Last year, Prime Minister Bidzina Ivanishvili announced his plans to set up a so-called co-investment fund. It took a year for this idea to mature, but finally, a group of financially potent investors endowed the fund with 6 billion dollars. 15 % of the capital is provided by Bidzina Ivanishvili himself, the remaining 85% are held by the Abu Dhabi Group, the Ras Al Khaimah Investment Authority (both United Arab Emirates), Milestone International Holding from China, Mr. Alexander Moshkevich from Kazakhstan, capital of the late Badri Patarkatsishvili, Batumi Industrial Holdings (a daughter of KazTransOil), Chalik Holdings from Turkey, and the State Oil Fund of Azerbaijan (not SOCAR but SOFAR). The fund is registered offshore; it intends to attract further capital from other sources and primarily invest it in Georgia.

WHY FORM AN INVESTMENT FUND?

Forming a fund instead of investing individually yields the benefit of sharing the costs of large projects among multiple investors. Likewise, the risks associated with such projects are pooled. In this way, promising projects that are too large to be carried out by individual investors become feasible. And investing in a greater number of projects than would be realizable by individual investors makes the overall portfolio return more predictable.

In addition, investing capital yields economies of scale. Most of the expenditures associated with operating a fund are essentially fixed costs: they do not depend on how much money is accumulated. The fund management can administer 1 billion dollars or 10 billion dollars, but the cost of managing remains roughly the same. Also, the cost of detecting and analyzing profitable investment opportunities is not proportional to the amount of money concentrated in the fund. Hence, the more money is in a fund, the lower is the percentage that needs to be spent for its management.

The Georgian Co-Investment fund is interested to engage in the energy, manufacturing, tourism, agriculture, and logistics sectors.  The fund will provide between 25% and 75% of the capital of projects that must have a volume of at least 5 million dollars.

As opposed to a standard investment fund, a co-investment fund does not finance 100% of an investment project. This reduces the risk to the fund investors for two reasons. Firstly, the party providing the remaining percentage of capital also has to be convinced that the project is profitable – hence, there is a lower risk of the fund managers investing in a faulty project. Secondly, the other investors may sometimes be better acquainted with the project at hand. For example, there may be a company with substantial growth potential and some capital, yet not enough to carry out the necessary investments. The company may know its potential better than anybody else, and if it is willing to engage with at least 25% in the project, this indicates that it really believes in its potential.

UNINFORMED CRITICISM

Soon after the fund was presented, a plethora of criticism was expressed, some of which revealed startling economic ignorance.

Some politicians claimed that the new fund was not needed because the old government had already established the Partnership Fund in 2012. This is argument is mistaken, as the Co-Investment Fund and the Partnership Fund have little more in common than the word “Fund” in their names.

The Partnership Fund owns the Georgian Oil and Gas Corporation, the Electricity System Commercial Operator, the Georgian State Electro System, 25% of Telasi, and other government-owned shares. The Partnership Fund is entirely owned by the government, and so it is essentially a device of the Georgian government to organize its commercial activities.

Therefore, the claim that the Co-Investment Fund “plagiarized” from the Partnership Fund, as expressed in parliament, is pointless. Even if the web pages of both funds look similar, the Co-Investment Fund pursues an entirely different goal than the Partnership Fund. The first was set up to invest the money of its private owners and aims to generate private profits. The latter bundles the commercial economic activities of the government and thus serves public interests.

Other questions that came up in the media missed the point. For example, it was asked why the new fund was needed if the Partnership Fund already existed. The answer is that the two funds are economically completely different entities, and economically they are no substitutes for each other. Likewise, it was asked why the Co-Investment Fund was registered on the Cayman Islands, and why it had its particular objectives. The simple answer is that the owners of the fund decided to do so and that this decision was not illegal. Private business activities must be legal but do not need to comply with the expectations and opinions of the general public.

HOPES AND CONCERNS

Clearly, the new fund may fuel economic activities in sectors that are in dire need of capital, in particular projects that are considered to be too big or too risky by commercial banks. Georgian banks, often slammed for high lending interest rates and what is perceived to be excessive risk aversion, will be exposed to healthy competition.

As the initiator of the Co-Investment Fund happens to be the Prime Minister of Georgia, the only serious reservation one may have against this initiative is the conflict of interest that may arise if a leading politician is so heavily engaged in the economy of his country. Bidzina Ivanishvili announced to step down from his office soon, yet there is no question that he will remain an influential person in Georgian politics. This will give him substantial lobbying power that could be used for the projects in which the fund invests.

However, in economics, we learn that everything has a price. And also fresh capital does not come for free.