THE FRONTIER INVESTOR


Not Just About Buying, Holding and Selling




Gabriel Schulze is the founder, chairman and chief executive officer of Schulze Global Investments (SGI), a family-owned private equity firm with a focus on frontier markets. A pioneer in the Ethiopian private equity scene, SGI has seen an expanding investment portfolio in sectors as varying as cement production and fast moving consumer goods. As CEO of SGI, Gabriel is involved in key decisions of the company that has offices in Singapore, Beijing, Sao Paulo, Tbilisi and Ulaanbaatar. A tall and charismatic figure, Gabriel received his Bachelor’s Degree in Business, with concentration in global trade and commerce. In this exclusive interview with GETACHEW T. ALEMU, OP-ED Editor, conducted at SGI’s Addis Abeba office located off Djibouti Street, Gabriel discusses about the challenges of private equity investors in Ethiopia and the opportunities thereof. Excerpts:


 

Fortune: There has been a very long debate over private equity around the world. It enhances productivity in some way, but at the same time, critics argue that it also reduces jobs. Do you think that the debate is well-represented in the Ethiopian business sphere?

Gabriel Schulze: It is unfortunate that private equity is often seen by some people as a sort of vulture, which comes and makes quick money and leave. Actually that is not what private equity should be about. That is not what we do at all and that is, we can say, the leveraged buy outs (LBO) – a sub-sector private equity. It is not a private equity at all.

That is what we have been trying to tell, not only the market here, in Ethiopia, but even in the other countries where I have business. We do not think about leverage, we do not even think about cutting high count. We think about how we take what we have, optimise it, add to it and alternatively allow what is today for a foundation to become a much bigger and better business tomorrow. For us usually, what we want is not less staff, but more management team members with more experience.

Q. Can we actually take this non-leveraged, growth-focused private equity as the fitting model in frontier markets?

Yes. In the frontier markets, the only real model is true growth equity. The idea of using leverage in this sort of markets is very difficult. Using leverage in the private equity in the frontier market is both often not possible and, I would say, ill-advised.

Q. Here you are in a rather traditional market, where most of the vibrant companies operating in the market are family-owned. It is not really easy for them to accept external finance, in any way, and they consider private equity firms as vultures intending to take away their hard-earned assets. How are you dealing with this kind of perception?

To be honest, many companies in Ethiopia actually have almost no experience or opinion with private equity. The vulture problem is actually at the government level, because the government in Ethiopia and other countries quite often has been studying the issues. Actually, they are the ones whom I find are the most nervous about this idea of vulture private equity.

And I think the truth of the matter is, as soon as the government understands what we actually do, they will realise we are the opposite of that.

Q. Have you seen a change in perception from the government side in the last six or seven years that you have been here?

Absolutely! In the early years, I spent so much time with people trying to explain what we are doing and why we are doing it. There is no doubt the perception has changed.

With the private sector businesspeople, quite honestly, have not looked into private equity usually. They do not have all that much of a perception. They are not sure if we are good or bad and my experience is that they just tend to not be entirely sure what it is or how it works.

The point of family-owned businesses is a very interesting one, because this is also something that is a bit unusual about us. We are yes, of course, an institutional and global private equity firm, but we are also a family-owned business. It is quite rare, actually.

We understand what it means to have a family business. This is a family business. We are not just some Wall Street banker that decided to start a private equity company. We are quite unique that way. I can tell you that for some of the companies we have invested in, I think, the only reason they chose to work with us is for that reason.

Q. Anyone who looks at the background of your company can see that one of your interests is actually creating regional champions. But here you are working in Africa where there is a huge fragmentation of jurisdictions and legal frameworks. You have to pass through all these fragmentations to actually create these kinds of regional champions. How do you intend to actually manage to realise your dream of creating regional champions while these challenges exist?

For us, the fundamental desire is to create value in a company we have invested in. In Ethiopia today, there are many companies who, I believe, in the future, are going to be the major regional players. But today, they are not even able to deliver for the Ethiopian market, let alone become regional champions. Hence, we try to say to ourselves, “let us go from stage one to stage two to stage three to stage four. Let us help the companies in which we invest move along the path of growth.”

And today in Ethiopia, most of that growth is just within the domestic market for the sorts of companies that we invest in. Most companies in Ethiopia, yes, they have a potential to export, there is no doubt. They probably have a potential in the future to set up branches in other parts of East Africa, if not maybe Sub-Saharan Africa. But today, they just need to be able to actually deliver for this market.

Q. African policymakers are gathering in Addis Abeba for their annual meeting. What do you recommend they do to create regional champions?

The first thing to remember is that a regional champion starts as a domestic champion. I believe that policymakers need to recognise that creating an atmosphere conducive to growth in their own markets is the first step to building companies that can then become significant regional players or even beyond.

Q. Do you think that Ethiopian policymakers are on the right track in terms of creating that kind of environment?

I have been very encouraged over these past few years. I have to say, when I first came to Ethiopia to set up this business seven years ago, it was clear to me that there were some policymakers that were still not sure about the role of the private sector. They still were not sure about the role of foreign investment. Now, I think it would be very hard to find someone in the government who holds either of those views. I have seen a significant movement in these seven years, in the attitude of policymakers, towards the private sector and foreign investment here in Ethiopia.

Their focus now is on the correct thing; How do we manage it successfully? How do we guide it well?

Q. The private equity scene in Africa is less than one percent of the general private equity investment globally. What kind of companies are convenient for a kind of investment, like yours, other than those who have high value assets that anybody would be interested to put their money into?

For us, again, we can invest two to six million dollars. We do not have to invest 20, 50, 60, 200 or 300 million dollars. Over the past ten years, I have built this business, on behalf of my family, with the goal that we should always remain a nimble player that can take advantage of opportunities before they get to that size. I believe that if it comes down to making money, now is the time to be investing in Africa.

Once economies mature quite a lot, the low hanging fruit is gone. Quite often the real big growth opportunities are already behind them. When we invest our money now; and when we invested our money five years ago, we get to ride that growth. When that growth begins to plateau as the country becomes a bigger, more developed market, we will have packed up and said “yes, we did our job in Ethiopia, we made money and we helped this country grow and we will be on to the next country.”

Q. Can you give me the fundamental indicator that you look for in a typical company that you want to invest in?

It does not have to be a huge company. Generally speaking, we only invest in existing businesses. We do not do start-ups. We will not invest in a brand new company, usually. We look for an existing business that already has some track record. Then, we look for a few things in that business. We say, “first of all, what does the leadership of that company look like? Do we trust and believe in the leadership of that company?”

Bear in mind that, most of the time, the company needs some additional management team members. We do not say “Does it have the best management team?” we say, “Does it have the right leadership?” And by leadership, I mean the owner of the company. What we call in private equity term, acknowledging the sponsor.

We say, “Does that sponsor have a vision for the company? Does he/she have the ability to grow this company with us?” And of course we ask ourselves, “is this person someone we can trust? Does he/she have a good reputation? Is that person someone of integrity? Do they have a track record of being a good, honest leader who can build things successfully?”

We have to get comfortable with the owner of the business. If we feel comfortable with them, then, we look at the business itself and we say, “Does this business offer an opportunity for significant growth?” In that way, we analyze both the company and the market that company is in.

If we feel like the market segment that that company is serving is conducive to receive growth from this company or conducive to provide a market for this growing company, then I would say that is basically the recipe for us, at least at a starting point, to say this could be a good investment. By the way, we are looking for that across numerous sectors. We are not just one sector or the other. So we are looking at health care, manufacturing, agriculture, agribusiness, real estate, tourism, hospitality and etc. We do not invest in mining, but almost everything else, we take a look at.

Q. Africa is a region that has entered the lime light for almost a decade. People talk about “Africa rising”. But still international banks consider it as a very risky market where there are all sorts of risk from corruption to poor governance; and from infant market to political instability. Where do you stand?

If you look at Africa as the whole, it is not one country. Even East Africa is not one country. I think many foreign investors, including these banks you mentioned, they want to think of Africa as one big country. Living in Asia for ten years now, I remember when I first moved into Asia, I would notice sometimes foreign banks and investors they would act like Asia was one country. They used to say “I am coming to invest in Asia” and that is ludicrous. Japan and China, they are neighbouring countries, kind of, but they are totally different countries. You would have major problems if you understood one, but you tried to invest in the other one without understanding it equally as well.

In our view, a private equity firm in the frontier markets needs to be specialised in each country in which it invests. In case of Ethiopia, we can analyse the risk factors just for Ethiopia. We do not have to analyse the risk factors of sub-Saharan Africa or risk factors of East Africa. Our strategy, as frontier market investors, is to take advantage of something I call “perception arbitrage”, which is the difference between perception and reality. And honestly, the perception arbitrage actually may be the opportunity.

Q. How do you respond to those analysts that say country-by-county analysis is a reductionist approach to analyse risk?

A proper analysis of an individual country will always take into account the effect of its neighboring countries. For example, when we were first looking into Ethiopia, first thing I was interested to understand here, particularly in Horn of Africa, was what might the geopolitical risk of the region be and how may that affect Ethiopia? A good analysis of a single country includes an analysis of the regions. But you do it through the eyes of the country itself. In fact, if anyone is taking this as an overly simplistic approach, it would be the analysts who are trying to generalize a continent rather than becoming experts in specific countries. I think that is a lazy approach.

Q. Yet another challenge private equity firms face in Ethiopia, and in Africa, is shortage of midsized companies with a growth potential.

It is a challenge but you have to remember that when it comes to investing, there is still the demand and supply component. If there were dozens and dozens of private equity firms running around Ethiopia trying to find best investment opportunities, we will be in some trouble, because to your point, there are only a limited number of companies in the right condition for us to invest. But back to supply-demand track, for the last couple of years, we have been the only, among just a few private equity firms, actually focused on Ethiopia, which means that even though the number of the appropriate companies may be limited, there is still plenty as compared to the number of investors in the market. And that again is one of the reasons our overall business strategy globally is to take advantage of this perception arbitrage opportunity.

And in Ethiopia, there are still plenty of decent companies. That may not always be the case, I do not know. Of course, ideally the market will grow; the private sector will grow at the same time the number of private equity firms in the market grow so there will always be some sort of balance between the two. But at the moment I would say we are in a very good position frankly.

Q. Private equity firms in frontier African economies have to hold the shares of the company they invest in for a relatively longer time, because growth takes time. How do you think that model could be replicated by the private equity scene in general?

Different types of private equity firms are attracted to countries at different stages of growths. We are probably among the earliest movers. Part of our job as a first mover is to help build that market, help mature that market and help grow that market so it then becomes a candidate for these other private equity firms that have slightly different goals than we do.

In terms of the time horizon, to be honest with you, I think private equity investors need to learn to be patient if they want to gain value in the real economy. The impatience of some investors came out of the artificial situation that some investment firms enjoyed over the past 15 years. In other words, in the real world, investing is about buying, building, holding and selling.

There is no free lunch. I think in the boom years that we have had in the past 15 years, sometimes I think people got a bit lazy. They got a bit impatient and that is not the real world. I think what we are doing here now in Africa is not slowing down and being more patient for Africa, because it is Africa. We are actually reflecting what I believe is the true nature of private investing, which is that it has to be a medium term proposition.

Q. In Private equity, it is all about buying, holding and then selling. That is a model that you actually follow. Eventually, in a country like this, when you want to sell, it is not even easy to sell things because there is no well developed market infrastructure.

One of the most important things for us is, no matter how long we are in a company, four or seven years, is stability and I have to say this is one reason I really admire Ethiopia. Because, I think, the government has done some things very well and some things not so well, but the one thing that they have done in every moment is maintain stability. And having lived in various parts of the world; having invested in many different countries in the world; and having travelled to countless countries in the world, I can tell you that the first ingredient for growth is stability. And I think that Ethiopia has done a tremendously good job of creating an atmosphere of stability that an investor like myself can believe will still be there in five years.

No one wants to invest in a nice environment but feel uncertain that environment will continue three, four, five years from now. When I look back at the past seven years of our business, I have seen continued stability and then I have seen positive movement towards increasing support of the private sector and foreign investment. So the trends to me have been very encouraging looking back so I can have confidence therefore in what will happen in the next seven years.

Q. So do you see a better market infrastructure in the next seven years?

Part of that is the overall dynamics of this market that we are going to continue to improve. For example, who knows if there is going to be a stock exchange? But to me that actually is not so important.

Q. Are you hopeful by the way?

To be honest, I actually do not care. Because to your point, if you want to exit, you have to roll up your sleeves and you have to go find a company to buy your company and it takes some work. If an investor wants easy quick money, then this is not the place to come.

Q. In meeting Ethiopian policymakers, you might have heard that this is an elite that would like for industry to take a leading position in the economy. They have been aspiring for investment in the industry to come, but it has not materialised sufficiently. Where do you see the contribution of private equity in terms of materialising this dream of the nation?

I think private equity has a huge role to play in growing the private sector, generally, but of course, it could have a very significant impact on specific sectors. The reason is the basic fuel for growth is capital and capital generally comes from either banks or from an equity investor. And the equity investor, beside the family, is going to be a group like us. If we come and inject money, that is the first ingredient to generate growth. Of course, that injection of capital is the first ingredient. I think, the other thing, when private equity comes into a sector, unlike a bank, we partner with those companies and use our expertise, our networks, and our capabilities as co-owners in that business to actually help it grow. I would argue that private equity can not only help particular industries grow, it can help these industries grow much more in just money alone.

Q. Why should a government who is more interested in Greenfield projects or more of venture financing opt to support a company like yours who invest in existing companies?

It is not a question of either or. It is not a question of either the government supports Greenfield projects or the government supports private equity. I think good economic management should encourage a bit of both. You should have new businesses starting or foreign investors coming in to build Greenfield businesses. You should also have private equity firms coming and backing existing businesses.

One of the things that I know and that policymakers at times found interesting is that I have always said “we want to come and invest in Ethiopian companies.” And say wait “is this the same as foreign direct investment like you are going to come and set up a factory you own?” I said “no, we are not going to set up a factory we own. We are going to invest in a factory that some Ethiopian guy owns.” “Really? You are going to give an Ethiopian guy your money instead of doing it yourself?”

I said, “Ya, absolutely.” We actually think that the best thing for growth in this country is for the Ethiopians to lead the building of their own industries with the support of private equity firms like us. Of course, you need some of that foreign direct investment that sets up its own factories. It can create jobs and it can move the whole industry forward. So yes, that should be supported.

But in addition, the government should get private equity firms like us to go behind the Ethiopian business owners. And I think good development in Ethiopia in these industries that they are interested to promote is going to mean both encouraging direct foreign investment that builds foreign-owned enterprises in those sectors and private equity, coming in behind Ethiopians who are already in that sector and helping those companies grow.



Published on February 01, 2015 [ Vol 15 ,No 770]


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