EMERGING MARKETS: An image problem?

As the Eurozone lurches from one crisis to the next, private equity investing in Central and Eastern Europe (CEE) has become an increasingly attractive proposition for investors.

With their low public debt levels and resilient consumer spending, some of these countries have continued to enjoy growth that the flat-lining economies of Western Europe can only dream of: last year, the region as a whole showed an average GDP growth rate of 4.4 percent.

Latest EVCA figures show that a total of €1.24 million was invested in the CEE region in 2011, representing 2.8 percent of the total investment value in Europe. Poland continues to be the most popular investment destination in the region, accounting for about 60 percent of activity.

But the more significant point for many investors is that across CEE, investment currently equates to about 0.1 percent, compared to the Europe-wide average of 0.3 percent. This shows how much potential the region still has, some say.

LPs are certainly taking an interest: GPs in the region raised €941 million in fresh capital last year (driven by buyout funds, which raised just over half of that total, some €488 million).

Promisingly, exit proceeds also soared to record levels in CEE last year: the total figure of €1.39 billion was three times above the previous peak, which was recorded in 2007. This accounted for 4.7 percent of the total exit value in Europe.

But despite this relatively healthy overall picture, the region is not yet resounding to the clamour of celebratory parties and the popping of champagne corks.

One significant concern – for GPs and LPs alike – is that CEE seems to be suffering from something of an image problem, which may be distorting many international investors’ view of the region’s risk/reward profile.

As Anne Fossemale, director of equity funds at the European Bank for Reconstruction and Development, the region’s largest private equity investor, tells Private Equity International: “The problem is that investors are unsure about how to view CEE. An EMPEA study found that only 15 percent of investors not currently active in CEE expect returns of 16 percent upwards. Meanwhile 50 percent of those currently investing in the sector are expecting a 16 percent-plus return. While both these numbers are low compared to China or Brazil, it is the vast chasm of expectations between those with and without exposure that is the most telling story. There clearly exists a large divergence in expectations about the region.”

As a result, according to Fossemale, the CEE region is feeling somewhat “underappreciated”. Despite investors apparently having no particular reason to stay out of CEE, the region ranks very low in terms of attractiveness, she says. “Investors can’t point to anything they quantifiably dislike about the region more than any other; they just don’t seem to find it sexy anymore.”


GPs in the region are not unaware of these concerns. So how can they go about attracting the kind of investor attention they feel the region deserves?

Changing perceptions of the risk profile is the first step, suggests Jacek Siwecki, president of Enterprise Investors. “The fact that we have continued blending into the EU effectively creates a situation where the typical EM risks are no longer there,” he says. “People do not need to be concerned about the legal system, political risks or corruption, because the fight against all of these things is carried out with the same intensity as in France or Germany, for example.”

This argument is seconded by Emanuel Eftimiu of Alpha Associates. “Unfortunately, the CEE private equity market does continue to be rather neglected by investors,” he tells PEI. “While other regions, such as Asia or Latin America, are bathing in the limelight, attracting significant commitments, the facts fall by the wayside. No other emerging market can boast a similarly experienced private equity community like the CEE region. Most managers in the region are already on their 6th or 7th fund and have delivered strong returns time and again.”

It is widely acknowledged that the region is suffering from a degree of investor misconception. But the effect this will have over the next few years divides opinion, even among GPs.

Some, like Mid Europa partner Matt Strassberg, feel that the issue has been overblown. “I don’t believe the CEE has an image problem as such,” he says. “Investors understand that while GDP per capita is lower in the West, the CEE is actually in the sweet spot – offering growth well above Western Europe but without the risk profile of a typical emerging market.”

Cezary Pietrasik, a principal at global private equity firm Warburg Pincus, agrees. “Most CEE countries do not suffer from an image problem anymore. Of course it has a different risk/reward profile than the West; and there are certainly some countries, such as Russia or Bulgaria, that are less favoured by international investors. But the sector will continue to grow and develop, primarily driven by the underlying growth in the CEE economies,” he added.

And in the meantime, the region’s image problem should be good news for those investors willing to get ahead of the curve, says the EBRD’s Fossemale. “In the short term, this appears to be bad news for CEE-based private equity funds. However, like any investment with strong fundamentals, this mass exodus from the region can create very attractive opportunities for contrarian investors.”