Latin American PE at five-year high

April 2013 | FEATURE | PRIVATE EQUITY

Financier Worldwide Magazine

Over the last decade, private equity and venture capital firms have looked to the giants of the emerging markets for new investment opportunities. However, that is beginning to change. According to data released by the Latin American Private Equity and Venture Capital Association (LAVCA), many PE firms are turning to Latin America in search of new and profitable areas for investment. To that end, 2012 saw PE groups commit $7.9bn to investments across Latin America, representing a 21 percent increase on 2011, setting a five-year high in the process.

LAVCA’s report, which surveyed nearly 250 fund managers in 2012, found that things are looking increasingly promising for the Latin America region. Fundraising, however, was down compared with previous years. Last year $5.6bn was raised, compared with $8.1bn and $10.3bn in 2010 and 2011 respectively.

Nevertheless, this drop in fundraising is not indicative of falling confidence in the region, or a lack of appetite among foreign investors for opportunities in Latin America. Accordingly, despite the drop in overall value, 2012 actually saw more new funds raised – 42 compared to 35 in 2011. These figures suggest that instead of waning, PE firm’s interest in smaller funds in Latin America is growing. Indeed, managers surveyed by LAVCA noted that they are targeting fund sizes under $500m. “It was another dynamic year for private equity and venture capital in the region,” says Cate Ambrose, president of LAVCA. “We continue to see international firms moving into Latin America, at the same time that new funds are being formed across Brazil, Mexico, Peru, Colombia, Chile and other smaller markets. Fundraising was much less concentrated, with more firms in the market, as compared to previous years. That, and the record level of deals, point to a deepening and maturing of the investment ecosystem.”

The $7.9bn of capital committed throughout the year was spread over 237 separate investments, representative of a 37 percent increase on 2011. Companies across Latin America targeted consumers with deals in financial services, restaurants, education, fitness, healthcare and consumer goods. Forty percent, or $2.2bn, was invested in consumer retail. “Compared to India or China, investors are turning their attention to Latin America. It’s really about investing in companies where the expanding middle class is looking to buy more goods and services,” explains Ms Ambrose.

Further dispelling the idea that Latin America is losing popularity with PE firms is the amount of capital put to work in 2012. Indeed, many of the larger PE firms that raised huge amounts of capital throughout the region in 2010 and 2011 – local companies including Brazilian firms Vinci Partners, Gávea Investmentos, Patria Investimentos and BTG Capital, as well as US giants Advent International and the Carlyle Group – spent much of 2012 putting their dry powder to good use rather than attempting to raise additional capital. “This shift is the big story. It’s a natural part of the cycle in private equity and venture capital. What we need to see now is more exits. What matters is that investors in the private equity business can sell at a good price so the cycle continues,” Ms Ambrose asserts.

Rather than demonstrating a change in investor attitudes towards committing capital to Latin America, it could be argued that the region’s PE activity is both deepening and maturing. Patrice Etlin, Advent International’s managing partner in São Paulo, told the New York Times “We do not have this phenomena in Latin America of large investors raising new funds every year, as often occurs in the United States.” Analysts suggest that throughout 2013 we will continue to see this pattern of increased investment in Latin America, rather than seeing huge funds being raised. It is likely to be at least 2014 before we see the next great spate of fundraising in the region.

Despite 2012 seeing Brazil’s economy grow at its slowest pace in three years, the largest economy in Latin America attracted the most investment in the region, as expected. Although the country has been an economic hotspot for the last six to eight years, Brazil has experienced a definite stagnation of late. The country’s gross domestic product grew only 0.9 percent during 2012, down considerably from the 4.5 percent growth the government had predicted at the start of the year. Yet despite the economic malaise starting to take hold, $5.7bn worth of investment was committed to the country throughout 2012. Brazil was also the largest recipient of buyout investments in Latin America by a distance. The country saw 147 deals completed in 2012, accounting for 72 percent of the total capital invested in Latin America. Brazil also saw 62 percent of total deals in Latin America completed.

Research and consultancy firm Preqin also confirmed Brazil’s dominance over the region, noting that “Brazil remains the most prominent destination for Latin America-focused PE investment”. Preqin surveyed 40 global PE investors with an interest in Latin America and according to its data, Brazil accounted for 43 percent of aggregate capital raised by all Latin America-focused funds in 2012. Furthermore Brazil has enjoyed 57 percent of the number and 82 percent of the aggregate value of PE backed buyout deals in Latin America from 2008 to 2012.

Many analysts expect Brazil to rebound economically in 2013, as it began to in the closing months of 2012, registering 0.6 percent growth. The Brazilian economy is expected to see growth in the region of 5 percent during 2013, linked to increased investments in infrastructure for the 2014 FIFA World Cup and the 2016 summer Olympics in Rio de Janeiro. “There is a huge focus in Brazil on infrastructure developments, on improving the efficiency of the country from a logistics standpoint,” stresses William Landers, head of Latin American equities at BlackRock.

Brazilian exit activity in 2012 returned to 2010 levels, following an outstanding 2011 which saw two to three firms generate over $6bn from strategic sales and large IPOs. A total of $3.8bn was generated from 44 exits last year and these exits were driven by a spirited M&A market across the region. IPO exits in Brazil were largely hampered by the negative market conditions the nation experienced in 2012. Fears surrounding the country’s seemingly floundering economy and a state cap on investment returns in a number of sectors, saw M&A activity drop to a three-year low in 2012. Yet, despite the year’s disappointing results, Brazil’s anticipated economic turnaround in 2013 will hopefully lead to an M&A revival.

Another of 2012’s notable developments was the expansion of VC firms into IT companies in Brazil and other Latin American markets. VC firms in Latin America, and globally, raised new IT focused funds, acquired start ups and successfully sought exits. Ms Ambrose notes that “Valuation of start ups has gone up a lot since US players started entering Brazil.” LAVCA’s data shows that IT deals also reported strong growth throughout 2012. The number of deals and dollars invested in the sector more than doubled in 2012 when compared with 2011.

In Mexico, Latin America’s second biggest economy, the total number of deals showed no significant increase when compared with 2011, yet dollars committed increased by 50 percent. Companies in Mexico completed 21 deals in 2012, worth $456m. This represents an increase of 117 percent when compared with 2010.

The Andean region also saw an increasing number of cross-border deals with fund managers in Colombia, Peru and Chile investing across all three markets. Preqin’s data also suggests that the number of investments in these nations is set to increase as firms look to diversify their portfolios. It is not only global firms that are exploring opportunities in Latin America – a number of Brazilian firms are also looking to expand into those emerging markets. Firms are looking to take advantage of improving legislative and market conditions for buyouts, as well as accelerating economic growth in the region.

Despite the decrease in Latin American PE fundraising in 2012, it is clear that Latin America is still an area of great interest. There are a number of contributing factors to the region’s continuing appeal for firms. Notably, the propagation of a new middle class is a key driver for PE investment in the region. Latin America also boasts considerable natural resources, better corporate governance than many other emerging markets and, according to Preqin, enjoys a “good demographic and increasing maturity of economic and political structures”.

Investors have also been drawn to the strong performance of funds focused specifically on the region. Preqin’s data suggests that pre-2007 Latin American funds have outperformed their counterparts in all other regions with a median net multiple of 1.35x, handily beating Asia (1.23x) and North America (1.12x). The impressive performance of Latin American funds means that investors will continue to be drawn to the region despite the increasing levels of dry powder building up. Preqin reports that the build up of Latin American funds reached a record high of $35bn in 2012, representing a 27 percent increase on 2011 and 73 percent increase on 2010. This overabundance of capital will need to be invested before many firms carry out any further rounds of fundraising in the area.

While Brazil continues to be the major player in Latin America, investors and analysts are starting to see the advantages of other regions. Mexico, Peru, Colombia and Chile are all beginning to draw the focus of PE groups with ambitious infrastructure development schemes. Equally, there is considerably less competition in these nations, with good growth opportunities and high rates of return available. Alternatives to Brazil, therefore, are becoming more attractive to potential investors. Furthermore, recent fundraising trends suggest that firms still opt to first expose themselves to developing nations within Latin America via pan-regional funds, rather than investing into country-specific funds.

Momentum is clearly growing in the so called ‘lesser lights’ of Latin America – job creation and wages have been rising steadily and a strong middle class has begun to emerge. The World Bank’s 2012 report ‘Economic Mobility and the Rise of the Latin American Middle Class’ states that the middle class in the region has swollen from 100 million people in 2000 to around 150 million by the end of the last decade. Although there is still some way to go before any nations can challenge the dominance of Brazil, the rest of Latin America does appear to be slowing catching up with the local economic superpower.

Richard Summerfield