COMMENT: Re-visiting Ukraine's case for private equity

By bne IntelliNews October 8, 2007

Natalie Jaresko of Horizon Capital -

The Ukrainian private equity market is an exciting place at present in many ways. The market offers attractive expansion and buy-out opportunities, and has seen much improvement in liquidity. Returns compare very favorably with those in other emerging markets and risks are manageable, with a disciplined and focused approach to investments.

The country's economy has been growing at a compound average growth rate of over 7% for the past seven years, well above growth rates in Western or Central and Eastern Europe, and has shown surprising resilience in the face of recent tumultuous political developments.

Against this favorable backdrop, investors continue to pour money into private equity funds. The CEE region netted a record-high $3.3bn in 2006, with over 10% going to Ukraine. While the numbers are small in absolute terms, the rate of capital inflow is nothing short of impressive and we are likely to see more aggressive fundraising in the future. Last year, Horizon Capital doubled the amount of funds under its management to $300m. A rapidly evolving private equity industry is seeing more private sector institutional investors coming on board, as international financial institutions and government funds gradually step down after helping jumpstart the industry in the mid-1990s.

Strong economic growth and a rapidly maturing corporate environment are producing some very attractive expansion and buy-out opportunities. Consumer-oriented industries, such as banking, retail and food are growing at 30-40% per year, and mid-cap companies increasingly consider private equity to finance business expansion and sustain high growth rates. Horizon portfolio company Ergopack, a Ukrainian producer of household kitchen disposables, is just one example of expansion financing supporting 50% annual growth.

Meanwhile, a generation of owner-operators and entrepreneurs who got their start in the 1990s are beginning to look for opportunities to sell their companies. At the same time, local industrial-financial groups are seeking to spin-off non-core assets as part of a business restructuring trend. The buy-out profile is clearly improving; however, Western-style, leveraged buy-outs are still a matter of the future as leverage becomes more available.

The market is optimistic about returns that are expected to match or even top those in the CEE region or Western Europe. Unlike in Western Europe, Ukrainian private equity returns rely mainly on top-line growth and profitability improvement in portfolio companies. This, and the lack of relying on leverage, provides a good safety net for investors' returns in case of a broader market downturn.

Returns will be further boosted by the improving exit environment. Ukraine is one of the top-three growth countries in the CEE region in terms of M&A. Large international corporates more and more are looking to invest here. High multiples on recent acquisitions show that buyers believe the majority of growth to be ahead of us. Recent successes includes Horizon's sale of Shostka, the leading hard cheese manufacturer in Ukraine, to French Fromageries Bel, achieving a gross 5.9 times cash-on-cash return and 470% internal rate of return.

Natalie Jaresko, managing partner Horizon Capital

IPO exits remain limited to date; however, there is a promising future for the private equity industry there. The increasing interest of Ukrainian companies listing abroad or at home is a testament to the change in the mindset of local businesses, which have become increasingly focused on adherence to corporate governance standards and on improving business practices.

With all these opportunities in the picture, Ukraine remains an emerging market with many weaknesses. Clearly, international accounting standards need to be adopted across the board. Loopholes in corporate law need to be patched to afford greater protection for minority shareholders. Achieving success in Ukrainian private equity requires an experienced and focused investor. Building strong, aligned relationships with other shareholders and management will help improve investment quality and reduce risks.

Natalie Jaresko is Co-founder and Managing Partner of Horizon Capital

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