Firms of different sizes have different needs at different times. Development is stifled when businesses cannot access the capital they need. Private equity funds are indispensable partners for BII because they allow us to provide risk-bearing capital to a greater range of highly impactful businesses than we could reach without them. This report – Investing for impact in African private equity funds – explains why that is, and what is involved.
There are three main reasons why we use private equity funds to channel investment to the businesses that need it. The first is about the nature of the finance they provide, the second is how they help us deploy capital, and the third is how they matter as financial institutions in their own right.
But before getting to these, there is a potential misconception to clear up. In the United States and Europe, private equity funds are known for leveraged buyouts, where profits for investors are generated through financial engineering and squeezing the underlying business. In contrast, the fund managers that BII and other DFIs support in Africa are instead focused on growing the businesses in their portfolios. It is through this growth that they generate returns for their investors.
Investing through funds is an important way to grow businesses, firstly because of the type of capital they provide. To expand, businesses often need equity. This expansion can range from constructing new buildings, to acquiring equipment, to developing new products. Equity is patient and risk bearing, and so it allows companies to undertake more ambitious business plans than they could if reliant on debt financing alone. The data from our funds portfolio – presented in this report – confirms that the average growth rates of companies backed by funds are much higher than African businesses more generally.
Secondly, funds enable us to invest in companies that would be too small for us to invest in directly. Compared to our direct investments, funds have much greater reach into the industrial, manufacturing, consumer services, and agribusiness and food sectors. Businesses in those sectors are often relatively small, and not suited to larger direct equity investments. Investing in funds allows investors to pool their capital and share costs. In turn, this increases the overall quantity of risk capital available for African businesses.
Finally, funds are important in their own right as financial institutions. They allocate foreign and domestic capital, including from African pension funds, towards the growth of the real economy in African countries. Delegation is integral to that endeavour, and as with all delegation of responsibility things can go wrong. The places most in need of progress on the SDGs – the countries where we invest – are also the places with the most work to be done to improve business practices. But by helping establish responsible fund managers with their own capabilities, that can responsibly invest in African businesses (our principles of responsible investing are part of our legal agreements with fund managers), we are doing more to improve how business is done on the Africa continent than we could alone. And importantly, this improved business environment is a prerequisite for the commercial investment Africa needs.
Our job is to select the right fund managers, give them the support they need, and stay in close contact so we can get involved when needs arise. This report presents some of the lessons we have learned over the decades as one of Africa’s largest private equity investors, and it also describes our new funds strategy, which reflects our current view of the market.
