Private equity scours the Andes

THE ANDES HAVE rarely been at the forefront of international investors’ minds, instead conjuring up images of poverty, guerrilla groups and presidents who survive in office for just a few years. In Latin American business and politics, the might of Brazil and Mexico dominate, and the region’s private equity growth has been no exception. But just as tourists have begun to flock to Peru’s famed Inca citadel of Machu Picchu, so teams of private equity specialists are beginning to scour the Andean region’s capitals of Lima, Bogotá and Santiago, as well as nearby Buenos Aires, for buyout opportunities and the chance to develop funds.

Political stability, more open trade, a surge in commodity prices, low inflation and interest rates, fiscal discipline, pension fund reform and strong consumer demand are all leading to unprecedented growth rates in Peru and Colombia. Chile is knocking on the door of developed-country status and Argentina is recovering from its 2001 crisis with red-hot 8% annual economic growth rates. As a result, private equity has huge potential in a largely untapped region, especially in the fast-growing oil, gas and mining sectors of Peru and Colombia.

The depth of capital markets, banking regulation, the rule of law, protection of minority shareholder rights and government corruption are still issues in the Andes but the feeling among investors is that things are rapidly changing for the better. "Colombia and Peru are two of the countries that have a recent track record of very strong economic growth and very stable macroeconomics. That is clearly something that differentiates them from the rest of the region," says Julio Lastres, senior managing director for the Americas at Darby Overseas Investments, which has invested in the Peruvian and Colombian banking sectors, in fuel distribution and in telecoms, and owns a power station in the two countries. "There is a renewed interest for private equity in Latin America and it will start spilling over from Brazil and Mexico into other areas like Colombia and Peru," adds Lastres. According to the Latin American Venture Capital Association (Lavca), Chile offers the best conditions for private equity in Latin America – still a long way from the top environments of the UK, Spain and Israel but ahead of Brazil and Mexico. Colombia is not far behind in the Latin American rankings, and is ahead of Argentina despite lower private equity inflows, with Peru bringing up the rear.

The increase in interest in Andean private equity is only possible because of the huge revival in the business in Latin America as a whole and indeed globally. Some 107 private equity funds worldwide raised $21.5 billion in capital commitments in the first six months of 2007, compared with $33.2 billion by 162 funds in the whole of 2006, according to the Emerging Markets Private Equity Association (Empea), which has 152 members in more than 35 countries with more than $135 billion in assets under management. Latin American funds, which lag Asia and eastern Europe in terms of investor interest but are ahead of the Middle East and Africa, raised $1.4 billion in the first six months of 2007. With the addition of two $1 billion-plus closes in July, funds in the region are poised to match fundraising levels not seen since the 1990s, and this time around with a wider range of countries involved and more sophisticated investments. "Brazil has had most of the attention, the capital and deals to date. But we’ve seen a pick-up in deals, a pick-up in funds being raised for Peru and Colombia," says Jennifer Choi, director of research at Empea. In a new Empea survey, the association found that limited partnerships in general expect their Latin American private equity commitments to produce returns 4.4% higher than their US buyout commitments this year.

Lessons learnt

According to Cate Ambrose, executive director at Lavca, although it might seem that private equity is only returning to past levels, a lot has changed since the first private equity investments were made in the mid-1990s, with the macroeconomic and regulatory environment much improved in Latin America and the gains unlikely to be reversed. "Overall, I see positive momentum, and the fact that the region has not been affected significantly by the sub-prime crisis in the US is a sign that we might not go back to the very difficult years of 2002-03, when private equity activity in Latin America came to a virtual halt," says Ambrose. Many of the managers who gained experience in the late 1990s are returning. "They are now starting new funds and applying the lessons learnt from that first round of investing," says Ambrose. Back then, the Brazilian and Argentine devaluations chased investors out of the region and smaller economies like that of Peru registered zero economic growth. Now the longer-term outlook is much stronger and Latin American markets, although today lagging emerging Asia and Eastern Europe, show some of the best potential for increased investment. Latin America is not yet a "must have" part of institutions’ investment strategies, according to Empea, but the number of limited partnerships that expect to invest in Latin America in five years’ time is more than double those that are investing this year, as private equity players look beyond India and China towards Brazil, Mexico, central America and the Andes. "Colombia and Peru are on the horizon for many institutional investors," says Ambrose. "At Lavca we have heard consistent expressions of interest in recent months. The challenge for those markets is that they are comparatively smaller, so it is particularly critical that the investment environment be attractive from a regulatory perspective. The capital markets are doing very well and the local pension funds are quite active in Peru."

"We do find Peru and Colombia very interesting because these are countries that have undertaken significant reforms in recent years. Colombia has solved the violence and guerrilla problem that it had and the country is growing at an amazing rate" Antonio Bonchristiano, GP Investments