Manama 03 October 2010: Islamic private equity firms face a reality check post the financial crises, said Ashar Nazim, Director and Head of Islamic Financial Services at Ernst and Young, speaking today at the Islamic Financial Services Board summit, titled Business Models in Islamic Finance - Challenges and Opportunities in Bahrain.
Liquidity and credit surge during the past decade saw mushrooming of investment firms across emerging markets pursuing private equity business. Shari’a compliant investments especially remained in strong demand as investors sought to diversify risk and seek higher risk adjusted returns.
“Unfortunately the pre-crisis boom period tempted a large majority of private equity firms to focus on quick returns, through expensive acquisitions and with the objective of realizing gains through vanilla listing on stock markets. We also saw very few success stories of incremental value generated through operational enhancements. The same was true for conventional and Islamic private equity businesses,” says Nazim.
With access to capital becoming more difficult, and valuations nose-diving across public markets, private equity firms are challenged to demonstrate the real value they bring to the investee companies.
“While the private equity model rates much higher on the authenticity paradigm of Shari’a compliant financial system, its successful execution by mainstream players is yet to be seen,” adds Nazim. Across the GCC, all major financial institutions have seen massive write-downs of value of their private equity investments over the past 24 months.
“It all boils down to having specialist expertise; you cannot be a generalist anymore. Effective convergence of financial services and industry expertise will differentiate successful firms from others. Many of our clients are going back to the drawing board, to redefine and build a sustainable operating model,” he says.
Historically, best private equity investments have been made on the heels of recession, yielding returns that are almost twice as high during other periods. Now would be the time to take a hard look at the market and be active again. Reduced valuations and illiquidity is a blessing if one is on the buy side.
Empirical evidence suggests that investor appetite for alternative investment may be returning, and in the GCC and Far East specially, Shari’a compliance still remains a desirable feature for many of the mainstream investors. However, track record of private equity firms is the top deciding factor for most investors. Hence refocusing on creating value through operational excellence will be very important in the post crises era.
The seminar was attended by a large number of Islamic finance professionals including bankers, investment managers, senior executives and regulators.