Text of the article is translated from Russian language (Фонды прямых инвестиции - не пассивные денежные доноры)

Author: Irina Kurbanova (Kursiv weekly newspaper #25 (502))

The economic "thaw" which began in Kazakhstan in 2012 galvanizes Private Equity funds into action. However, business owners should be prepared for active involvement of the funds in decision-making process. This in an exclusive interview to “Къ” of Mr. David Herbada, CIO to the Managing Company of Falah Growth Fund.

- How many years Falah Growth Fund is presented in Kazakhstan. What changes in your opinion has occurred in business environment of Kazakhstan during this period?

- Falah Growth Fund was launched in 2008 under the sponsorship of His Highness Sheikh Khalifa Bin Zayed Al Nahyan and President of the Republic of Kazakhstan Nursultan Nazarbayev and has been present in Kazakhstan eversince. I have been involved personally in Kazakhstan since 2007 and I still recall vividly how the country became, on September of that year, the very first country to enter what became later a global banking crisis, and quite likely the very first to exit post the devaluation of the Tenge in 2009. Then in 2010 it was still a rather challenging environment, despite the pull from higher global commodity prices on the whole Kazakh economy, as non-extractive industries were still out of favor for investors and end-consumer consumption in the country was barely starting to recover from the minimum of 2009. 2011 and 2012 have marked what in my view has been a progressive “de-thawing” of the economy as a whole. Despite certain weaknesses on global demand for commodities, internal demand has clearly grown and the influence of increased consumption has been felt across industrial and consumer production and services, a view supported by the actual investment opportunities we have either invested or considered in the activity of our fund.

- How many projects are there in the Fund's portfolio? What is their capitalization? 

- We currently hold two investments in portfolio, both closed during 2012, and with combined capital invested somewhat below USD 75 million.

- What sectors of economy are of specialization (interest) to the Fund?

- Generalist Private Equity funds such as Falah Growth Fund are similar to living entities in the sense that they do evolve and so do their investment strategies across their lives in the environment in which they carry out their investment activity and the portfolio they already have. We do not have at this stage a particular preference given it is early days in terms of the portfolio, however it is clear from our past investment activity that we considered (and still consider) Energy and Food production attractive. 

- Why exactly these sectors?

- In fact both have a common trait or theme which is that  they allow to capitalize on the expected growth of the country with reduced risk vis a vis other sectors given that power and food are both essential necessities.

- Does it mean that for example, companies engaged in construction or production of medical equipment has no chance to attract the Fund as an investor?

- As mentioned we do not hold any particular specialization as a generalist private equity fund and a theme we are definitely interested in is growth with reduced risk. Hence from your examples production of medical equipment would definitely be interesting whereas construction would be less attractive as it is more cyclical and has risks. Nevertheless we cannot say that this project will be unattractive, it depends on specifics of the project.

- For what period, as a rule, the Fund enters into the capital of the company? Are there any examples of projects where the Fund did already exit as the shareholder?

- Typically we aim for a 3-5 year investment period at a given company, however, this can be shortened or extended depending on the nature of the project. For example, industrial and infrastructure Greenfield projects typically have a construction period that spans several years, hence it may not be possible to exit in that timeframe mentioned and we may have a longer holding period. At this stage we have a fresh new portfolio that we intend to expand with new investments hence it will still take a few years before investments materialize.

- What goals the Fund sets when decides to participate in the project? Only growth of the company? 

- We track every investment via a comprehensive set of financial and operational variables referred to, rather cryptically, as “Key Performance Indicators”. We typically set targets for these before we even think about investing in a given company. These indicators of course depend on the nature of the business in question.

- When the Fund makes the decision on exit from the project: at the stage of conclusion of an Agreement or in the course of business?  What factors are dominant in this matter?

- Typically we have pre-defined exit paths for a given investment that we have designed before we actually invest in the business so, in general, exits for an investment that is performing are pre-programmed though they may happen or not depending also on external factors such as market conditions and availability of buyers for a stake in a business or a given business. For this reason exit routes are typically part of the investment and “business as usual” with clear dominant factor in decision making the return for the investors.

- To what level the Fund participates in the operation of businesses? Does the Fund claim to participate in decision making? How is it agreed with other shareholders? 

- In our case we invest in either significant minority (higher than 25% equity) or majority situations hence we are involved in the strategic decisions and certain key operational decisions. However the day to day running is within the management team of a given investee. The governance, that is, the rules of the game for how the company will be strategically run are set from the start of the investment in agreements negotiated with the rest of shareholders, in Kazakhstan typically reflected in the Foundation Agreement, the Charter and other contractual documentation. 

- What happens if the invested funds are not reimbursed due to crisis or other reasons? What will happen if the company became bankrupt?

- Typically if the situation is temporary we may extend the investment period further until conditions improve and work with portfolio companies to preserve as much value as possible, including restructuring and extra financial support if necessary. The key advantage here is that Private Equity is a more durable investor with an original long investment period that can be further extended hence this flexibility provides more options to weather the storm for a given company than banking debt or other sources of financing.

- Theoretically, has the Fund the right to withdraw from the capital "ahead of time"? Do other shareholders have right to demand the Fund to withdraw?

- This depends on the particular agreements established, if there is what is denominated as a Put-Call structure that is the case and both scenarios may be possible, that is early sale of the fund’s participation to existing shareholders triggered by the fund or by the other shareholder or shareholders.

- Are there situations when the Fund has no party to sell its shares (for example, the majority shareholder became bankrupt)? What happens in such situation? 

- Yes, that may happen however Put-Call structures are not that usual – yet – in Kazakhstan hence the typical scenario for this is when an exit gets delayed due to market or other circumstances such as the lack of external buyers. If the business in question where a fund has invested has high and sustainable cash-flow generation it may be possible to take dividends out, or to inject banking or other types of debt and etc.

- Let’s talk about the most interesting: what are the Fund’s requirements to the companies before investment?

- Depends on the particular situation, in general we require clarity on where a given company stands, its financial and operational situation supported by documentation, and a clear view on the other shareholders and management that a fund like Falah Growth Fund will be a partner to take the business further and not a passive cash provider hence involvement of the fund in the major decisions must be expected and anticipated.

- Kazakhstan businesses complain that it takes long time for private equity funds to collect the information, review of documents delays significantly, as a result they drop the project. The businesses think that the Fund’s requirements are exceeding. Do you agree with it? What changes are expected here in the nearest future?

- Sure but the key question here is Private Equity funds compared to what other options of financing? As I mentioned before Private Equity investment implies the active involvement of a given fund and the partnership with existing shareholders and management of company in order for it work, which is rather unusual compared to other options for financing companies. This partnership starts with a full knowledge of the company, its business and environment and this can only happen by requesting and being provided with substantial amounts of information. Additionally there is a confirmatory phase known as due diligence when confirmation on the reasons leading to invest in a given business are correct in the first place, a phase typically carried out with the support of external advisors.

- Does the international practice in terms of project considering differ from Kazakhstan?

- In my past practice I have witnessed or experienced extreme duration private equity investment processes in other countries: I still recall vividly a retail chain investment whose process lasted more than nine months with well over 500 additional information requests, whereas another technology investment in a market where private equity is well established barely took over a month from identification to closing with little on the way of additional info requests. From my personal experience most of the opportunities I have come across in Kazakhstan over the past three years and in two different funds sit somewhere in between the extreme examples I mentioned before, with three to five months and a substantial number of additional info requests of about 50-100 during due diligence being usual.

- Thank you for interview!