Special situations’ has become an increasingly mainstream asset class through an extended period of market volatility. Each special situation is unique and only those who can identify and, more importantly, access these transformational opportunities stand to unlock value. A special situations strategy will vary according to the geographical mandate, investment philosophy and deal origination expertise of the investment manager. Broadly defined, it is a situation where a business is either in financial distress or is undergoing a transformational change, such as corporate restructuring, new management, products, markets, technology or business lines, industry or cross-border consolidation, new regulation, mergers, acquisitions, or a delisting. Special situations can also be purely value-related, such as fundamentally strong companies which may trade at a discount to their underlying assets or have growth characteristics, which remain under-appreciated.
New interest
At a time of unprecedented uncertainty in the global economy, investors are challenged to find opportunities that are capable of generating sustainable, attractive long-term returns. The combination of global imbalances, sovereign debt issues, rising inflation, monetary tightening, signs of asset bubbles and the ongoing political instability all create headwinds which render traditional approaches to value creation less effective. With established asset classes demonstrating strong correlation and vulnerability to market volatility, investors are keen to access untapped markets and explore alternatives to uncover better returns and diversify their portfolios. Commodities, currencies and the emerging markets have gained popularity, while a broad-ranging, flexible investment class which has emerged is special situations, garnering interest from both private and institutional investors.
At Samena Capital, we place a strong emphasis on Samena (a proprietary acronym for Subcontinent, Asia, Middle East and North Africa) companies demonstrating strong correlation to growth in these high growth markets. The Mena region has arrived at a new inflection point, the first since boundaries were drawn in the aftermath of the Second World War, with nations embarking on a long period of political, educational and social reforms which will require sustained government spending, resulting in special value situations. Significant returns are possible due to the relatively small number of companies with the capability to adapt to rapid economic development and the explosion of intra- Samena activity. Perhaps the most compelling special situation of all is the emergence of cross-border opportunities, best exploited through buy and build strategies, by those who are able to operate along the lucrative trade and investment corridors between the Middle East, Asia and India.
Over the past few years, AUM in the private equity special situations funds space has experienced substantial growth, while the vehicles used to access opportunities have become increasingly sophisticated. Asset managers use equity, equity-linked and debt-related instruments, but the key differentiator that ultimately determines performance is the ability to identify high-quality opportunities. This is not easy, and depends on the right mix of regional expertise, local networks and relationships, industry knowledge, rigorous research and the manager’s ability to unearth companies that are at a significant stage in their business cycle.
Value-drive strategies
A successful investment approach for special situations in this context is likely to focus on stable mature businesses that have high quality management and are undervalued relative to their long-term potential. The best managers leverage their information network to unlock industry and regional insights in the relatively closed Mena markets and create a reasonably concentrated portfolio. The investment horizon is typically medium term, which allows these funds to take advantage of market dislocations that short-term investors avoid. Some of the most successful managers have acquired investment bandwidth in particular regions to expand their insight and expert network. The value creation exercise is not without its challenges. To some extent every emerging market situation has some of the characteristics to be ‘special’ but very few promise the most attractive returns. As the world tilts in favour of high-growth markets, potential transactions need to overcome higher hurdles than their old world counterparts. Differences of regulation, culture and experience in closing such cross-border transactions can make for a difficult deal-making process. The following emerging themes are particularly compelling in terms of the value potential they represent:
• Infrastructure: The development required to accommodate future urban growth is creating an unprecedented investment boom to meet enormous demand for power, water, sewerage and transport infrastructure. $2trn of government and private sector spending is anticipated in the Mena region and India over the next five years.
• Privatisations: There has been a paradigm shift in the attitude of many governments towards privatisation and much greater willingness to involve private sector participation. Despite record oil prices, Middle Eastern countries have begun to push their privatisation agenda in earnest. In turn, as governments step back, a considerable degree of economic liberalisation is under way in the private sector, which creates the opportunity to consolidate industries or supply chains.
• Family group strategies: Many family groups are redefining their strategic focus, identifying core sectors and addressing issues such as succession planning and corporate governance. This is most evident in India and Mena, where businesses are steadily becoming institutionalised.
• Education: Education has been an under-invested sector throughout the entire Samena region, despite a rapidly growing youth population, greater hunger for education from a rising middle class and a workforce as yet untrained for more highly skilled jobs. With secondary and tertiary enrolment levels low relative to mature economies, private sector investment and private-public partnerships is essential.
• Healthcare: Similar soft infrastructure investment in healthcare in developing economies is in a phase of rapid growth, driven by growth in populations, disposable incomes and life expectancy. Developed market average annual spend on healthcare is still around seven times GCC levels, while many countries are developing global reputations for high-end private sector facilities which target medical tourism.
• Consumption: Rapid economic development has created higher disposable incomes and increased consumer confidence, fuelled by rising urbanisation and increased access to finance. This in turn encourages new business groups that can successfully service evolving consumption patterns.
