the region.

Conclusion

Islamic PE and VC have an opportunity to substantially contribute to the economic growth in the region by supporting businesses of all sizes reach the next level. However, it will continue to be a challenge for the industry to differentiate itself from conventional PE.

However, there are encouraging signs for VC with the growth of crowd equity funding which is inherently compatible and mutually reinforcing with Islamic values of building and supporting local communities, encouraging risk and wealth sharing, promoting real economic activity, and equity ownership over debt. These goals should be near and dear to all investors and participants in Islamic PE and VC.

Published in the IFN 2015 Guide (pg.44)

Alternative Investment Assets Reach $7 Trillion USD

“The alternative assets industry has reached $7 trillion in assets in 2014,” said Preqin CEO Mark O’Hare in a statement. “The past year has seen significant growth in the assets held by alternatives managers, most notably in the value of unrealized assets in manager portfolios. Even with the sub-par performance seen by hedge funds over the course of the year, these managers witnessed the largest growth in their asset base as investors looked ot the true value investmens in hedge funds can bring.

“The recent news of CalPERS cutting hedge funds and reducing the number of private equity partnerships within their portfolio does not reflect the wider sentiment in the industry,” “From our conversations with investors, the majority of investors remain confident in the ability of alternative assets to help achieve portfolio objectives. Indeed, across all asset classes, a much larger proportion of investors plan to increase their exposure rather than cut back their allocations to alternatives. However, as the investor base for alternative assets grows and becomes more sophisticated, fund managers continue to face the challenge of how to attract this new capital. Those fund managers that continue to innovate with new products and solutions, as well as listening to investor demands for better alignment of interests and lower fees, may well be winners in 2015.”

Size of the alternative investment asset classes at the end of 2014:

  • Private Equity $3.8T
  • Hedge Funds $3.02T
  • Real Estate $742Bln (managed assets)
  • Infrastructure $269Bln

Source: Preqin’s 2015 Global Alternatives Report

Global M&A Growth Challenged by Regulation

During first half 2014, a total USD1.57 trillion worth of M&A deals were closed, making it the busiest six-month period in cross-border M&A since 2007, according to Mergermarket data. With an estimated EUR1 trillion in current reserves at European-listed companies, the strong pace of dealmaking is expected to continue but not without its challenges.

According to a new report by law firm Paul Hastings, “Global M&A: Momentum for Growth”, which is based on interviews with 40 top European corporations, investment banks, private equity funds and other business leaders. The potential limitations on a company’s freedom to manoeuvre, due to ever-stricter competition laws, meant that other forms of corporate combination may come back into favour as companies try to navigate antitrust regulations.

“We are witnessing a major increase in the amount of sometimes extra-territorial regulation, in areas such as anti-trust, anti-corruption and tax,” says Guillaume Kellner, partner in charge of the Corporate Department at Paul Hastings in Paris. “This trend is increasing the legal risks for M&A transactions, forcing acquirers to think ahead and adopt increasingly sophisticated approaches.”

Download the complete report: Global M&A: Momentum for Growth (PDF Format)