Middle East & Africa

A decree of unconfidence

International investors with eyes on Egypt’s booming international K12 sector are jittery after government introduced a new decree capping foreign ownership of schools at 20%. Have authorities poured too much cold water on a hot market, asks Josh O’Neill

Private equity investors with stakes in Egyptian school groups are worried. Overseas investors with intentions for the country’s fast-growing K12 market are anxious, too. Not because of the coronavirus crisis that has prompted governments worldwide – including Egypt’s – to shutter tens of thousands of schools, but because of a decree that was quietly introduced late last year.

The new legislation stipulates that foreign investors’ holdings in Egyptian schools must not exceed 20% – lowering significantly what were previously uncapped ceilings over foreign direct investment (FDI) in the country’s lucrative private school sector. If enforced retroactively (which is looking unlikely), the decree could affect school groups owned by GEMS Education and SABIS, which have foreign private equity capital behind them, and CIRA, a publicly listed operator of nearly 20 schools. Meanwhile, it could prompt overseas investors to turn their backs on the market, at a time when FDI volume is poised to plummet as the Covid-19 pandemic intensifies. Liquidity is quickly drying up and investors are taking stock as their desire to do deals diminishes – exacerbating the impact of any negatively perceived changes to investment laws.

Private equity investors see the decree as punitive because they tend to take full control of the businesses they acquire. A 20% slice of a company shared with a domestic partner, in most cases, will not satisfy their appetite for outsized returns. One partner of an international buyout fund that owns an Egyptian education organisation told this publication, on the condition of anonymity, that “we are revising our entire strategy for investing in the Egyptian education sector because of this [decree]”. The person described the legislation as “a negative signal” from authorities and said it “absolutely” has the potential to deter other private equity funds from entering Egypt’s education market. As an overseas investor, “I would be very worried” about buying into Egypt’s school sector now, the person said.

Over time, governments in emerging markets tend to open further their doors to FDI – not close them – to boost activity in targeted industries, or to finance infrastructure projects that cannot be funded with public cash. Dubai, for instance, in late 2018 removed a 50% limit on foreign investment in education assets to enhance international schooling provision and drive competition. Other countries in the Middle East and Asia – such as Indonesia, which has opened up its higher education sector to foreign funding – have made similar moves in recent years. So why is Egypt seemingly making its school sector less attractive to foreign financiers, when more favourable investment conditions are perhaps just a flight – or Zoom call – away?

Egypt is a predominantly Muslim country; around 90% of its citizens are followers of Islam. Governments of countries with strong religious elements engrained in their culture often have in place, or introduce over time, measures to safeguard it from forces they perceive as threats. Imported education has the power to shape young minds and can thus, over time, alter the fabric of a society. If authorities feel that foreign ideologies are encroaching on citizens of tomorrow, they may move to curb the institutions dispensing them. ▶

In 2018, China, a communist nation, prohibited “foreign entities” from establishing or controlling primary schools in an effort to protect its national curriculum from overreaching Western influence (see EducationInvestor Global October, 2018). The party line suggests that Egypt’s rationale is comparable.

Official statements translated from Arabic cite the “protection of national security and educational goals, by preventing the acquisition of Egyptian schools and protecting the identity of students and children from some wrong practices”. This is a curious standpoint, however. If their concerns were related only to educational outcomes and students’ identities, why not simply place additional regulations around curricula?

Note that the decree was published just months after the Egyptian American Enterprise Fund took a 49% stake in the Nermien Ismail school group, and a fund operated by the National Bank of Kuwait bought two language school chains. These deals were worth millions of dollars. Perhaps authorities began to worry that such sums could carry social or political sway.

Regardless, “the message is straightforward: they are in control of the industry”, said Johnny Harb, chief executive of Africa Crest Education, whose shareholders include Dubai-based school chain SABIS and a meld of public and private investment companies. Africa Crest Education owns 75% of one school in Egypt, and 35% in another, both of which are operated by SABIS. “But when you are investing through a private equity fund, unless you have a network [of schools] that generates hundreds of millions of dollars, a 20% stake is not going to work.

“This could absolutely be a deterrent [to other private equity investors]. A 20% stake might get you a seat on the board, but it won’t give you anything close to majority voting rights within the shareholder community.” When it comes to leveraged buyouts, the funds orchestrating them tend to want it all or not at all.

Harb told this publication that Egypt’s Ministry of Education (MoE) has set up a committee to review existing shareholder structures of school groups with foreign capital behind them, as well as new entrants to the sector. He understands that the decree will be “grandfathered” – meaning existing operators would be exempt from the rule, if this is true. (The MoE did not respond to an interview request.) The rule will apply to any schools – national and international – that charge fees and have foreign investors, said Harb. “We’ve submitted our paperwork and I am confident,” he said. “But I wouldn’t say anything is certain until I see the paperwork.” This publication learnt that the committee had its first meeting on 27 February, at which it reviewed seven exemption requests from existing operators. The committee is also considering granting future exemptions for “serious investors” looking at Egypt’s school sector, it is understood.

However, even if the ownership structures of existing school groups are left entirely intact, there could be caveats going forward, Harb pointed out. When a school with foreign owners comes to renew its operating licence every five years, it could be subject to a review if any of the shareholders change, he said. Harb likened this to know-your-customer checks implemented in the banking sector, which are designed to prevent the flow of illicit funds and to root out money laundering. “Going forward, you should know exactly who your investors are and immediately declare any shareholder changes.” Questions remain around whether future school acquisitions by existing foreign-owned groups will be permitted. “Anything can happen,” said Harb. A step too far? Between 2006 and 2008, Egypt’s population grew at a healthy rate of 2.6% a year. This led its government to announce in 2018 that some 2,500 schools would need to be built each year through public-private partnerships to absorb new entrants to the schooling system. That year, GEMS Education, the United Arab Emirates’ largest forprofit school operator, struck a $56 million agreement with Talaat Moustafa Group, a domestic construction firm, to acquire a portfolio of schools, evidencing the willingness of Egyptian authorities to embrace international school groups and their funders. According to Oxford Business Group, private schools, which collectively enrol around two million students annually, make up just 1% of Egypt’s school market, in which there are around 56,000 public institutions and 9,000 religious schools.

Considering how small the private sector’s share of the market is, one may reckon the new decree is overly onerous. Moreover, it was published without any prior industry consultation – a sure-fire way to rile up investors, who don’t take kindly to being blindsided by new rules and regulations. Ross Barfoot, partner at international law firm Clyde & Co, said the uncertainty caused by the legislation could hinder future investment and lead international investors to seek out opportunities in other African and Middle Eastern markets, such as Saudi Arabi and the UAE, where laws around FDI are less stringent. “Even with the prospect of exemptions, the decree has created a huge amount of uncertainty – and investors don’t make decisions when they’re uncertain,” said Barfoot. “The ease of doing business and legal protections are both factored into investment theses for school acquisitions and launches.”

Franchise agreements – whereby schools located overseas can launch offshoots by essentially leasing their brand to a domestic partner for a fee – will not be impacted by the decree, explained Barfoot. “We’re aware of a number of those [franchise deals] that’re already underway and they’re still going ahead,” he said. But “investors who were thinking about pushing the button and going into Egypt are now potentially waiting until there’s further clarity,” he added. ▶ A 20% stake might get you a seat on the board, but it won’t give you anything close to majority voting rights within the shareholder community

The decree aside, international schooling in Egypt remains a high-growth sector, propelled by a large supply of students who at present have filled more than 80% of available seats, according to data from consultancy EY-Parthenon. “New schools are ramping up well and offer lucrative returns on investment,” said Ayushree Agrawal, senior consultant at EY-Parthenon. “The underlying drivers, such as demographics and affordability levels, are expected to grow… increasing levels of participation and making Egypt’s international K12 sector an attractive opportunity overall.”

Still, the unnerving message that the decree has sent to international investors – in particular private equity houses – cannot be ignored. Buyout funds typically make investments based on a five-year horizon, sometimes longer in the education arena. Therefore, it is crucial they are afforded a certain degree of confidence that the lay of the land will not change drastically within that time-frame. The decree has caused one private equity group to put on ice plans to invest more than $100 million in Egyptian schools, according to Enterprise, which also reported that several other international funds have scrapped plans to enter Egypt’s education market. The chief executive of CIRA, which owns school groups Mavericks and Futures, as well as Badr university, said some E£300 million (£16 million) of expansion capital had been put at risk because the Cairo-listed organisation has foreign shareholders.

Partners of private equity firms that this publication has spoken with are concerned that similar adjustments could in due course be made to investment laws governing other educational sub-sectors. Actis, an international private equity group that owns Africa-based Honoris United Universities, announced in late 2017 that it would open a business school campus in Cairo. This publication understands that Actis is now reconsidering the launch for fear of restrictions being imposed on university investments later down the line.

If the global education sector is to recover fully from the coronavirus infection, private capital from investors worldwide will undoubtedly be required – especially in emerging markets, where governments may not have the necessary financial firepower to resuscitate ailing businesses. Egyptian authorities did themselves no favours in failing to consult international financiers on the decree. Their capital may be needed to keep schools upright if the pandemic worsens. n

The decree has created a huge amount of uncertainty – and investors don’t make decisions when they’re uncertain