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Thursday, 22 September 2022

There are two ways forward for Egypt’s IPO market, says EFG Hermes investment banking boss

We have a handful of traditions at the EFG Hermes One on One — one is eating a lot of red meat. Another is checking in with Mostafa Gad for a glimpse into what his crystal ball says about the IPO and M&A outlooks for Egypt in the year ahead. Gad is co-head of investment banking for Egypt at EFG Hermes.

KEY TAKEAWAYS from our conversation in Dubai yesterday:

  • Policymakers have three paths open to them as they look to get serious about the asset side of their balance sheet. Two routes lead to IPOs, the third runs through an M&A pathway.
  • IPO activity could return in 2Q and 3Q 2023. You can safely expect international institutions that invest in public equities to hold back until they feel they have clarity on the foreign exchange regime.
  • 2022 has been a record year for M&A activity and there’s momentum in the market to see this carry through to 2023.
  • Strategic investors will commit to M&A where public markets folks are holding back from taking a position because strategics can choose to take a longer-term view.
  • Breathing new life into the stock market just doesn’t help day traders — it reprices every single corporate asset in Egypt by raising comparables for everyone.

In finance, it’s all about pricing. Every consumer loves a good deal — on a car, a computer or a new pair of shoes. It’s no different for investors. Whether you want to take a position in a company through an initial public offering (IPO) or buy one outright in the private market, it’s all about valuation — and valuation decisions are benchmarked and priced on the basis of comparables in public markets. That’s finance-nerd-speak for “the stock exchange.”

That simple fact of life leaves policymakers with two options if they want to go the IPO route, says Gad.

OPTION #1- Look to the example of Abu Dhabi. Regular readers of Enterprise know that Abu Dhabi has transformed itself from a reasonably sleepy IPO backwater into one of the region’s hottest markets (+18.9% year to date) thanks to a run of successful IPOs. How did it pull off the transformation? “They accepted that less-than-optimal valuations were the price that needed to be paid to revive the market — that in the early days, it’s worth going to market with IPOs priced even below fair value because the comps in the market are low. Taking attractively priced transactions to market is how you grow your market cap,” Gad says, pointing to the recent IPOs of companies with “great fundamentals, great cashflows, and good dividends,” including Adnoc Drilling, Adnoc Distribution, and Fertiglobe.

That approach is paying dividends (forgive the pun): In June, Borouge, a joint venture between Adnoc and Borealis, became the ADX’s largest-ever IPO and the largest-ever petchems listing in MENA, raising USD 2 bn in an offering that was c.42x oversubscribed. Borouge expects to pay a dividend of nearly USD 1 bn for FY 2022 — and of at least USD 1.3 bn in 2023, good for a 6.5% dividend yield based on the offer price.

OPTION #2- Get highly liquid state institutions to invest in the stock market, including folks managing assets for the pension and social ins. system. “It’s not altruism for them to invest in the market — it’s part of their mandate,” Gad notes.

“You cannot escape the comparables in an IPO,” Gad says. “The stock market prices every company in Egypt. Every single Egyptian asset. ‘Comps’ are the starting point for discussion before you can start arguing for a premium.”

Breathing new life into the EGX will “reprice everything from banks to petrochemicals, and not just IPOs — for private market transactions, too,” Gad says. “Look at Saudi Arabia and the multiples there. It is not that these are vastly better companies. It’s that the benchmark for valuation is much higher because they have a vibrant, effective capital market.”

Wait, Enterprise: You said policymakers had three paths. That’s just two. Correct.

OPTION #3- Sell stakes (or entire companies) on the private market. “If you sell an asset directly in a private sale to a strategic, the seller has more room in which to talk valuations without reference to comparables in the EGX. There is a very good chance you can get fair value for an asset this way,” Gad suggests. The sale of a large stake now to a strategic investor also leaves the door open to an IPO down the road — a process that would see the state sell another piece of its holdings at a higher valuation when the market is back.

Regional sovereign funds including Abu Dhabi’s ADQ and Saudi Arabia’s PIF will be big players here, as will ambitious outfits such as DPI.

The best route? It depends on objectives, Gad suggests. Do you want to maximize cash in? Private sales to strategics is the way to go. Do you want to revive the market? Play a role in getting it back into shape? Then accept the fact that you’ll be selling a bit below fair value and follow Abu Dhabi’s example by taking good assets to market.

What about the private sector? It generally has the luxury of time on its side when it comes to mulling the timing of an IPO, Gad says: “It’s easier for them to time transactions because they are not in a rush — generally speaking, they have cash and they can hold back so they don’t compromise on valuation.”

The next big trigger market watchers are waiting for: Clarity in the foreign exchange regime. “We need to see the FX overhang addressed so international investors — who think in USD terms — can price the assets. And we need to see inflation come down a little bit,” Gad notes.

And remember, friends: We’ve been here before. This moment feels, in capital market terms, similar in many ways to where we were in 2016.

So when could we see a return of activity in the IPO market? Possibly in 2Q or 3Q 2023, Gad says.

THE M&A OUTLOOK IS DIFFERENT

…at least if you’re talking about strategic investors. “They can absorb shorter-term turbulence because they look long-term. Look at ADQ and PIF. Look at AD Ports’ acquisition of Transmar,” Gad says. “AD Ports knows that regional lines are often under-served by major operators in times of turbulence and there is a lot of room for a sharp regional operator such as Transmar to connect Egypt to the GCC and East Africa. Look at Agthia and Abu Auf. Agthia knows it is a great brand and that the transaction will definitely be accretive on a multi-year timeline.” EFG Hermes was exclusive sell-side advisor in the Transmar and Abu Auf sales.

The M&A outlook is solid for the rest of this year and heading into 2023. “We have a healthy pipeline as EFG Hermes and we see there is a lot of M&A momentum in the market. 2022 will be a record year for transaction count in Egypt, and though much of that is being driven by PIF and ADQ, there is a lot of activity and a good pipeline outside of them.”

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