February 1, 2012
Interviewed by: David Snow
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The Turkish Opportunity

Turkey is one of the world’s fastest-growing economies, but its penetration by private equity investors is minimal.

“The Turkish Opportunity” is the first in a set of conversations between David Wilton of the International Finance Corporation (IFC) and Demet Ozdemir of EY, Turkey. Wilton brings the perspective of one of the first institutional backers of Turkish private equity funds. Ozdemir’s team has deep ties throughout the Turkish private equity market connecting GPs with business owners.

Turkey is one of the world’s fastest-growing economies, but its penetration by private equity investors is minimal.

“The Turkish Opportunity” is the first in a set of conversations between David Wilton of the International Finance Corporation (IFC) and Demet Ozdemir of EY, Turkey. Wilton brings the perspective of one of the first institutional backers of Turkish private equity funds. Ozdemir’s team has deep ties throughout the Turkish private equity market connecting GPs with business owners.

David Snow, Privcap: Welcome to both of you. Thank you for joining Privcap today. Today we’re going to be talking about a very important, very hot topic, its private equity in Turkey.

Turkey is obviously a very large market, but not a lot of private equity to date, at least compared to other very large markets, so I’m very fascinated to hear both or your views, and you have different views of the market. You [Demet Ozdemir] are on the ground helping entrepreneurs and business owners connect with private equity firms, but also helping private equity clients. David [Wilton] your firm, IFC, has presence in Turkey, and a large team, and actually uses it, not only for Turkey, but also for regional investments.

I’d like to talk a bit about an overview of the Turkish opportunity with regard to private equity. What do you tell the people, who feel like they should know more about Turkish private equity? What are some of the first, major points you make to them, to help them understand where the opportunity is today?

Demet Ozdemir, EY: Well, private equity industry in Turkey is a rather new industry. Or private equity awareness has been increasing over the recent years.  It is still a rather premature to say. I would definitely agree with David that the private equity funds available for Turkey have increased a lot. Those funds have been raised, only to invest in Turkey. We do have local funds. We do have regional funds, which may include the Middle East, Central Eastern, and Southeastern Europe. We will also be talking about global private equity funds, which do have offices in Turkey, or are covering Turkey from London.

Snow: The Turkish economy is very large, and yet its level of private equity penetration is relatively low, compared to others emerging markets. Why do you think there are so few local private equity firms, and there have historically been so little private equity activity in such a large market?

Ozdemir: That is definitely a correct way of saying private equity investments have not been realized yet, at the level it should be, or will be, let’s say. If you look at the numbers of the private equity investments provided in Turkey, made in Turkey, they are very small compared to the total mergers, and acquisitions market, or the investments. There are significant differences between years. If you look at the five years period, and compare the private equity investments in the total M&A volume, it is changing between 10 to a maximum 15 percent, which is still a small number. If you look at the fund size available, it is huge. There is a significant amount of capitol waiting to be deployed in the Turkish market.

Snow: David, why do you think it is that private equity has relatively under penetrated the Turkish market, compared to other similarly robust, emerging markets?

David Wilton, Global Private Equity International Finance Corporation: Possibly Turkish started slightly later that the others, and it hasn’t had the strength. For instance, China and India had stellar growth in the ‘90s, and attracted private equity activity that early. Turkey started a little late; I think that’s part of it. Also, the range of deal flow; you’ve got, family companies that want to corporatize, get better efficiency, and strength, and you’ve got a smaller number of startup growth opportunities. You have some very big conglomerates in the Turkish economy that are only just, I think, beginning to sell parts of the operation, and focus on core business. So, it’s a volume. I think it’s slightly later start than some of others, say to compare to the BRICs.

Ozdemir: I have an additional comment on that. Why the private equity numbers is not here yet? There are a couple of reasons, as well for that. Because one major reason is, the valuation gap between the sellers, and the buyers. Additionally sellers, the Turkish family owned businesses that we’re are talking about, do not have a tendency to sell the majority of their shares of their companies. There is sometimes a parental feeling or feeling as if they are babies. Especially, if it’s the first generation. It is an educational period, not only for the buyer’s side, but also in the seller’s side.

Snow: A questions for both of you, and maybe we can start with David. There are now increasing numbers of fund managers, whether they are local Turkish fund managers, or international firms that are seeking to expend into Turkey. I’m sure they’re all telling you the Turkey story: the list of compelling reasons for why Turkey is the next frontier in private equity. How does that story tend to go? What are some of the compelling reasons to invest in Turkey? Is it proximity to the European market? It is its own domestic market. Is it their ties to the Middle East? What have you been hearing with great regularity, David?

Wilton: The story shifted slightly, in recent times. Take five years ago; it was the domestic market, and the ties into Europe. I think Turkey has come through, for instance, its latest crisis, quite well, so it does have this strong domestic base. I think Turkey is one of the few countries in the OECD that didn’t need to help the banks at all in this crisis. It has a strong domestic base.  It was looking for a lot of expansion, and direction with, not just Western Europe, but also Eastern Europe, going up into Russia. Quite a border area there, and also down to the Middle East. Now that Europe’s considerably slower than it was, we’ve actually seen the portfolio of our own and the portfolio of the private equity funds. Some of the companies are reorienting themselves to the Middle East.

Snow: Is that the story that you’ve been hearing? Certainly, there’s the opportunity that fund managers present to potential investors, but then there’s the actual, and you’re in touch with these people every day; the business owners and the opportunities they’re seeing to expand their businesses. What themes tend to come from the business owners directly?

Ozdemir: I would only say one word, maybe growth. Growth is a significant opportunity for the fund managers, obviously. Turkey has growing economy with in the worldwide comparisons.  It is the fasted growing economy. The second fastest growing economy is following China, in that respect. This is a significant impact, or reason to invest in Turkey. And obviously followed by, where is this growth stemming from? Probably the main answer would be that the demographics’. The size of the population of Turkey, is huge, which we are talking about 73 million people. But more importantly, other than the total size, 43% of the total population is below the age of 25. This is a significant factor. It is a young population as well. This brings the consumption with it. The local consumption is very huge, and the savings in Turkey is very low. This means the consumption, and local consumption therefore, investments, or potential opportunity in the local market is significant. That’s what brings everyone in the country, or attracts them.

Snow: Certainly domestic growth and domestic demographics are very important to the Turkey story. How important are its neighbors: the Middle East to the South and Europe?  How exposed is the Turkish economy to those two large regions?

Ozdemir: Turkey can always be used as a hub, thanks to its strategic location within the road map. Given the political stability, published in Turkey, over the eight or nine years’ time frame, which is the current leading party in place, with the majority working, right? This has brought political stability, and has brought increasing importance for the country with its neighbors, especially, within the Middle Eastern neighborhood, in that respect. It is also another potential for Turkish investments to be able to export, or use it as a hub, given its economic and political position with the geographical, strategic importance.

Snow: David, you mentioned Turkey’s integration into the European economy is not stressed as much these days. How important, do you think it is to understand the effect these two mega-regions have on the Turkish economy, in thinking about the Turkish opportunity?

Wilton: Will I think there is, as you said, fairly, strong domestic growth story that deals with the demographics. I think there is a good base there. Also, the economy’s been liberalized over the years. So you have a good private sector there. I think one of the strengths of Turkey is that it is – because of its position, it can reach into Europe, it can reach into Central Asia, and it can reach into the Middle East. So in a sense, you have a nice diversification of opportunity. A business, as I said before, and some of these companies inside the funds we back, the ones that have had an offshore expansion strategy have been able to switch gears and refocus on the Middle East. There are not too many countries that can do that. I think it’s important to understand it as a positive, but I don’t think there’s an over dependent, or expose there.

Ozdemir: We could also mention about the strong financial system, the banking system, in Turkey, especially, following our local crisis in 2001. The banking system has significantly improved. Its regulatory and legal framework has increased and therefore, we do have a very strong banking system right now in place. Therefore, we were not significantly, affected with the 2008 global financial crisis.  It also had a positive impact on private equity investments as well, which obviously is leverage, for financing in each, and every investment.

Snow: As far as the legal and the regulatory frameworks, for private equity specifically, what should investors expect when they come to Turkey to do a deal?  Is it a friendly structure?  Are there still some barriers to getting a deal done, or to enforcing contracts?

Ozdemir: Except for maybe a regulatory sector, which is banking, other than that, there is no restriction for any private equity invested in that respect. It is very investment friendly.  There are no limitations for any investment.  There are no barriers specific for private equity investors.

Snow: Are local, Turkish institutions allowed to invest in private equity funds?

Ozdemir: You mean, funding.

Snow: Limited partners, yeah.

Ozdemir: Yes, they are, but it’s never disclosed, obviously. This not the case anywhere else, either. There is sometimes, what I hear from the MD’s or GP’s during our conversations, if they do have local investors in their fund level, they may have certain conflicts of interest issues in that respect. Therefore, they not tend to have funds at a significant level, let’s say, but it’s a minority in certain levels, they do have; they may have.

Snow: David, one final question for you. As you look at the differences between the Turkish legal finical system, and sort of things that stand out there, what is important to bring to the attention of the people who maybe have not done anything in Turkey before?  Or they just want to make sure they understand the framework, in which they are going to be investing?

Wilton: AS far as Turkey is concerned, I’m not aware of any issues that we’ve struck.  So I can’t really point to anything that we should be aware of. No issues have come up, that’ I’m aware of. So to that extent, I think it’s probably an indication that it’s a good environment.

Snow: So it sounds like, you mentioned, the sellers – it sounds like maybe, one of the chief impediments to the growth of private equity in Turkey has simply been that the local family groups have been just fine without private equity. And they maybe need a bit more education about what private equity could offer them, as far as opportunity to grow.

Ozdemir: That’s a very correct way of saying they should understand the value creation of the private equity investments, and they should understand the benefits that offer private equity for their own companies as well. The sellers should not be feeling that they would leave the potential growth all to the private equity investors.

Snow: Well, we have a lot more to talk about; we can talk about the deal flow dynamics in Turkey today. We can talk about some interesting antidotes of success, and possibly even failure in Turkey. But for now, I would like to pause and thank both of you for joining Privcap today.

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