There once was a time when the biggest worry for anyone traveling on the highways of Colombia's hinterland or city streets was security. Now, the worry more likely involves the dangers of navigating potholed, decaying and congested roads. In some respects, it's a positive sign of how much the country is changing as it leaves its crime-ridden reputation in the past. But Colombia's decaying, investment-starved infrastructure — including its roads as well as subways, ports, airports and more — is nonetheless a weak link for a country hoping to be among the world's top emerging market darlings. Without improvements soon, say investment experts, the increased output from its mines, oil wells, agribusinesses and other industries will struggle to reach domestic and export markets. “Infrastructure is a key bottleneck,” notes Juan Carlos Fernandez, vice-president of foreign investment at Proexport Colombia, the government agency promoting foreign direct investment (FDI), tourism and exports.

For the country's young private equity (PE) industry, it's a call to action. Having grown from two funds in 2005 to a total of 20 today, industry players are on the collective lookout for investment gaps, like in infrastructure, that they are ready to fill. Of the 20 funds, eight are multi-sector funds, which are running alongside a growing number of specialized funds, including four forinfrastructure. Other specialized funds cover areas like oil and gas, energy and health.

But regional competition is stiff: Colombiahas only a 5% share of the region’s fundraising, at US$431 million out of about US$8 billion, according toMaría Cristina Albarracin Roldán, Bogota-based PE fund director at Bancoldex, the state export-import bank. Replicating large deals like those found in Brazil and Chile — Latin America's more mature PE markets — won't happen overnight.

Part of the Action

For now, foreign and local investors are learning the ropes of PE in Colombia. Deals in the country tend to be relatively small — US$20 million on average, according to the Latin American Venture Capital Association — and getting a healthy return on investment relies arguably lesson the capital markets, and more on local business relationships. Rather than aiming for eventual public listings on the local bourse as in other countries, Colombian firms — many of which are family owned — are generally looking for experienced PE backers, who can take a minority stake in their businesses while providing hands-on expertise to help them grow.

"There is a large base of midsized Colombian companies seeking deals valued at between US$5 million and US$25 million," notes Patricio d’Apice, a managing partner of Access Seaf, a private equity partnership in Bogota between local investors and Washington, D.C.-based Seaf International. He says this base is mostly "unattended," and large PE firms looking for bigger deals will be disappointed since most Colombian firms are just too small.

But investors increasingly like what they see in Colombia. In particular, public and private sector experts cite the widespread view of improved security nationwide that is playing a key role in attracting investors. “The perception issues are very important, and the perception of Colombia is changing,” says Fernandez.

It's a welcome change for the country's 45.9 million citizensafter years on the sidelines as investors shunned the country that had become synonymous with dangerous drug cartels and clashes between the military and leftist guerrillas rather than its abundance of natural resources, such as minerals and coffee beans. Narco-trafficking and terrorism haven't disappeared completely, but they are now overshadowed in a country hankering to be part of global growth.

The global boom in commodity prices is only part of the picture. Government regulatory reform, loosening institutional investment restrictions and improving corporate governance have also been important for propelling the Colombian economy. According to the World Bank’s 2011 Ease of Doing Business ranking of 183 countries, Colombia is the third most “business-friendly” nation in Latin America, after Mexico and Peru, and leads the region in its "top reformer" ranking thanks to improvements in areas such as access to capital, investor protection and ease of starting a new business.Colombia has also earned investment-grade ratings from Standard & Poor’s, Moody’s and Fitch.

Over the past decade, Colombia’s per capita GDP has more than doubled from US$2,482 to US$6,136, while annual net FDI will be a projected US$8 billion to US$9 billion this year, after hovering around US$1.5 billion for much of the 1990s.

José Dario Uribe, Colombia’s central bank governor, believes the country is now on pace to grow at an annual rate of around 5% to 6% over the next several years. All that has helped cut Colombia’s risk premium – "the second lowest in the region, after Chile," he adds. "And we have gained very high monetary policy credibility.”

The Potential for Innovation

It's against this backdrop that major international funds have set up shop in Colombia in recent years. Among them: London-based Ashmore Investment Management, which focuses on emerging markets. In Colombia since 2009, it now manages a fund covering three infrastructure-related sectors: Power generation, logistics and oil transportation. The Colombian government has invested US$37 million of the US$200 million fund. “We would like to have a larger fund,” says Camilo Villaveces Atuesta, head of Ashmore's Bogota office. A larger fund, he says, would enable it to get involved in big-ticket, critical infrastructure projects for, say, shipping equipment that's needed for port upgrades, dredging rivers and constructing big oil refinery installations.

But first, the focus of various government efforts has been to make it generally easier for enterprises to connect with capital. That includes updating regulations last year to give pension and insurance fund managers more flexibility in terms of how, and how much, they invest in PE. Investors can now spread assets across three kinds of funds, rather than one, according to their risk appetite — low, moderate or aggressive.

Bancoldex, meanwhile, has been looking for ways to help the country's investment “ecosystem” by, for example, setting up a division for angel investor networks, composed of “people who have resources [and] want to take risks," says Albarracin. "The government sees the potential for innovation.” Bancoldex itself is part of the PE scene as the only bank in Colombia allowed to invest in PE and venture capital funds through its Bancoldex Capital Program, by investing as a limited partner and accounting for up to 20% of the total value of a given fund.

Among the PE success stories is the country's first fund, Fondo Transandino Colombia (FTC), which was established in 2005 by Seaf. In its initial four years, FTC made five investments in different sectors, realizing in one sale to a strategic corporate investor a U.S. dollar internal rate of return of 43%.Itsportfolio of companies today includes health and wellness (Bodytech), financial services (Refinancia and SA), restaurants and bars (Andres), and integrated agribusinesses (Infinite Herbs). For the companies in its active portfolio, which now has about 4,000 employees, revenues have grown at an annual average rate of 25%, and Ebitda has increased 26% annually. Of the invested capital, 58% has already been returned to local investors.

According to Access Seaf, all the investments reflect its focus on high-growth companies "led by innovative managers with vision and discipline,” while providing financial monitoring and reporting advice from its base in Bogota. Juan Manuel de Pombo, managing partner of Access Seaf, describes the firm's approach as a "hybrid of venture capital and private equity, except that we don’t invest in start-ups and new technologies.”

Getting involved in its investments "on a daily basis” is a key way for the firm to add value, says Access Seaf's d’Apice. “We have personal relationships with the managers of the companies we invested in, and many come to us for our managerial support.”Now, Access Seaf will be directing that support to Colombia's roads and other infrastructure, with its next fund investing in undercapitalized midsized firms in transportation and logistics, oil and gas services, energy generation, water utilities and maritime infrastructure.

On the Horizon

Juan Muñoz, executive director of investment banking at JPMorgan in Colombia, predicts that a substantial increase in PE activity will be “mostly driven by Colombians looking for opportunities,” rather than foreign investors who are new to Colombia.

Some experts believe that there's much pent-up demand, a reflection of the fact that entrepreneurship is still relatively young in Colombia. A key factor discouraging entrepreneurship in the past was sky-high interest rates, which hit about 50% in 1980. It was too expensive to borrow money to start a new business, and too easy to live off the interest on fixed-income investments. Interest rates are currently around 4% to 5%, "and to be an entrepreneur is now an alternative," says Alvaro Hernan Mejia, investment banking vice president at Correval, a financial services firm in Bogota.Some entrepreneurs are successfully setting up companies, “but they are raising money directly from banks, not private equity,” he notes, since their funding needs are usually too small to satisfy PE.

But he predicts that change is on the horizon, not least because of the overall buoyant investment environment. “I am absolutely optimistic that we are the next Brazil, and our own [stock] exchange will be a huge opportunity for a lot of people,” he says.