Navigating Private Equity in Africa: Adapting to Economic Shifts and Regulatory Hurdles

The insights from these seasoned dealmakers underscore the importance of adaptability, innovation, and thorough preparation in navigating the complexities of dealmaking in South and Sub-Saharan Africa. By leveraging creative deal structures, conducting rigorous due diligence, understanding macroeconomic and regulatory dynamics, and focusing on resilient sectors, dealmakers can successfully navigate challenges and seize opportunities in this dynamic market.

Can you start by telling us a bit more about yourself and your role at Bowman’s?
I am a private equity specialist operating as a lawyer. I’ve been involved in private equity in South Africa and across Africa since the early 1990s when the industry was just beginning. My work covers both upstream and downstream private equity, meaning I handle fund formation and the mergers and acquisitions activity of private equity funds.

Given the current moderation in inflation and anticipated interest rate adjustments across sub-Saharan Africa, how do you see these macroeconomic changes influencing private equity deal- making in the second half of 2024?
Interest rates are important, but most private equity funds have a built-in hurdle that remains fixed regardless of interest rate fluctuations. The key drivers for private equity activity will be Africa’s fundamentals and the investment environment. Global uncertainty and a strong dollar present challenges, but as interest rates decrease, emerging market currencies might strengthen, benefiting the region. However, it’s not just interest rates but broader economic conditions that will drive M&A activity.
Raising capital for a pure South African mandate is currently difficult. Funds with a sub-Saharan or African focus, with expertise across multiple regions, are more successful. Africa is not a monolith; it’s 54 distinct countries with varying investment climates. East Africa, particularly Tanzania, Kenya, and Zambia, shows continued growth. South Africa, however, struggles with investment and policy uncertainty, which impacts its attractiveness to investors.

Which sectors in East Africa are showing resilience and promise for deal-making opportunities through the end of 2024?
Infrastructure, particularly in telecoms and renewable energy, is attracting significant interest. The food sector, including the entire food chain, and affordable housing are also seeing activity. Fintech continues to boom, and tourism, especially in South Africa, remains strong. However, most deals will be in the small to mid-market space, as we’re not seeing many large- scale transactions at the moment.

With a lot of dry powder in the market, do you anticipate increased pressure to execute deals, or will GPs be seeking extensions from their LPs?
There will be pressure to execute deals, but it’s crucial to avoid bad deals. Some funds from the 2008 era deployed capital too quickly and suffered during the crash. Diversification across the investment period is essential. While there are opportunities in the mid-market space, South Africa’s private equity industry is not as thriving as it should be given its maturity.

What opportunities exist in the distressed assets space for private equity, particularly in the context of business rescue processes?
Private equity firms are dealing with distressed assets by renegotiating debt terms and cutting costs rather than resorting to formal business rescue processes, which can damage brand reputation. The focus is on operational improvements and finding value through growth rather than financial engineering.

Are there specific strategies PE firms are employing to enhance operational efficiencies and create value in their portfolio companies?
In Africa, professionalizing businesses and improving governance are key strategies. ESG (Environmental, Social, and Governance) factors are increasingly important, driven by LPs and DFI investors. Technology, including AI, is being used to enhance due diligence processes and operational efficiencies.
The key is finding deals with local currency costs and dollar-denominated revenues. While deal structuring tools haven’t fundamentally changed, the market is evolving with more permanent capital vehicles due to challenges in raising
capital for South Africa. Ensuring the right blend of debt and equity and appropriate management incentivization remains crucial.

How is the rise of private credit or private debt playing out in Africa?
There is a market for private credit, particularly mezzanine finance, as family businesses often need expansion capital but are reluctant to give up equity. Hybrid funds offering both equity and mezzanine solutions are becoming more common, allowing fund managers to meet a broader range of needs.

How has the focus on due diligence changed in this environment?
ESG considerations are now a significant part of due diligence. Comprehensive diligence is required to secure warranty and indemnity insurance. Technology, particularly AI, is increasingly used to streamline and deepen due diligence processes.
In many deals, we look at, when we’re acting for the sellers, to see if we can get warranty and indemnity insurance for the deal, the W&I insurers require comprehensive diligence to be done. So I think [due] diligence may be deeper than it was, partly because of the need to insure your warranties. But I think there’s also a move to try and make the diligence more focused and more relevant than it used to be.
How we do it is changing and the use of tech in diligence is definitely increasing. The ability to run, for example, multiple contracts through an AI machine to extract common clauses and analyze them is now something we can do easily, so AI in the context of diligence is definitely something that we are focused on.

What impact does regulatory oversight, especially in the context of South Africa’s Competition Commission, have on M&A?
Regulatory uncertainty is a concern, particularly with the shift towards public interest conditions in the South African market. Private equity firms generally don’t mind employee share schemes, but need predictability in regulatory requirements. Across Africa, increased antitrust focus is evident but not as impactful as in South Africa.
Investor-friendly jurisdictions will continue to do well. In South Africa, the upcoming election will be crucial. There’s a sense of ‘wait and see’ as firms prefer to have greater clarity on economic policies before executing deals. A positive election outcome could stimulate significant M&A activity.