Agriculture : a new frontier for private equity funds ?

According to an article by Reese Ewing from Reuters, private equity funds remain optimistic that Brazil's farm sector offers investment opportunities despite the deteriorating world credit market.

This illustrates a growing appetite from private equity funds for investing in agriculture related businesses in emerging countries by taking stakes in large farms, food processing or warehousing companies.

What stands behind this new interest in agriculture ?

Obviously the spectacular boom in the international price of agriculture commodities over the last three years is a key factor behind this surge of interest for "green assets".

For many analysts, including officials from the OECD and the FAO, food prices are going to stay high in the coming decade driven by a combination of surging demand from countries such as China and India which are consuming more meat and dairy products, a sustained demand for biofuels backed by generous subsidies in developed countries (US, EU), and a relative scarcity of supply in the short term (wheat inventories have plumetted to thirty years lows).

Indeed, according to some reports, arable land cannot be further extended without causing irreversible damages to the environment, either through large scale deforestation, as in Brazil, or through expensive irrigation projects. In addition, farm land is severly constrained by sweeping urbanization in emerging countries such as China that already holds one of the lowest ratios of arable land to total land.

In addition, another serious problem is the stagnation - or even the decline - in agriculture productivity in developing countries that has been witnessed in recent years as a result of under-investment in the sector over the last two decades. In India for example, where a spectacular growth in productivity was achieved over the last fourty years thanks to a scientific revolution and heavy investment in the sixties and seventies - with some support from the US - experts now fear the country may face a "green revolution fatigue".

Are private equity funds cynically speculating on hunger ?

On the contrary I believe, private equity funds might be a part of the solution rather than a part of the problem. Through their implication in the management of the companies they invest in and through the modern technologies they bring, they could significantly improve the productivity of agriculture in developing countries, eventually benefiting both consumers and producers.

Echoing this belief, the president of Senegal, Abdulaye Wade, recently chocked his western counterparts at an FAO conference held in May to tackle the global food crisis by saying that the FAO was itself largely to blame for the price rises. He later announced a deal with India to benefit from the latter's experience in achieving food security through intensive technology transfers.

In a similar way, the World Bank recognized in its 2008 annual report that investing in agriculture projects was key to achieve Millenium Objectives of substantially reducing poverty in the world, as most of the poors live in rural areas. Robert Zellick, the Bank's new chief executive proposed that alongside donors from developed countries, sovereign wealth funds in emerging countries also invest a small share of their assets on such projects.

Why private equity in emerging markets ?

Why emerging markets ?

Quoting Dickens we might say that this is the worst of all times, but we also might say that this is the best of all times.

Indeed, this is a time when the United States are going through their worst financial crisis since the 1930s and when every day brings its load of bad news and bank failures on both sides of the Atlantic, regardless of the public authorities attempts to calm down the markets with massive liquidity injections, banks nationalizations and massive bailout plans.

Trouble is now spreading from Wall Street to Main Street, and both Europe and Japan seem to be following the United States into a recession that may last several quarters.

Is there a bright spot in this dark picture ? What is the rationale behind that potential bright spot ?

The answer is yes. The bright spot is emerging markets. The rationale is the decoupling process between developed and emerging economies. In fact as GDP growth is expected to hover around zero in developed economies, the emerging economies of Russia, India, China, Brazil, Saudi Arabia, South Africa, and the likes, continue to expand at sustained growth rates.

The reason behind this decoupling is that these economies have gained sufficient momentum in the last ten years to rely now increasingly on a thriving domestic demand fueled by rising incomes, changing consumption habits and huge investment needs in energy, infrastructure, healthcare and education.

We believe alongside many economists and analysts that this is a structural transformation and that we are only at the beginning of what will appear 30 years later as one of the most radical economic transformations that mankind had known for the last 500 years.

Why private equity ?

More than 80% of the world companies are privately held companies ranging from individual micro businesses to family controled groups. But these companies, especially those located in emerging markets, sometimes lack the proper access to capital that they need, as banks prefer to lend to well established companies which are often state-controlled or publicly listed companies. Hence, private equity funds may bridge the gap and bring not only much needed capital but also management expertise and "guanxi" (the chinese word for network) to allow these private businesses to grow and to succeed.

While stock markets in emerging economies are increasingly integrated with developed markets and are often impacted by the movements of the US market, which remains by far the leading stock market in the world, private equity investments are completely decorrelated from erratic stock movements as they are fundamentals based macro and micro bets on the long term growth potential of the underlying emerging countries and enterprises.

In addition, private equity in emerging markets is not based on leveraging easy money and "raiding" on healthy enterprises with a short term horizon as is usually done by LBO funds. On the contrary, private equity in emerging markets is much more related to providing growth capital to promising businesses based on thorough expertise and field work. Indeed, investing in a ukrainian based agro-food business or in a chinese biotech company takes time and patience.

If you have a long term investment horizon and if you are looking to make a healthy return on your investment alongside contributing to the development of local communities by creating new jobs and opportunities, then emerging markets private equity is the right solution !

My intention with this blog is to provide relevant and up-to-date information and to perform pertinent analysis about private equity in emerging markets in order to help both General and Limited Partners. Most of the information is provided free of charge but some special country / sector / industry reports may be charged for.

Further, I can be contacted for client-specific work such as industry and market research, target identification and valuation, PE fund due dilligence, and investment strategy advisory based on the client's needs.