Over the past few years we have seen a sustained interest by South African companies in investing in Central and Eastern Europe. I travel to the region regularly and am often asked to explain why this is so. In particular, what are the drivers of capital outflow and what opportunities does this present for CEE-based businesses?
A true understanding of this trend is not complete without appreciating the role of the South African property sector. In particular, the listed property sector.
REITS, or real estate investment trusts, have become an extremely attractive model for property investment in South Africa since 2013. The largest of the REITS are listed on the JSE – the primary South African stock exchange based in Johannesburg – and through their listings they provide a platform for South African institutional investors to gain investment exposure to property.
The listed property sector, especially retail property, has been one of the most successful investment stories in South Africa. Perhaps too successful. The local property market arguably became oversold earlier this decade. In order to meet investor demand, South African property counters looked offshore to expand. In doing so, they have found fertile ground in CEE, in countries like Poland, Romania, the Czech Republic, Hungary, Slovakia, Serbia, Croatia, Slovenia, Montenegro, and Macedonia.
For South African corporates, CEE is an attractive investment destination for a number of reasons; the most important being that the cost of borrowing in Europe is at historic lows and the region as a whole is on a stable growth trajectory, which appears to be remarkably resilient to global geo-political and financial shocks, and which can be attributed to an expanding and aspirant middle class and a manufacturing and service economy set on meeting the demands of the economies in Western Europe. All of which has been carefully encouraged, save for some notable exceptions, by a framework of pro-growth economic policies.
For South African investors, though, there has been an added benefit, namely a hedge to the rand, the South African currency. South African companies that went into the region early have done incredibly well, with returns amplified by the rand’s deterioration over the past few years.
Historically South Africa’s capital control policy limited local investment houses and institutional investors from directly investing more than 25% of their managed funds outside of Africa. This effectively created a hothouse environment in South Africa where institutional capital was trapped on-shore.
Yet the demand for foreign exposure grew, especially in light of concerns about a declining economy and depreciating currency in South Africa. So South African financial institutions found other ways to diversify offshore, albeit indirectly. For one, they invested in South African public companies with large foreign businesses. The JSE also offered a number of secondary and dual listed securities on its exchange. Investments would be made directly into securities in South Africa but the underlying businesses could be based abroad. This effectively allowed institutional investors an indirect route offshore. With the result that CEE-based companies such as Echo Polska Properties and Globe Trade Centre SA could successfully tap South African equity capital flows.
After the initial success of the property investments in CEE, it was only natural that some of their retail tenants in South Africa would follow their trail. And some of South Africa’s largest retail businesses, such as Pick n Pay (arguably South Africa’s version of Tesco) and value retailers such as Pep Stores and Mr Price, have duly followed the property pioneers into CEE.
Of course, this region is not without its challenges. But contrasted with the risks of doing business in Africa, South African investors are perhaps more at ease in CEE than investors from developed markets.
Experience has shown, however, the benefits of having the right local partners when entering CEE. The right joint venture partner coupled with experienced advisors can mean the difference between success and failure. We’ve certainly seen the advantage of our Linklaters alliance and our affiliation with CEE-focused Kinstellar, both of which are on the ground in the region.
Having a trusted partner in your corner not only eases the wheels of transacting across borders and cultures, but also ensures speed of execution – which is vital if opportunities across all sectors are to be explored. Getting to the heart of those opportunities quickly and effectively will come down to networks and a knowledgeable ear to the ground.
Kevin Hillis, Partner, Webber Wentzel