WASHINGTON, D.C., August 5, 1998 --- A new IFC report analyzes the recent growth of private equity markets in emerging countries and identifies trends in the development of this sector of global capital markets which is attracting much international investor interest.
The paper, "Trends in Venture Capital Finance in Developing Countries", shows a dramatic increase in the volume of venture capital finance in developing countries, particularly in Asia, which at over US$6 billion, now has more than twice the stock of venture capital of Central and Eastern Europe.
In the emerging countries of Europe, distribution of investment is weighted toward start-up and turn-around, while in Asian developing countries, expansion and mezzanine financing dominate. Both regions have a similar industry distribution of venture capital. Funds in developing countries tend to invest more in private debt securities of portfolio companies than venture capital funds in industrial countries.
The paper is a pioneering analysis of venture capital finance in developing countries, based on new data from regional venture capital associations in Asia and Europe as well as a survey conducted by IFC on the portfolio structure of more than 400 investments by 53 venture capital funds in 19 developing countries. It offers lessons that apply where there is significant restructuring activity, such as currently in Asia.
The paper finds that deal flow, investment policies, and fund manager incentives are critical to venture fund investment performance in developing countries. In examining the internal structure of venture capital intermediaries in the private equity markets, the paper analyzes deal screening methods, capital asset structure, measures of entrepreneur skill, and investment monitoring and control techniques to identify what determines successful investment performance in these high risk sectors of emerging capital markets.
If parent companies are involved in the deal screening process, deal flow is significantly higher but so are droppage rates. Deal flow also depends on the caliber of fund management. High management fees are associated with lower deal droppage rates. An investment policy that limits size of shareholding in individual companies tends to improve investment performance because it serves to diversify risk and preserve the performance incentives which are at the disposal of the investee company to maximize investment value.
Funds that are structured to give the fund manager a share of the carry, produce higher expected returns for investors. The return on the time and effort that the fund manager spends advising portfolio companies is greatest in the industry funds where fund managers have superior market knowledge.
The paper also reports on outcomes of investment renegotiation in distress and finds that investment value is more likely to be realized through mergers rather than initial public offerings (IPOs).
Discussion Paper No.36 by the Economics Department of IFC is available on the IFC website at: http://www.ifc.org/DEPTS/OPS/ECON/ECONHOM.HTM. To request a copy of this publication, please call (202) 473-5820.
IFC, part of the World Bank Group, fosters economic growth in the developing world by financing private sector investments, mobilizing capital in the international financial markets, and providing technical assistance and advice to governments and businesses.
