Taking on risk

Emerging markets investors must expect the unexpected when it comes to regulatory issues - but they are far from downbeat at the prospect.

Private equity firms investing in emerging markets are required to have a highly pragmatic stance toward the issue of regulatory risk. It's an attitude neatly encapsulated by Paul Fletcher, a senior managing partner responsible for the development of London-based Actis' business activities globally. ?It's not a matter of choice for us,? he says of the challenges posed by the rule makers. ?Limited partners will obviously have to give it some thought, but we have invested $5 billion in emerging markets over the last seven or eight years and we understand and accept the underlying risks of those markets.?

In other words, if you're committed to an investment strategy, you follow it through regardless of any obstacles placed in your way.

It's not that Fletcher underestimates the potential for governments to throw a spanner in the works with an ill-timed, illjudged or just plain kooky piece of legislation. In China, for example, he and his Actis colleagues witnessed the hiatus that followed the introduction of Circulars 11 and 29 by the State Administration of Foreign Exchange (SAFE) government agency, which attempted to curtail the use of offshore structures to acquire Chinese companies. But overall he has a positive view of the regulatory environment in emerging markets: ?There is no investment we have made where regulatory issues got in our way following the completion of the deal in the sense that there was a subsequent erosion of value.? He adds that those interventions that do happen ?are no different from those you might get in developed markets.?

Ettore Biagioni, founder and head of Alothon Group, a New York-based Latin America-focused private equity firm, is another who has a benign view of regulation. Says Biagioni: ?Different countries have different regulatory environments, but in the markets we principally invest in we've not seen foreign investors treated unfairly in comparison with locals and we've not invested in sectors unduly penalized [by the regulators].?

On the other hand, Pote Videt, a Bangkok, Thailand-based managing director at San Francisco-headquartered GP Lombard Investments, offers the view that his firm is operating in a ?fairly murky regulatory environment? in South-East Asia that is nonetheless ?good news because of the opportunities it creates?. He says that, because Lombard has offices in both the US and Asia, it is able to ?combine international disciplines and standards with local knowledge of who to deal with and how best to protect our interests.?

Videt says investors in South-East Asia have certainly encountered difficulties on occasion. For example, in the infrastructure sector, some firms have falsely believed they were in possession of contractual obligations from the government. He also says the telecoms sector has been particularly challenging thanks to differing agreements being reached by various operators with different governments. ?If you tried to change [those agreements] now so that everyone was on a level playing field, it would be a nightmare because all the agreements are specific to a particular government at a particular time,? he says.

Meanwhile, David Fisher, chairman of the investment committee at Warsaw, Poland-based private equity firm InnovaCapital, says that governments in the emerging markets in Central and Eastern Europe, while keen to liberalize regulations, can nonetheless still be protective when it comes to state interests. This could be the case, for example, in the telecom sector if the government in question happens to have billions of euros invested in an incumbent operator. However, he maintains that such scenarios are becoming ?fewer and fewer.?