August 7, 2014 - Private Equity as agent of Change in MENA -White paper published by MBA graduates of Harvard Business School in collaboration with Growthgate Capital exposes myths surrounding Private Equity

White paper published by MBA graduates of Harvard Business School in collaboration with Growthgate Capital exposes myths surrounding Private Equity 

 

Following a period of contraction and consolidation, the private equity (Private Equity) industry in the MENA region is beginning to show signs of a recovery, both in terms of deal volume and size. However, Private Equity’s challenge has been the perception that Private Equity investors focus excessively on short-term results, and have a negative effect on job creation and the long-term health of the economies in which they operate. 

 

The white paper published by MBA graduates of Harvard Business School (HBS) in collaboration with the GCC-based Private Equity firm Growthgate Capital, seeks to debunk some of the myths surrounding Private Equity, by reviewing how local and international Private Equity firms have been able to add considerable value to portfolio companies and the broader economy. The analysis of this paper suggests that many of the beliefs surrounding the impact of Private Equity firms, such as job destruction and an excessive focus on short-term profitability, do not hold.

 

The white paper demonstrates that Private Equity funds globally have improved performance of target companies by reducing constraints for companies in need of external capital, focusing on investments in innovation, increasing capital expenditures, and instilling better corporate governance and operational practices.

 

Referring to a number of recent academic studies, the paper also confirms that companies acquired by Private Equity funds grow significantly more than comparable firms in terms of sales and capital employed, and often in employment. For instance, a comprehensive study using data from 3,200 deals in the United States reveals that on average, private equity buyouts raise firm productivity by over 2% in the two years after the buyout.[1] Across both good (2005-2007) and bad times (2008-2012), Private Equity makes a net contribution to employment growth. The study also shows that Private Equity increases not only employment but also labor productivity as it increased by over 7% a year from the time Private Equity acquired companies in the sample to the point of exit.[2]

 

 

Another study, using data from 839 European deals over 1994-2004, shows that between the four years preceding the transaction, and the four subsequent years, employment, assets, and sales growth of Private Equity targets are, respectively, 18%, 12%, and 12% higher than the non-Private Equity backed firms.[3] These transactions were largely growth equity deals rather than the leveraged buyouts that dominate the U.S. market, and those may be more representative of the Private Equity transactions that dominate emerging market regions such as MENA.

 

 

 

Furthermore, the white paper tracks the evolution of the Private Equity asset class in the MENA region. While the Private Equity landscape in the region has been challenging, LPs have now consolidated their bets on 10-15 Private Equity firms that have demonstrated an ability to generate superior returns. Private Equity firms that continue to innovate in terms of their funding model and deal sourcing and build portfolio operation capabilities are likely to continue doing well. As the evidence shows, through such investments, businesses in the region are likely to grow faster, and become more efficient and competitive on an international stage.

 

As a general observation, Private Equity in MENA has proven to be a “sticky” form of investment, while investments in public equity proved feckless. Private Equity investments in MENA are long term, and often enhance the companies that they finance. As the industry matures, the true impact of Private Equity involvement in the region will become clearer, but the evidence from other regions suggests that it is likely to play a very positive role.

 

 

The white paper was supervised and co-edited by Prof. Josh Lerner, the Jacob H. Schiff Professor at HBS and Director of the Private Capital Research Institute.

 

 


[1] Davis, Haltiwanger, Hanley Jarmin, Lerner, Miranda, 2014, “Private Equity, Jobs, and Productivity” (American Economic Review).

[2] Ernst & Young,  2013,“Myths and challenges: How do private equity investors create value? A study of 2012 European exits

[3] Boucly, Sraer, Thesmar, 2011, “Growth LBOs” (Journal of Financial Economics)