What makes a country attractive for Private Equity investment?
The private equity business model has become increasingly efficient and sophisticated, particularly in developed markets. Smaller and less developed markets could benefit from the transformative impact of private capital if they develop a favorable socio-economic environment for deal-making and private equity investment activity.
PE-backed companies have proven to create more employment, growth, and profitability than their peers. Policymakers should focus on creating adequate conditions for a thriving PE market. We summarize the literature on socioeconomic drivers that are important for increasing PE capital flow and spurring economic growth in developing markets.
1) Economic activity
The size of the economy, the variety of large companies and SMEs, overall entrepreneurial activity, employment levels, and expected economic growth all influence deal flow, and consequently, the number and volume of private equity transactions
2) Entrepreneurial culture and deal flow
Deal opportunities arise from a country's innovative capacity and research output. Innovations driven by research and development lead to the emergence and growth of new enterprises, the building and preservation of brand value, and competitive market positions that attract investments
3) Strong capital market
Capital market provides a platform for businesses to raise long-term capital, particularly equity capital, to invest and innovate. Inaccessibility to debt financing hinders economic development and can be especially challenging for start-up activity. Banks often adopt a conservative approach to lending and investing. Developed stock markets facilitate private equity divestment through IPO exits, which are essential for sustaining private equity activity
4) Investors and property protection
Protection and enforcement of property rights strongly affect growth and emerging new enterprises. The quality of the legal environment influences local companies' access to external financing. Institutional investors that back PE firms need assurance that their investments will be adequately protected before committing the capital. The cost of capital is typically lower in countries with better investor protection.
5) Human and social context
Countries with more developed educational institutions create an environment that supports and cultivates the market for risk capital. Flexible labor market conditions help pursue growth prospects in changing market conditions. A society with corruption, crime, black markets, or substantial bureaucracy will have high barriers and, therefore, high costs to entry
6) Taxation
Direct and indirect taxes affect entrepreneurial activity by creating high market entry and exit barriers. PE activity is not strongly correlated with tax brackets. Developed countries have higher tax rates and high PE investments, while many developing countries with low corporate tax rates have little to no PE deals (Private Equity: Opportunities and Risks, H. Kent Baker, 2015)
