Friday Letter: Emerging markets private equity is real

More than 300 delegates from over 50 countries at this week’s Emerging Markets Private Equity Forum in London were left in little doubt: emerging markets private equity has become meaningful, and it is here to stay.  

Organised by our sister publication Private Equity International  and the Emerging Markets Private Equity Association (EMPEA), the two-day gathering articulated a profoundly optimistic message, a message that investment professionals active in the asset class around the world would be unwise to ignore: in today’s rapidly globalising economy, emerging markets have the potential to become the high-return markets of the not-so-distant future, with Asia and Eastern Europe especially well positioned to generate competitive investment performance soon.

And, even more importantly from the point of view of this asset class: according to several speakers at the Forum, it is private equity’s interest-aligning and control-driven ownership model, rather than public market mechanisms, which has the power to finance businesses in these markets most effectively – and thus to help the world’s developing regions fulfil their economic potential sooner rather than later.

Those pondering this idea will rightly treat it as a promise that remains to be fulfilled. Historical performance data shows that on the whole, emerging markets private equity has not been a success thus far. And as Chip Kaye, co-president of global private equity pioneer Warburg Pincus, observed at the end of a very optimistic opening key note speech: “Just because there are very significant and real opportunities in emerging markets, we should not assume that investing in these countries is easy.”

Far from it: the risks attached to private equity investing outside Western Europe and North America are considerable, and they differ hugely between regions and countries. There is scope for value destruction as well as value creation, and for investors not familiar with emerging markets, putting in place viable strategies for successful capital allocation is a formidable challenge.

However, one needs to be clear that to shy away from the risk is to turn one’s back on potentially extraordinary reward. According to Kaye, Warburg Pincus spent 2005 investing roughly $3 billion and returning $6 billion to investors, with emerging markets accounting for more than a third of the latter amount. It is numbers such as these that support one of the key arguments presented at the conference – that fiduciaries paid to look after other people’s savings have a duty to make investment decisions based on the recognition that the economic world order is undergoing a dramatic transformation.

This does not equate to a duty to invest in emerging markets private equity straight away. What it does mean is that those deciding against it had better have good reasons for doing so – as opposed to rejecting the idea out of hand.