Ladislav Beranek of Silk Road Intelligencer -

The unstable market environment in Kazakhstan could open the door for a wave of private equity deals as the credit crunch that ended the country's double-digit growth and cut it off from global capital markets creates new opportunities for investors.

Kazakh companies have traditionally relied on bank borrowing for their funding needs. Bank credit used to be plentiful and relatively cheap, and, for all but the largest companies, it was the only way to raise capital given the low level of development of Kazakh stock and bond markets. Yet as interest rates shot up in response to the liquidity crunch, bank financing became prohibitively expensive and virtually inaccessible. This now threatens to affect the broader economy, as the absence of financing is causing many businesses to struggle to cover their funding needs.

This situation, however, could provide an entry point for private equity investors, hitherto largely absent from the Kazakh financial landscape. The uncertain state of affairs and the lack of traditional sources of capital may force many businesses to open up and seek the backing of financial and strategic partners. Furthermore, as the economic downturn is causing a correction in asset prices, the valuations of Kazakh businesses are becoming more and more attractive, drawing the attention of emerging market investors.

Early movers

There are already a number of players active on the local private equity market, and others are expected to begin their operations in Kazakhstan soon. They range from well established emerging market specialists like Baring Vostok and Aureos Capital, to newer CIS-focused firms like Kazimir Partners and Da Vinci Capital Management, to local companies like Compass Capital Management and Centras Securities. Additionally, the government has been supporting the involvement of private equity, especially among smaller and medium-sized businesses. The government-sponsored development fund Kazyna just recently announced the creation of a private equity vehicle with the European Bank for Reconstruction and Development (EBRD).

Several investment banks have also strengthened - or are planning to reinforce - their presence in Kazakhstan. In March, Russian investment bank Troika Dialog bought Almex Investment Management, a local investment advisor, after its main competitor Renaissance Capital expanded its Central Asia operations. JPMorgan and UBS, two global investment banks, have announced plans to set up representative offices in Almaty as well. The banking sector has already seen significant M&A activity, which is likely to continue, both in and out of the realm of traditional private equity.

The banking sector, especially the smaller and mid-sized banks, will likely be among the most coveted targets of private equity investors. Banking in Kazakhstan is well developed compared to other CIS countries. But despite its dramatic growth over the last few years, it still has enormous untapped potential. With the credit crunch cutting banks off from the foreign capital markets that they had relied on for funding, many now find themselves in a precarious situation. Not only are they finding it hard to issue debt for the purpose of funding growth, banks are also facing repayments as their current loans come due. Already taking advantage of the situation, Italy's UniCredit and South Korea's Kookmin Bank acquired two of Kazakhstan's larger banks. Private equity investors will likely focus on smaller, more specialized banks where they can offer both financial backing and strategic guidance.

Baring Vostok, a Moscow-based investment firm with a focus on the CIS markets, made one of the first high-profile private equity investments in Kazakhstan when it acquired 51% of Bank Caspian, a Kazakh bank, in 2006. Baring Vostok has provided not only capital for growing the bank's operations, but also brought in operational experience by introducing its own management team. The strategy has seemingly worked; the bank has emerged relatively unscathed from the liquidity crisis that affected many local banks and is planning to conduct a London IPO in 2009.

The real estate sector will also be a likely destination for private equity funds. Despite the problems uncovered by the liquidity crunch, the real estate market in Kazakhstan remains strong. Residential real estate is still recovering, but commercial real estate is in high demand, especially in the largest cities like Almaty, Astana and Shymkent. Additionally, as the Kazakh real estate market is attempting to reinvent itself following the crisis, it's likely that consolidation in the sector – and subsequently, major deals – will take place.

Another segment of the economy likely to draw the attention of private equity investors is the domestic retail sector. Local supermarket chains and pharmacy networks, for example, have made enormous strides over the last few years; significant growth opportunities still exist, as they are expanding beyond the major metropolitan areas in Kazakhstan to other Central Asian countries. To realize this potential growth, they will need both funding sources and managerial experience, both of which can be provided by experienced private equity investors.

This article was contributed to bne by Ladislav Beranek, who is the editor of Silk Road Intelligencer

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